10-K 1 c67645_10-k.htm

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

þ Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended September 30, 2011.
Or
o Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from _______________ to ______________


Commission File Number 000-17122
FIRST FINANCIAL HOLDINGS, INC.

	(Exact name of Registrant as specified in its charter)


Delaware		57-0866076

(State or other jurisdiction of		I.R.S. Employer
Incorporation or organization		Identification No.)

2440 Mall Drive, Charleston, South Carolina		29406

(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (843) 529-5933

Securities registered pursuant to Section 12(b) of the Act:
Title of each class		Name of each exchange on which registered

Common Stock, par value $0.01 per share		The NASDAQGlobal Select Market

Securities registered pursuant to Section12(g) of the Act: none

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes o No þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.

Yes o No þ

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes þ No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and smaller reporting company” in Rule 12b-2 of the Exchange Act.


Large accelerated filer o	Accelerated filer þ	Non-accelerated filer o	Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Act).

Yes o No þ

The aggregate market value of the voting common stock held by non-affiliates of the registrant, based on the closing sale price of $11.31 as quoted on the NASDAQ Global Select Market on March 31, 2011, was $182,049,402. Solely for purposes of this computation, all officers, directors and 10% beneficial owners of the registrant are assumed to be affiliates. Such determination should not be deemed an admission that such officers, directors, and beneficial owners are, in fact, affiliates of the registrant.

The number of shares outstanding of the registrant’s common stock as of November 30, 2011 was 16,526,752.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of First Financial Holdings, Inc.’s Proxy Statement for its 2012 annual meeting of shareholders (the “Proxy Statement”) are incorporated by reference into Part III of this Annual Report on Form 10-K.

FIRST FINANCIAL HOLDINGS, INC.
2011 Annual Report on Form 10-K

TABLE OF CONTENTS


		Page

PART I
Item 1.	Business	3
Item 1A.	Risk Factors	11
Item 1B.	Unresolved Staff Comments	19
Item 2.	Properties	19
Item 3.	Legal Proceedings	19

PART II
Item 5.	Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	19
Item 6.	Selected Financial Data	21
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	23
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk	53
Item 8.	Financial Statements and Supplementary Data	54
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	106
Item 9A.	Controls and Procedures	106
Item 9B.	Other Information	107

PART III
Item 10.	Directors, Executive Officers and Corporate Governance	107
Item 11.	Executive Compensation	107
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	108
Item 13.	Certain Relationships and Related Transactions, and Director Independence	108
Item 14.	Principal Accounting Fees and Services	108

PART IV
Item 15.	Exhibits and Financial Statement Schedules	109

SIGNATURES		111

PART I

ITEM 1. BUSINESS

Special Note Regarding Forward Looking Statements

When used in this Annual Report on Form 10-K, statements in this report that are not statements of historical fact, including without limitation, statements that include terms such as “believes,” “expects,” “anticipates,” “estimates,” “forecasts,” “intends,” “plans,” “targets,” “potentially,” “probably,” “projects,” “outlook,” or similar expressions or future conditional verbs such as “may,” “will,” “should,” “would,” or “could” constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements regarding future financial and operating results, plans, objectives, expectations and intentions involve risks and uncertainties, many of which are beyond First Financial Holdings, Inc.’s (“First Financial”) control or are subject to change. No forward-looking statement is a guarantee of future performance and actual results could differ materially. Factors that could cause or contribute to such differences include, but are not limited to, the general business environment; general economic conditions nationally and in the States of North Carolina and South Carolina; interest rates; the North and South Carolina real estate markets; the demand for loans; the credit risk associated with lending activities, including changes in the level and trend of delinquent and nonperforming loans and charge-offs; changes in First Federal’s allowance for loan losses and provision for loan losses that may be affected by deterioration in the housing and real estate markets; results of examinations by banking regulators, including the possibility that any such regulatory authority may, among other things, require First Federal to increase its allowance for loan losses, writedown assets, change First Federal’s regulatory capital position or affect its ability to borrow funds or maintain or increase deposits, which could adversely affect liquidity and earnings; First Financial’s ability to control operating costs and expenses; First Financial’s ability to obtain regulatory approval for acquisitions or other regulatory applications; First Financial’s ability to successfully integrate any assets, liabilities, customers, systems, or management personnel acquired, or may in the future acquire, into its operations and its ability to realize related revenue synergies and cost savings within expected time frames and any goodwill charges related thereto; competitive conditions between banks and non-bank financial services providers; and regulatory changes including the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) and the other risks described as detailed from time to time in other filings with the Securities Exchange Commission (“SEC”), including those set forth under “Item 1A. Risk Factors,” elsewhere in this 2011 Annual Report on Form 10-K and subsequently filed Quarterly Reports on Form 10-Q. Other factors not currently anticipated may also materially and adversely affect First Financial’s results of operations, cash flows, and financial condition. There can be no assurance that future results will meet expectations. While First Financial believes that the forward-looking statements in this report are reasonable, the reader should not place undue reliance on any forward-looking statement. In addition, these statements speak only as of the date made. First Financial does not undertake, and expressly disclaims any obligation to update or alter any statements, whether as a result of new information, future events or otherwise, except as required by applicable law.

General

First Financial Holdings, Inc. (which may also be referred to in this document as “we,” “us,” or “our”) is a Delaware corporation which was incorporated in 1987, with the principal executive office located in Charleston, South Carolina. First Financial’s common stock is traded on the NASDAQ Global Select Market under the symbol “FFCH.” First Financial offers integrated financial solutions, including personal, business, and wealth management services. First Financial operates principally through its wholly-owned subsidiary, First Federal Savings and Loan Association of Charleston (“First Federal”), a federally chartered stock savings and loan association founded in 1934. First Federal provides residential, commercial and consumer loan products, consumer and business deposit products, ATM and debit cards, cash management services, safe deposit boxes, trust and fiduciary services, and reinsurance of private mortgage insurance and premium financing activities. Other subsidiaries of First Financial include First Southeast Investor Services, Inc. (“First Southeast Investors”), which is a registered broker-dealer and First Southeast 401(k) Fiduciaries, Inc. (“First Southeast 401(k)”), which provides retirement plan consulting and administrative services as a registered investment advisor (“RIA”).

Information as of September 30, 2011 for First Financial’s subsidiaries follows:





Subsidiary	Principal Office	Number of Offices		Total Assets (in millions)	Date Acquired/ Established

First Federal⁽¹⁾	Charleston, SC	65		$3,206.3	1934
First Southeast Investors	Charleston, SC	25	⁽²⁾	⁽³⁾	1998
First Southeast 401(k)	Charleston, SC		⁽⁴⁾	⁽⁴⁾	2010



⁽¹⁾	Consolidated totals include its non-financial institution subsidiaries. Total trust and 401(k) retirement assets under management were $421.7 million at September 30, 2011.
⁽²⁾	Includes offices located in a First Federal financial center.
⁽³⁾	Revenue for fiscal 2011 was $2.4 million and total assets under administration were $457.0 million at September 30, 2011.
⁽⁴⁾	Conducts business at a First Federal location providing services as an RIA with no designated assets under management and nominal assets or revenues.

Principal Sources of Revenue and Lines of Business

First Financial’s primary source of revenue is interest income on loans, interest and dividend payments from investment securities, and noninterest income, primarily service charges and fees on deposit accounts and mortgage and other loan income. The revenue tends to be influenced by overall economic factors, including market interest rates, business spending, and consumer confidence, as well as competitive conditions and residential and commercial real estate conditions within the local markets. Banking activities, which constitute First Financial’s only business segment, are provided by First Federal, the largest financial institution headquartered in the Charleston, South Carolina metropolitan area and the third largest financial institution headquartered in South Carolina, based on asset size.

Prior to June 30, 2011, First Financial had two principal operating segments, banking and insurance, which were evaluated regularly by management and First Financial’s Board of Directors in deciding how to allocate resources and assess performance. During fiscal 2011, First Financial sold its insurance agency subsidiary, First Southeast Insurance Services, Inc. (“First Southeast”) and its managing general insurance agency, Kimbrell Insurance Group, Inc. (“Kimbrell”), and their results of operations are now segregated from continuing operations and displayed as (loss) income from discontinued operations on a net basis. First Financial continues to monitor the revenue streams of its various financial products and services but now manages its operations and evaluates its financial performance on a consolidated basis. As of September 30, 2011, First Financial considers its former Banking and Other business segments to not be independent and determined that they are one operating segment.

Banking activities involve interest rate and credit risk, both of which are monitored against established policies. Additional information regarding interest rate risk and credit risk is incorporated herein by reference from “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies and Estimates, - Asset Quality, – Allowance for Loan Losses, and – Interest Rate Risk” as well as Notes 1, 3, and 4 to the Consolidated Financial Statements.

Significant Recent Developments

On October 26, 2011, First Financial announced it entered into a definitive agreement to sell certain performing loans and classified assets with an aggregate contractual principal balance of $197.9 million to affiliates of Värde Partners, Inc. On October 27, 2011, First Financial announced that it completed the sale of the bulk loan pool with an aggregate contractual principal balance of $194.8 million for a cash settlement that did not require First Financial to provide financing to facilitate the close. A second closing occurred on November 18, 2011 for eight other real estate owned (“OREO”) properties with contractual principal balances totaling $3.1 million. The second closing completed the disposition of the loans transferred to the held for sale loan pool at June 30, 2011. First Financial will record a gain on the sale of the bulk loan pool totaling approximately $20 million in the first quarter of fiscal 2012. The strategy was announced on July 18, 2011, when First Financial determined that it would reclassify $155.3 million (book value) of certain nonperforming and performing loans to loans held for sale, effective June 30, 2011, and that it was pursuing loan sale alternatives with the intent of disposing of these assets. The loans transferred to the bulk sale pool had an aggregate contractual principal balance of $202.2 million at June 30, 2011 and were written-down to an estimated fair value of $60.3 million at that time.

On September 30, 2011, First Financial completed the sale of its managing general insurance agency subsidiary, Kimbrell to Burns & Wilcox, Ltd., a Kaufman Financial Group company (“Burns & Wilcox”). Burns & Wilcox acquired substantially all of the assets of Kimbrell in exchange for cash. In addition, there is a provision for a potential earn-out payable over two years based on specific annual growth goals.

On May 26, 2011, First Financial entered into a definitive agreement with Hub International, LLC. (“Hub”) whereby Hub agreed to acquire all of the stock of First Southeast. On June 1, 2011, First Financial completed the stock sale in exchange for $38.0 million in cash. First Financial will receive no additional consideration from the sale of First Southeast.

Geographic Locations and Employees

At September 30, 2011, First Financial’s primary subsidiary, First Federal, operated through 65 financial centerslocated throughout coastal South Carolina as well as in the Florence, South Carolina and Wilmington, North Carolina markets. First Southeast Investors operated from 25 locations, of which 20 are located in First Federal financial centers, and the other offices are predominantly in the upstate region of South Carolina. In aggregate, First Financial subsidiaries employ 876 full-time equivalent employees. Full-time employees and certain part-time employees are eligible to participate in a comprehensive benefits program and are not represented by a collective bargaining agreement. First Financial considers its employee relations to be excellent.

Competition

The financial services industry is highly competitive. First Federal faces competition in attracting deposits and originating loans based upon a variety of factors including:


	•	interest rates offered on deposit accounts;
	•	interest rates charged on loans;
	•	credit and service charges;
	•	the quality of services rendered;
	•	the convenience of banking facilities and other delivery channels; and
	•	in the case of loans to large commercial borrowers, relative lending limits.

Direct competition for deposits and loans principally comes from commercial banks, community banks, credit unions, savings and loan associations, brokerage firms, insurance companies, finance companies, mortgage-banking companies and other financial institutions that may not have a physical presence in First Financial’s market areas but solicit business via the Internet and other means. The banking industry continues to consolidate, which presents opportunities for First Financial to gain new business. However, consolidation may further intensify competition if additional financial services companies enter the market areas. Asset size as well as a greater geographic footprint gives larger banks certain advantages in competing for business from large corporate customers. These advantages include higher lending limits and the ability to offer services in other areas of South Carolina and North Carolina. As a result, First Financial concentratesits efforts on small to medium-sized businesses and individuals. First Financial believesit competes effectively in this market segment by offering quality and personalized service.

Charter Conversion

In July 2011, First Federal filed an application with the South Carolina State Board of Financial Institutions (the “State Board”) to convert from a federal savings and loan association to a South Carolina chartered commercial bank. The decision to convert charters was made in light of statutory changes contained in the Dodd-Frank Act, which removed most of the advantages of a federal savings and loan charter. First Federal has received approval from the State Board, subject to First Financial converting from a savings and loan holding company to a bank holding company. As part of the charter conversion, First Financial will file an application in December 2011 with the Board of Governors of the Federal Reserve System.

Available Information

All of First Financial’s electronic filings with the SEC, including its Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and other documents filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, are accessible at no cost on First Financial’s web site, www.firstfinancialholdings.com. First Financial’s filings are also available through the SEC’s website at www.sec.gov. In addition, First Financial makes available its Corporate Governance Principles, its Corporate Code of Business Conduct and Ethics Policy, its Luxury Expenditure Policy, and the charters for the Nominating and Corporate Governance, Audit, Compensation Benefits and Executive Committees of the Board of Directors on its website. The information on First Financial’s website does not constitute a part of this report.

Regulation and Supervision

General

First Financial is a savings and loan holding company which, effective July 21, 2011, is required by federal law to report to, and otherwise comply with the rules and regulations of, the Board of Governors of the Federal Reserve System (“Federal Reserve”) as successor to the Office of Thrift Supervision (“OTS”). First Federal, is a federal savings and loan association which, effective July 21, 2011, is subject to the supervision of and regular inspection by the Office of the Comptroller of the Currency, (“OCC”) as successor to the OTS, and the Federal Deposit Insurance Corporation (“FDIC”), as its insurer of deposits. Both entities are subject to extensive regulation, examination and supervision by their respective banking regulators. First Federal must file periodic reports with the OCC and the FDIC concerning its activities and financial condition in addition to obtaining regulatory approvals prior to

entering into certain transactions such as mergers with, or acquisitions of, other financial institutions. In addition, effective March 31, 2012, First Financial will be required to file reports concerning holding company activities with the Federal Reserve.

The Federal Reserve, OCC, and FDIC conduct periodic examinations to test safety and soundness and compliance with various regulatory requirements. This regulation and supervision establishes a comprehensive framework of activities in which a federal savings association and a savings and loan holding company can engage and is intended primarily for the protection of the insurance fund and depositors. The regulatory structure also gives federal banking regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. The Federal Reserve and OCC have extensive enforcement authority including, among other things, the ability to assess civil money penalties; issue consent, cease-and-desist, or removal orders; and initiate injunctive actions. In general, these enforcement actions may be initiated for violations of laws and regulations, and unsafe or unsound practices. Other actions or inaction may provide the basis for enforcement action, including misleading or untimely reports filed with regulators. Public disclosure of final enforcement actions is required.

Federal law provides that savings institutions are generally subject to the national bank limit on loans to one borrower. A savings institution may not make a loan or extend credit to a single or related group of borrowers in excess of 15% of its unimpaired capital and surplus. An additional amount may be lent, equal to 10% of unimpaired capital and surplus, if secured by specified readily marketable collateral. At September 30, 2011, First Federal’s limit on loans to one borrower and the borrower’s related entities under applicable regulations was $47.4 million, and there were no borrowing relationships with outstanding balances in excess of this amount. Additionally, all savings institutions are required to pay assessments to the OCC, and prior to July 21, 2011 to the OTS, to fund operations of the agency. The general assessments, paid on a semi-annual basis, are determined based on the savings institution’s total assets, including consolidated subsidiaries, and other factors. First Federal’s annual regulatory assessment for the fiscal year ended September 30, 2011 was $603 thousand.

Dodd-Frank Act

On July 21, 2010, the Dodd-Frank Act was signed into law. The Dodd-Frank Act has resulted in dramatic changes across the financial regulatory system, some of which became effective immediately and some of which will not become effective until various future dates. Implementation of the Dodd-Frank Act will require many new rules to be made by federal banking regulatory agencies over the next several years. Uncertainty remains until final rule making is complete as to the ultimate impact of the Dodd-Frank Act, which could have a material adverse impact either on the financial services industry as a whole or on First Financial’s business, results of operations, and financial condition.

The following provisions have been implemented since the Dodd-Frank Act was enacted:


	•	On July 21, 2010 the $250,000 limit for federal deposit insurance was made permanent and in November 2010 unlimited federal deposit insurance for noninterest-bearing demand transaction accounts at all insured depository institutions was extended through December 31, 2012.
	•	In June 2011, Regulation Q was repealed, and beginning July 21, 2011 depository institutions are now permitted to pay interest on business demand deposits.
	•	On July 21, 2011, the responsibility for supervising federal savings associations, including First Federal, was transferred from the OTS to the OCC and supervision of all savings and loan holding companies, including First Financial, was transferred to the Federal Reserve.
	•	Effective with the June 30, 2011 measurement period, the assessment base for federal deposit insurance was changed from the amount of insured deposits to consolidated assets less tangible capital. Additionally, changes were made to the Deposit Insurance Fund (“DIF”) to increase the floor and eliminate the ceiling on the fund, which will generally require an increase in the level of assessments for institutions with assets in excess of $10 billion.
	•	The Electronic Fund Transfer Act (“EFTA”) was amended by the Durbin Amendmentto, among other things, give the Federal Reserve the authority to establish rules regarding interchange fees charged for electronic debit transactions by payment card issuers having assets over $10 billion and to enforce a new statutory requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer. The new caps on interchange fees were effective on October 1, 2011.

	The following provisions of the Dodd-Frank Act are still awaiting final implementation:

	•	Centralize responsibility for consumer financial protection by creating a new agency, the Bureau of Consumer Financial Protection, responsible for implementing, examining, and enforcing compliance with federal consumer financial laws.
	•	Create the Financial Stability Oversight Council that will recommend to the Federal Reserve increasingly strict rules for capital, leverage, liquidity, risk management and other requirements as companies grow in size and complexity.
	•	Provide mortgage reform provisions regarding a customer’s ability to repay, restricting variable-rate lending by requiring that the ability to repay variable-rate loans be determined by using the maximum rate that will apply during the first five years of a variable-rate loan term, and making more loans subject to provisions for higher cost loans, new disclosures, and certain other revisions.
	•	Implement corporate governance revisions, including with regard to executive compensation and proxy access by shareholders, which apply to all public companies, not just financial institutions.

Change in Control

Federal law generally prohibits a savings and loan holding company, without prior approval from its federal banking regulators, from acquiring control of another savings association or its subsidiary, or acquiring more than 10% of the voting stock of any other savings institution or savings and loan holding company or controlling the assets thereof. Regulations also prohibit, among other things, any director or officer of a savings and loan holding company, or any individual who owns or controls more than 25% of the voting shares of such holding company, from acquiring control of any savings institution not a subsidiary of such savings and loan holding company, unless the Federal Reserve approves the acquisition.

Activities Restrictions

First Financial and its non-savings institution subsidiaries are subject to statutory and regulatory restrictions on their business activities specified by federal regulations, which include performing services and holding properties used by a savings institution subsidiary, activities authorized for savings and loan holding companies as of March 5, 1987, and non-banking activities permissible for bank holding companies pursuant to the Bank Holding Company Act of 1956 or authorized for financial holding companies pursuant to the Gramm-Leach-Bliley Financial Services Modernization Act of 1999 (“Gramm-Leach Bliley”). If First Federal fails the qualified thrift lender test, First Financial may be required to register as a bank holding company and become subject to the significant activity restrictions and capital requirements applicable to bank holding companies (see “Qualified Thrift Lender Test” below).

Sarbanes-Oxley Act of 2002

The Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley) was signed into law on July 30, 2002 in response to public concerns regarding corporate accountability in connection with certain accounting scandals. The stated goals of Sarbanes-Oxley are to increase corporate responsibility, to provide for enhanced penalties for accounting and auditing improprieties at publicly traded companies and to protect investors by improving the accuracy and reliability of corporate disclosures pursuant to the securities laws. Sarbanes-Oxley generally applies to all companies, both U.S. and non-U.S., that file or are required to file periodic reports with the SEC, under the Securities Exchange Act of 1934, such as First Financial. Sarbanes-Oxley includes very specific additional disclosure requirements and new corporate governance rules. It requires the SEC and securities exchanges to adopt extensive additional disclosures, corporate governance and related rules and mandates. Sarbanes-Oxley represents significant federal involvement in matters traditionally left to state regulatory systems, such as the regulation of the accounting profession, and to state corporate law, the relationship between a board of directors and management and between a board of directors and its committees.

EESA and TARP

In response to the financial crises affecting the financial markets and the banking system, the Emergency Economic Stabilization Act of 2009 (“EESA”) was signed into law on October 3, 2008 and authorized the United States Department of Treasury (“Treasury”) to establish the Troubled Asset Relief Program (“TARP”). On October 14, 2008, the Treasury announced the establishment of the Capital Purchase Program (“CPP”) under TARP to encourage U.S. financial institutions to build capital to increase the flow of financing to U.S. businesses and consumers and to support the U.S. economy. Under the CPP, the Treasury made $250 billion of capital available to U.S. financial institutions in the form of senior preferred stock and warrants which qualify as Tier 1 capital. CPP participants are subject to a number of employee benefit and executive compensation provisions, some of which apply to employee benefit plans in general and others which impose restrictions on executive compensation. On December 5, 2008, pursuant to the Treasury’s TARP CPP, First Financial issued and sold $65.0 million of its Fixed Rate Cumulative Perpetual Preferred Stock, Series A (“Series A”) and a warrant to purchase shares of its common stock to the Treasury. See Note 12 to the Consolidated Financial Statements for additional information.

The Treasury has been given authority to promulgate regulations under EESA and any new regulations implemented by the Treasury under EESA may be applied retrospectively to recipients of TARP funding under the CPP. In addition, the U.S. government could in the future pass new legislation which may have a similar effect. In either case, any new regulations or legislation may have the effect of imposing additional economic restrictions or obligations on First Financial under the TARP CPP, at least for as long as any of First Financial’s obligations under the CPP remain outstanding.

FDIC Insurance Assessments

The FDIC imposes deposit insurance premiums and is authorized to conduct examinations of and to require reporting by FDIC-insured institutions, such as First Federal. It also may prohibit any FDIC-insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious risk to the insurance fund. The FDIC also has the authority to initiate enforcement actions against savings institutions and may terminate the deposit insurance of individual institutions if it determines that the institution engaged in unsafe or unsound practices or is in an unsafe or unsound condition. First Federal does not know of any practice, condition or violation that might lead to termination of its deposit insurance.

Deposit insurance premium assessments are based upon a classification system and are collected on a quarterly basis. The Dodd-Frank Act changed the prior assessment structure, which was based on insured domestic deposits, to one based on average consolidated total assets minus average tangible equity. The FDIC issued a final rule on February 7, 2011 that implemented this

change to the calculation but has said that the new assessment rate schedule should result in the collection of assessment revenue that is approximately revenue neutral, as the assessment rates have been lowered in consideration of the higher assessment base. The new assessment rates range from 2.5 basis points to 45 basis points and there is a separate insurance assessment for larger institutions (i.e., institutions with at least $10 billion in assets). At September 30, 2011, First Federal’s risk category assignment required a payment of nine cents per $100 of assessable capital.

Capital Adequacy and Prompt Corrective Action

The Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”) requires federal banking regulators to take prompt corrective action against any undercapitalized institution. FDICIA establishes five capital categories: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. Regulatory capital requirements for bank holding companies are evaluated using three capital measures: (i) leverage capital expressed as a percentage of total assets, (ii) risk-based capital expressed as a percentage of total risk-weighted assets, and (iii) Tier 1 risk-based capital expressed as a percentage of total risk-weighted assets. The following table presents the regulatory capital requirements for each of the five categories.




	Well Capitalized	Adequately Capitalized	Under Capitalized	Significantly Under Capitalized	Critically Under Capitalized

Total Capital to risk-weighted assets¹	>10%	>8%	<8%	<6%
Tier 1 Capital to risk-weighted assets¹	>6	>4	<4	<3
Tier 1 Leverage²	>5	>4	<4	<3
Tangible equity to total assets	N/A	N/A	N/A	N/A	<2%



	¹	Total Capital is comprised of Tier 1 Capital, a portion of the allowance for loan losses and qualifying subordinated debt. Tier 1 Capital is calculated as follows: total shareholders’ equity + trust preferred securities - goodwill - accumulated other comprehensive income (loss) - other intangible assets
	²	Tier 1 Capital to quarterly average assets

If the FDIC determines that an institution is in unsafe or unsound condition or that the institution has not corrected a less than satisfactory rating received in its last examination for asset quality, management, earnings or liquidity, an institution may be treated as if it were in the next lower capital category. A depository institution is generally prohibited from making capital distributions, including paying dividends, or paying management fees to a holding company if the institution would thereafter be undercapitalized. Institutions that are adequately but not well-capitalized cannot accept, renew or rollover brokered deposits except with a waiver from the FDIC and are subject to restrictions on the interest rates that can be paid on such deposits. Undercapitalized institutions may not accept, renew or rollover brokered deposits.

The federal banking regulatory agencies are permitted or, in certain cases, required to take certain actions with respect to institutions failing within one of the three undercapitalized categories. Depending on the level of an institution’s capital, the agencies’ corrective powers include, among other things:


	•	prohibiting the payment of principal and interest on subordinated debt;
	•	prohibiting the holding company from making distributions without prior regulatory approval;
	•	placing limits on asset growth and restrictions on activities;
	•	placing additional restrictions on transactions with affiliates;
	•	restricting the interest rate the institution may pay on deposits;
	•	prohibiting the institution from accepting deposits from correspondent banks; and
	•	in the most severe cases, appointing a conservator or receiver for the institution.

A banking institution that is in any of the three undercapitalized categories is required to submit a capital restriction plan, and such a plan will not be accepted unless, among other things, the banking institution’s holding company guarantees the plan up to a certain specified amount. Any such guarantee for a depository institution’s holding company is entitled to a priority of payment in bankruptcy.

FDICIA also contains a variety of other provisions that may affect First Federal’s operations, including reporting requirements, regulatory standards for real estate banking, “truth in savings” provisions, and the requirement that a depository institution give 90 days prior notice to customers and regulatory authorities before closing any branch.

At September 30, 2011 and 2010, First Federal’s regulatory capital ratios were above “well-capitalized” standards. In accordance with the provisions of Dodd-Frank, effective March 31, 2012, First Financial will be required to calculate and report risk-based capital levels. Information concerning current capital adequacy guidelines for First Federal and upcoming guidelines for First Financial including their regulatory capital position at September 30, 2011 and maintenance of minimum average reserve balances by First Federal with the Federal Reserve is incorporated herein by reference from “Item 7 – Management’s Discussion and

Analysis of Financial Condition and Results of Operations” under the caption “Liquidity and Capital Resources,” and Note 12 to the Consolidated Financial Statements.

Standards for Safety and Soundness

The federal banking regulatory agencies have prescribed, by regulation, guidelines for all insured depository institutions relating to: (i) internal controls, information systems and internal audit systems; (ii) loan documentation; (iii) credit underwriting; (iv) interest rate risk exposure; (v) asset growth; (vi) asset quality; (vii) earnings; and (viii) compensation, fees and benefits. The guidelines set forth safety and soundness standards that the federal banking agencies use to identify and address problems at insured depository institutions before capital becomes impaired. If the OCC determines that First Federal fails to meet any standard prescribed by the guidelines, the OCC may require First Federal to submit an acceptable plan to achieve compliance with the standard. The OCC regulations establish deadlines for the submission and review of such safety and soundness compliance plans. First Federal is not aware of any conditions relating to these safety and soundness standards that would require it to submit a plan of compliance to the OCC.

Qualified Thrift Lender Test

All savings institutions are required to meet a qualified thrift lender test to avoid certain restrictions on their operations. This test requires a savings institution to have at least 65% of its total assets, as defined by regulation, in qualified thrift investments on a rolling monthly average for nine out of every 12 months. As an alternative, the savings institution may maintain 60% of its assets in those assets specified in Section 7701(a)(19) of the Internal Revenue Code. Under either test, such assets primarily consist of residential housing-related loans and investments. A savings institution that fails to meet the qualified thrift lender test is subject to certain operating restrictions and may be required to convert to a bank charter. As of September 30, 2011, First Federal met the qualified thrift lender test.

Limitations on Capital Distribution

First Financial is a legal entity separate and distinct from First Federal, its financial institution subsidiary, and as such is not subject to regulatory restrictions on the payment of dividends. Funds for cash distributions from First Financial to its shareholders are derived primarily from dividends received by First Financial from First Federal. However, as a recipient of TARP funds, First Financial is limited to paying quarterly common stock dividend payments to a maximum of $0.255 per share unless a higher amount is approved by the Treasury and the Federal Reserve. This restriction will remain in effect until such time as the Treasury no longer holds its preferred shares.

First Federal is subject to various general regulatory policies and requirements relating to the payment of dividends. Any restrictions on the ability of First Federal to pay dividends will indirectly restrict the ability of First Financial to pay dividends. First Federal generally may make capital distributions during any calendar year in an amount up to 100% of net income for the year-to-date plus retained net income for the two preceding years, so long as it is well-capitalized after the distribution. If First Federal proposes to make a capital distribution when it does not meet the requirements to be adequately capitalized (or will not following the proposed capital distribution) or that will exceed these net income limitations, it must obtain OCC approval prior to making such distribution. The OCC may object to any distribution based on safety and soundness concerns.

Transactions with Related Parties

First Federal’s authority to engage in transactions with affiliates (i.e., any company that controls or is under common control with First Federal, including First Financial and its non-savings institution subsidiaries) is limited by federal law. The aggregate amount of covered transactions with any individual affiliate is limited to 10% of the capital and surplus of the savings institution. The aggregate amount of covered transactions with all affiliates is limited to 20% of a savings institution’s capital and surplus. Certain transactions with affiliates are required to be secured by collateral in an amount and of a type described in federal law. The purchase of low quality assets from affiliates is generally prohibited. The transactions with affiliates must be on terms and under circumstances that are at least as favorable to the institution as those prevailing at the time for comparable transactions with non-affiliated companies. In addition, savings institutions are prohibited from lending to any affiliate that is engaged in activities that are not permissible for bank holding companies, and no savings institution may purchase the securities of any affiliate other than a subsidiary.

Sarbanes-Oxley generally prohibits loans by public companies to their executive officers and directors. However, it contains a specific exception for loans by financial institutions, such as First Federal, to its executive officers and directors when made in compliance with federal banking laws. Under such laws, First Federal’s authority to extend credit to executive officers, directors, and 10% shareholders (“insiders”), as well as entities such persons control, is limited. The law limits both the individual and aggregate amount of loans First Federal may make to insiders based, in part, on First Federal’s capital position and requires certain board approval procedures to be followed. Such loans are required to be made on terms substantially the same as those offered to unaffiliated individuals and cannot involve more than the normal risk of repayment. There is an exception for loans made pursuant to a benefit or compensation program that is widely available to all employees of the institution and does not give preference to insiders over other employees.

Community Reinvestment Act

First Federal is subject to the Community Reinvestment Act (“CRA”). CRA and the regulations issued thereunder are intended to encourage financial institutions to help meet the credit needs of their service areas, including low and moderate income neighborhoods, consistent with the safe and sound operations of the financial institutions. These regulations also provide for regulatory assessment of an institution’s record in meeting the needs of its service area when considering applications to establish branches, merger applications, applications to engage in new activities and applications to acquire the assets and assume the liabilities of another institution. The Financial Institutions Reform, Recovery and Enforcement Act of 1989 requires federal banking agencies to make public a rating of an institution’s performance under the CRA. In the case of a holding company involved in a proposed transaction, the CRA performance records of the banks involved are reviewed by federal banking agencies in connection with the filing of an application to acquire ownership or control of shares or assets of a bank or thrift or to merge with any other bank holding company. An unsatisfactory record can substantially delay or block the transaction. First Federal has a CRA rating of Outstanding.

Consumer Laws and Regulations

In addition to the laws and regulations discussed herein, First Federal is also subject to certain consumer laws and regulations that are designed to protect consumers in transactions with banks. While the list set forth herein is not exhaustive, these laws and regulations include, the Truth in Lending Act, the Truth in Savings Act, the Electronic Funds Transfer Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act, the Fair Housing Act, the Fair Credit Reporting Act and the Real Estate Settlement Procedures Act, among others. These laws and regulations mandate certain disclosure requirements and regulate the manner in which financial institutions must deal with customers when taking deposits from, making loans to, or engaging in other types of transactions with, such customers.

Privacy Standards

Gramm-Leach-Bliley modernized the financial services industry by establishing a comprehensive framework to permit affiliations among commercial banks, insurance companies, securities firms and other financial service providers. First Federal is subject to federal regulations implementing the privacy protection provisions of this Act. These regulations require First Federal to disclose its privacy policy, including informing consumers of its information sharing practices and informing consumers of their rights to opt out of certain practices.

Anti-Money Laundering and Customer Identification

Congress enacted the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA Patriot Act”) on October 26, 2001 in response to the terrorist events of September 11, 2001. The USA Patriot Act gives the federal government powers to address terrorist threats through enhanced domestic security measures, expanded surveillance powers, increased information sharing, and broadened anti-money laundering requirements. In February 2010, Congress re-enacted certain expiring provisions of the USA Patriot Act.

Federal Home Loan Bank System

First Federal is a member of the Federal Home Loan Bank (“FHLB”) of Atlanta and Boston, which are two of twelve regional FHLBs that administer home financing credit for depository institutions. Each FHLB serves as a reserve or central bank for its members within its assigned region. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB System. It makes loans or advances to members in accordance with policies and procedures established by the Board of Directors of the FHLB, which are subject to the oversight of the Federal Housing Finance Board. All advances from the FHLB are required to be fully secured by sufficient collateral as determined by the FHLB. At September 30, 2011, First Federal had $558 million of outstanding advances from the FHLB under an available credit facility of $1.3 billion, which is limited to available collateral. First Federal had the capacity to borrow an additional $254.5 million from the FHLB of Atlanta based on its available collateral as of September 30, 2011 and maintaining a sufficient ownership interest in the FHLB of Atlanta.

As a FHLB member, First Federal is required to purchase and maintain stock in the FHLB of Atlanta and Boston. At September 30, 2011, First Federal had $35.8 million in FHLB of Atlanta and Boston stock, which was in compliance with this requirement. First Federal has received dividends on its FHLB stock and the average dividend yield for fiscal 2011and 2010 was 0.78% and 0.24%, respectively. There can be no guarantee of the payment of future dividends by the FHLB of Atlanta and Boston.

Federal Reserve System

The Federal Reserve regulations require savings institutions to maintain noninterest earning reserves against their transaction accounts (primarily NOW and regular checking accounts). The regulations generally provide that reserves be maintained against aggregate transaction accounts as follows: a 3% reserve ratio is assessed on net transaction accounts up to and including $71.0million; then a 10% reserve ratio is applied above $71.0 million. The first $11.5 million of otherwise reservable balances (subject to annual adjustments by the Federal Reserve) are exempted from the reserve requirements. First Federal complies with the foregoing requirements.

Other Regulatory Matters

First Financial and its subsidiaries are subject to numerous examinations by federal banking regulators, as well as the SEC, NASDAQ and various state securities regulators. First Financial and its subsidiaries have from time to time received requests for information from regulatory authorities in various states, including state attorneys general, securities regulators and other regulatory authorities, concerning their business practices. Such requests are considered incidental to the normal conduct of business.

Legislation is introduced from time to time in the U.S. Congress that may affect the operations of First Financial and First Federal. In addition, governing regulations may be amended from time to time by the respective regulators. Any such legislation or regulatory changes in the future could adversely affect both entities and they cannot predict whether any such changes may occur.

ITEM 1A. RISK FACTORS

An investment in our common stock involves certain risks. Before you invest in our common stock, you should be aware that there are various risks, including those described below, which could affect the value of your investment in the future. The trading price of our common stock could decline due to any of these risks, and you may lose all or part of your investment. The risk factors described in this section, as well as any cautionary language in this report, provide examples of risks, uncertainties and events that could have a material adverse effect on our business, including our operating results and financial condition. In addition to the risks and uncertainties described below, other risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially and adversely affect our business, financial condition, and results of operations. The value or market price of our common stock could decline due to any of these identified or other risks, and you could lose all or part of your investment.

A large portion of our loan portfolio is secured by residential and commercial real estate. Continued deterioration in residential and commercial real estate values could lead to additional losses, which may cause our net losses to increase and could have a negative impact on our capital and financial condition and results of operations.

At September 30, 2011, $1.9 billion or 80.2% of our loan portfolio was secured by residential and commercial real estate properties. This type of lending is generally sensitive to regional and local economic conditions that significantly impact the ability of borrowers to meet their loan payment obligations. The decline in residential and commercial real estate values due to the downturn in the housing market and weakness in the economy has reduced the value of the real estate collateral securing these loans and has increased the risk that we will incur losses if borrowers default on their loans.

We originate commercial real estate loans for various purposes which are secured by commercial properties. These loans typically involve higher principal amounts than other types of loans and, if non-owner occupied, repayment may be dependent upon income generated, or expected to be generated, by the property securing the loan in amounts sufficient to cover operating expenses and debt service, which may be adversely affected by changes in the economy or local market conditions. Commercial real estate loans may expose us to greater credit risk than loans secured by residential mortgages because the collateral securing these loans typically cannot be sold as easily as residential real estate. In addition, many of our commercial and multi-family real estate loans are not fully amortizing and contain large balloon payments upon maturity. Such balloon payments may require the borrower to either sell or refinance the underlying property in order to make the payment, which may increase the risk of default or non-payment. If we foreclose on a commercial real estate loan, our holding period for the collateral may be longer than for a residential mortgage loan because there may be fewer potential purchasers of the collateral. Accordingly, if we make any errors in judgment in the collectability of our commercial real estate loans, any resulting charge-offs may be larger on a per loan basis than those incurred with our residential or consumer loan portfolios. As of September 30, 2011, our commercial real estate loans totaled $471.3 million or 20.0% of our loan portfolio and approximately 39% of these loans are owner-occupied.

Construction and land loans totaled $139.6 million or 5.9% of our loan portfolio at September 30, 2011. Land loans include raw land, residential lot financing primarily for individuals, land acquisition and development loans and loans secured by land used for business purposes. Construction and land development loans are based on estimates of costs and value associated with the completed projects. Because of the uncertainties inherent in estimating construction costs, as well as the market value of the completed project and the effects of governmental regulation on real property, it is relatively difficult to accurately evaluate the total funds required to complete a project and the related loan-to-value (“LTV”) ratio. These loans typically involve higher principal amounts and repayment is substantially dependent on the success of the finished project as well as the ability of the borrower to sell or lease the property or obtain permanent take-out financing. If our estimate of the value of a project at completion proves to be overstated, we may have inadequate security for repayment of the loan and may incur a loss.

Residential loans with high LTV ratios are more sensitive to declining property values than those with lower combined LTV ratios and therefore may experience a higher incidence of default and severity of losses. On occasion, there have been residential first mortgages originated under specific lending programs that allow borrowers to obtain up to 100% of the appraised value and finance closing costs, resulting in an LTV at origination of 100% or greater. At September 30, 2011, we had $88.3 million of residential mortgage loans originated with LTVs of 100% or greater. We generally require private mortgage insurance in order to reduce our exposure on loans with LTVs greater than 80% at origination. Our exposure is also reduced for loans guaranteed under Veterans Administration or Federal Housing Administration programs. Residential mortgage loans with an original LTV of 100% or greater, which were not guaranteed or did not have private mortgage insurance, totaled $55.1million at September 30, 2011. There was an

additional $167.3 million of loans with original LTVs between 80% and 100%that were not guaranteed or did not have private mortgage insurance as of September 30, 2011.

At September 30, 2011, $369.2 million or 15.7% of our loan portfolio, consisted of home equity loans, and the risks associated with these loans, including the risk of higher rates of delinquency and defaults, will continue to increase if housing prices continue to decline. Certain borrowers currently having little or no equity remaining in their properties due to declining valuations. In addition, as of September 30, 2011, manufactured housing loans totaled $276.0 million or 11.7% of our loan portfolio. Manufactured housing lending involves additional risks as a result of higher LTVs usually associated with these types of loans. The values of manufactured homes decline over time and higher levels of inventories of repossessed and used manufactured homes may affect the values of collateral and result in higher charge-offs and provisions for loan losses.

Repayment of our commercial business loans is often dependent on the cash flows of the borrower, which may be unpredictable, and the collateral securing these loans may fluctuate in value.

Our commercial business loans are originated primarily based on the identified cash flow and general liquidity of the borrower and secondarily on the underlying collateral provided by the borrower and/or repayment capacity of any guarantor. The borrowers’ cash flow may be unpredictable, and collateral securing these loans may fluctuate in value. Although commercial business loans are often collateralized by equipment, inventory, accounts receivable, or other business assets, the liquidation of collateral in the event of default is often an insufficient source of repayment because accounts receivable may be uncollectible and inventories may be obsolete or of limited use. In addition, business assets may depreciate over time, may be difficult to appraise, and may fluctuate in value based on the success of the business. Accordingly, the repayment of commercial business loans depends primarily on the cash flow and credit worthiness of the borrower and secondarily on the underlying collateral value provided by the borrower and liquidity of the guarantor.

Our allowance for loan losses may not be sufficient to absorb losses in our loan portfolio. Additions to the allowance for loan losses may be required by increasing our provision for loan losses, which would cause our net income to decline and could have a negative impact on our capital and financial positions.

We maintain an allowance for loan losses, which is a reserve established through a provision for loan losses charged to expense, which we believe is appropriate to provide for probable losses inherent in our loan portfolio. The amount of this allowance is determined by our management through periodic reviews and consideration of several factors, including, but not limited to:


	•	our general reserve, based on our historical default and loss experience and certain macroeconomic factors based on management’s expectations of future events; and
	•	our specific reserve, based on our evaluation of impaired loans and their underlying collateral.

The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires us to make significant estimates of current credit risks and future trends, all of which may undergo material changes. Continuing deterioration in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of our control, may require an increase in the allowance for loan losses. In addition, regulatory agencies periodically review our allowance for loan losses and may require an increase in the provision for loan losses or the recognition of further loan charge-offs, based on judgments different than those of management. In addition, if charge-offs in future periods exceed the allowance for loan losses, we will need additional provisions to increase the allowance for loan losses. Any increases in the allowance for loan losses will result in a decrease in net income and, possibly, capital, and may have a material adverse effect on our financial condition and results of operations.

The value of real estate in our market area has been substantially affected by the current economic environment, increased levels of inventories of unsold homes, and higher foreclosure rates. As a result, property values have declined substantially and market appraisal assumptions continue to trend downward significantly. Slow housing conditions have affected some borrowers’ ability to sell completed development projects in a timely manner. If current trends in unemployment, housing and real estate market declines, and weaknesses in the economy continue, we may experience increases in delinquent loans, nonperforming assets, and credit losses. As a result, we may be required to record a higher provision for loan losses and to charge off additional loans in the future, which could materially adversely affect our financial condition and results of operations. If real estate values continue to decline, the collateral for our loans will provide less security. As a result, our ability to recover on defaulted loans by selling the underlying real estate will be diminished, and we will be more likely to suffer losses on defaulted loans.

The higher levels of delinquent and nonperforming loans and charge-offs resulted in increases in our provision for loan losses over the last three fiscal years. For fiscal 2011, the provision was $109.9 million, as compared with $125.2 million for fiscal 2010 and $66.9 million for fiscal 2009. If our allowance for loan losses is not adequate, we will be required to make further increases in our provision for loan losses and to charge-off additional loans, which could further adversely affect our results of operations. No assurance can be given that we will not sustain credit losses requiring additions to the provision for loan losses in excess of present levels

The recent negative developments in the financial industry, the domestic and international credit markets and the economy in general may continue to adversely impact our earnings and could increase our credit risk associated with our loan portfolios.

Negative developments that began in the latter half of 2007 and that have continued through 2011 in the global credit and securitization market shave resulted in unprecedented volatility and disruption in the financial markets and a general economic downturn. As a result of this “credit crunch,” commercial as well as consumer loan portfolio performances have shown deterioration at our bank and at many other institutions and the competition for deposits and quality loans has increased significantly. In addition, the values of real estate collateral supporting many commercial loans and home mortgages have declined and may continue to decline. Global securities markets, and financial institution and financial institution holding company stock prices in particular, have been negatively affected, as has the ability of financial institutions and their holding companies to raise capital or borrow in the debt markets. As a result, significant new federal laws and regulations relating to financial institutions, including, without limitation, EESA and TARP CPP, have been adopted. Furthermore, the potential exists for additional federal or state laws and regulations regarding, among other matters, lending and funding practices and liquidity standards, and bank regulatory agencies are expected to be active in responding to concerns and trends identified in examinations, including the expected issuance of many formal enforcement orders. Negative developments in the financial industry, the domestic and international credit markets, and the economy in general and the impact of new legislation in response to those developments, may negatively impact our operations by restricting our business operations, including our ability to originate or sell loans, and materially and adversely impact our results of operations and financial condition. We can provide no assurance regarding the manner in which any new laws and regulations will affect us.

Our business is predominately conducted throughout coastal South Carolina, as well as in the Florence, South Carolina and Wilmington, North Carolina markets; continuation of the economic downturn in our primary market area could negatively impact our results of operations and our financial condition.

Because of our geographic concentration in Charleston, Florence, Hilton Head, and Myrtle Beach, South Carolina and Wilmington, North Carolina, as well as other areas in the southeast, continuation of the economic downturn in these markets could make it more difficult to attract deposits and could cause higher rates of loss and delinquency on our loans than if the loans were more geographically diversified. Adverse economic conditions in our primary market areas, including, without limitation, declining real estate values, could cause our levels of nonperforming assets and loan losses to increase. If the economic downturn continues or a prolonged economic recession occurs in the economy as a whole, borrowers will be less likely to repay their loans as scheduled. A continued economic downturn could, therefore, result in losses that materially and adversely affect our business.

Our net interest income may decline based on the interest rate environment.

Our profitability is dependent on our net interest income. Differences in volume, yields or interest rates and differences in income earning products such as interest-earningassets and interest-bearing liabilities determine our net interest income. We are exposed to changes in general interest rate levels and other economic factors beyond our control. Different types of assets and liabilities may react differently, and at different times, to changes in market interest rates. We expect that we will periodically experience “gaps” in the interest rate sensitivities of our assets and liabilities. That means either our interest-bearing liabilities will be more sensitive to changes in market interest rates than our interest-earning assets, or vice versa. Net interest income may decline in a particular period if:


	•	In a declining interest rate environment, more interest-earning assets than interest-bearing liabilities re-price or mature, or

	•	In a rising interest rate environment, more interest-bearing liabilities than interest-earning assets re-price or mature.

Our net interest income may decline based on our exposure to a difference in short-term and long-term interest rates. If the difference between the interest rates shrinks or disappears, the difference between rates paid on deposits and received on loans could narrow significantly resulting in a decrease in net interest income. In addition to these factors, if market interest rates rise rapidly, interest rate adjustment caps may limit increases in the interest rates on adjustable rate loans, thus reducing our net interest income. Also, certain adjustable rate loans re-price based on lagging interest rate indices. This lagging effect may also negatively impact our net interest income when general interest rates continue to rise periodically.

We may not be able to adequately anticipate and respond to changes in market interest rates.

We may be unable to anticipate changes in market interest rates, which are affected by many factors beyond our control including but not limited to inflation, recession, unemployment, money supply, monetary policy, and other changes that affect financial markets both domestic and foreign. Our net interest income is affected not only by the level and direction of interest rates, but also by the shape of the yield curve and relationships between interest sensitive instruments and key driver rates, as well as balance sheet growth, customer loan and deposit preferences, and the timing of changes in these variables. In the event rates increase, our interest costs on liabilities may increase more rapidly than our income on interest earning assets, resulting in a deterioration of net interest margins. As such, fluctuations in interest rates could have significant adverse effects on our financial condition and results of operations.

In addition, our mortgage operations provide a portion of our noninterest income. We generate mortgage revenues primarily from gains on the sale of residential mortgage loans pursuant to programs currently offered by Fannie Mae, Ginnie Mae or Freddie Macand retain the servicing of sold loans. In a rising or higher interest rate environment, our originations of mortgage loans may decrease, resulting in fewer loans that are available to be sold to investors, which would decrease mortgage revenues in noninterest income. In addition, our results of operations are affected by the amount of noninterest expenses associated with mortgage activities, such as salaries and employee benefits, other loan expense, and other costs. During periods of reduced loan demand,

our results of operations may be adversely affected to the extent that we are unable to reduce expenses commensurate with the decline in loan originations.

Further economic downturns may adversely affect our investment securities portfolio and profitability.

During the fiscal year ended September 30, 2011, we recognized $879 thousand in other-than-temporary-impairment (“OTTI”) charges associated with our investment securities portfolio, which was down from $2.9 million for the year ended September 30, 2010. These OTTI charges were determined based on anticipated adverse changes to the projected cash flows for each of the underlying securities caused by, among other things constant default rates, severity of losses, geographic property value reductions, projected collateral losses, a change in historical prepayment speeds, and a deterioration in the current level of subordination. We closely monitor these and our other investment securities for changes in credit risk. The valuation of our investment securities and the determination of any OTTI with respect to such securities is highly complex and involves a comprehensive process, including quantitative modeling and significant judgment. The valuation of our investment securities will also continue to be influenced by external market and other factors, including implementation of SEC and and Financial Accounting Standards Board guidance on fair value accounting, and default rates for specific collateralized mortgage obligations (“CMOs”) and collateralized debt obligations (“CDOs”), rating agency actions, and the prices at which observable market transactions occur. The current market environment significantly limits our ability to mitigate our exposure to valuation changes in our CMOs and CDOs by selling them. Accordingly, if market conditions do not improve or deteriorate further and we determine our holdings of these or other investment securities have additional OTTI, our future earnings and shareholders’ equity could be adversely affected.

If we are unable to continue to attract or retain core deposits, to obtain third party borrowings on favorable terms, or to have access to interbank or other liquidity sources, our cost of funds will increase, adversely affecting our ability to generate funds necessary for lending operations, reducing net interest margin and negatively affecting results of operations.

We derive liquidity primarily through core deposit (checking, savings, and money market accounts) growth and through the maturity, sale, and cash flows from both investment securities and loans. Additionally, we have access to borrowing sources on an unsecured and a collateralized basis for both short-term and long-term purposes including, but not limited to, the Federal Home Loan Bank, the Federal Reserve, and other correspondent banks. If these funding sources are not sufficient or available, we may have to acquire funds through higher-cost sources and our liquidity position could be significantly constrained.

Although we currently have the ability to borrow funds on both a short-term and long-term basis as an additional source of liquidity, our ability to borrow funds at favorable rates may be negatively impacted if our ratings were downgraded from their current level, and could adversely affect our results of operations and financial condition.

Economic and other circumstances may require us to raise capital at times or in amounts that are unfavorable to us. If we have to issue shares of stock, they will dilute the percentage ownership interest of existing shareholders and may dilute the book value per share of our common stock and adversely affect the terms on which we may obtain additional capital.

We may need to incur additional debt or equity financing in the future to make strategic acquisitions or investments or to strengthen our capital position. Our ability to raise additional capital, if needed, will depend on, among other things, conditions in the capital markets at that time, which are outside of our control and our financial performance. We cannot provide assurance that such financing will be available to us on acceptable terms or at all, or if we do raise additional capital that it will not be dilutive to existing shareholders.

If we determine, for any reason, that we need to raise capital, subject to applicable NASDAQ rules, our board generally has the authority, without action by or vote of the shareholders, to issue all or part of any authorized but unissued shares of stock for any corporate purpose, including issuance of equity-based incentives under or outside of our equity compensation plans. Additionally, we are not restricted from issuing additional common stock or preferred stock, including any securities that are convertible into or exchangeable for, or that represent the right to receive, common stock or preferred stock or any substantially similar securities. The market price of our common stock could decline as a result of sales by us of a large number of shares of common stock or preferred stock or similar securities in the market or from the perception that such sales could occur. If we issue preferred stock that has a preference over the common stock with respect to the payment of dividends or upon liquidation, dissolution or winding-up, or if we issue preferred stock with voting rights that dilute the voting power of the common stock, the rights of holders of the common stock or the market price of our common stock could be adversely affected. Any issuance of additional shares of stock will dilute the percentage ownership interest of our shareholders and may dilute the book value per share of our common stock. Shares we issue in connection with any such offering will increase the total number of shares and may dilute the economic and voting ownership interest of our existing shareholders.

Our participation in the TARP CPP and other government regulations impose restrictions and obligations on us that limit our ability to pay or increase dividends, repurchase shares of preferred or common stock, and access the equity capital markets even if we desire to do so.

First Financial is an entity separate and distinct from its subsidiaries and derives substantially all of its revenue in the form of dividends from its subsidiaries. Accordingly, First Financial is and will be dependent on dividends from its subsidiaries to pay the principal of and interest on its indebtedness, to satisfy its other cash needs and to pay dividends on its common and preferred stock.

The subsidiaries’ abilities to pay dividends are subject to their ability to earn net income and, in the case of First Federal, to meet certain regulatory requirements. In the event the subsidiaries were unable to pay dividends to First Financial, in particular First Federal, First Financial may not be able to pay dividends on its common or preferred stock. Also, First Financial’s right to participate in a distribution of assets upon a subsidiary’s liquidation or reorganization is subject to the prior claims of the subsidiary’s creditors.

We entered into a securities purchase agreement with the Treasury in connection with the TARP CPP, which provides that prior to the earlier of (i) December 5, 2011 and (ii) the date on which all of the shares of the Series A Preferred Stock we issued to the Treasury have been redeemed by us or transferred by the Treasury to third parties, we may not, without the consent of the Treasury, (a) increase the cash dividend on our common stock to more than $0.255 per share or (b) redeem, repurchase or otherwise acquire shares of our common stock or preferred stock (other than the Series A Preferred Stock) or any trust preferred securities then outstanding (subject to limited exceptions). We also are unable to pay any dividends on our common stock unless we are current on our dividend payments to the Series A Preferred Stock. These restrictions, together with the potentially dilutive impact of the warrant we issued to the Treasury, could have a negative effect on the value of our common stock.

Holders of our common stock are entitled to receive dividends only when, as and if declared by our Board of Directors. Furthermore, holders of our common stock are subject to the prior dividend rights of any holders of our preferred stock at any time outstanding or depositary shares representing such preferred stock then outstanding. Although we have historically declared cash dividends on our common stock, we are not required to do so. In the future we may further reduce or eliminate our common stock dividend. This could adversely affect the market price of our common stock.

If we are unable or choose not to redeem our Series A Preferred Stock within five years from the issuance date, the cost of this capital to us will increase.

If we are unable to redeem our Series A Preferred Stock prior to February 15, 2014, or if we choose not to redeem the preferred stock at that time, the cost of this capital will increase on that date, from 5.0% per annum (approximately $3.3 million annually) to 9.0% per annum (approximately $5.9 million annually). Depending on our financial condition at the time, this increase in the annual dividend rate could have a material negative effect on our liquidity and our financial results.

We are subject to extensive regulation that could restrict our activities, have an adverse impact on our operations, and impose financial requirements or limitations on the conduct of our business.

Effective July 21, 2011, First Financial became subject to Federal Reserve regulation and First Federal, in addition to being regulated by the FDIC as insurer of its deposits, became subject to regulation, supervision, and examination by the OCC. Also, as a member of the FHLB, First Federal must comply with applicable regulations of the Federal Housing Finance Board and the FHLB. Regulation by these agencies is intended primarily for the protection of our depositors and the deposit insurance fund and not for the benefit of our shareholders. First Federal’s activities are also regulated under consumer protection laws applicable to our lending, deposit, and other activities. A sufficient claim against us under these laws could have a material adverse effect on our results ofoperations. In addition, we have non-bank operating subsidiaries from which we derive income. First Southeast Investors engages in providing investment management services, which is also heavily regulated at both a state and federal level.

Further, changes in laws, regulations and regulatory practices affecting the financial services industry could subject us to additional costs, limit the types of financial services and products we may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things. Failure to comply with laws, regulations or policies could also result in heightened regulatory scrutiny and in sanctions by regulatory agencies (such as a memorandum of understanding, a written supervisory agreement or a cease and desist order), civil money penalties and/or reputation damage. Any of these consequences could restrict our ability to expand our business or could require us to raise additional capital or sell assets on terms that are not advantageous to us or our shareholders and could have a material adverse effect on our business, financial condition and results of operations. While we have policies and procedures designed to prevent any such violations, such violations may occur despite our best efforts.

Financial reform legislation enacted by the U.S. Congress, and further changes in regulation to which we are exposed, will result in additional new laws and regulations that are expected to increase our costs of operations.

The Dodd-Frank Act has and will continue to significantly change bank regulatory structure and affect the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies. The Dodd-Frank Act requires various federal agencies to adopt a broad range of new rules and regulations, and to prepare numerous studies and reports for Congress. The federal agencies are given significant discretion in drafting the implementing rules and regulations, and consequently, many of the details and much of the impact of the Dodd-Frank Act may not be known for many months or years.

The Dodd-Frank Act also creates the Bureau of Consumer Financial Protection and gives it broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings institutions, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. Additionally, the Bureau of Consumer Financial Protection has examination and enforcement authority over all banks and savings institutions with more than $10 billion in assets.

Proposals for further regulation of the financial services industry are continually being introduced in the Congress of the United States of America. The agencies regulating the financial services industry also periodically adopt changes to their regulations. It is possible that additional legislative proposals may be adopted or regulatory changes may be made that would have an adverse effect on our business. In addition, it is expected that such regulatory changes will increase our operating and compliance cost. We can provide no assurance regarding the manner in which any new laws and regulations will affect us.

Competition with other financial institutions may have an adverse effect on our ability to retain and grow our client base, which could have a negative effect on our financial condition or results of operations.

The banking and financial services industry is very competitive and includes services offered from other banks, savings and loan associations, credit unions, mortgage companies, other lenders, and institutions offering uninsured investment alternatives. Legal and regulatory developments have made it easier for new and sometimes unregulated competitors to compete with us. The financial services industry has and is experiencing an ongoing trend towards consolidation in which fewer large national and regional banks and other financial institutions are replacing many smaller and more local banks. These larger banks and other financial institutions hold a large accumulation of assets and have significantly greater resources and a wider geographic presence or greater accessibility. In some instances, these larger entities operate without the traditional brick and mortar facilities that restrict geographic presence. Some competitors have more aggressive marketing campaigns and better brand recognition, and are able to offer more services, more favorable pricing or greater customer convenience than First Federal. In addition, competition has increased from new banks and other financial services providers that target our existing or potential customers. As consolidation continues among large banks, we expect other smaller institutions to try to compete in the markets we serve. This competition could reduce our net income by decreasing the number and size of the loans that we originate and the interest rates we charge on these loans. Additionally, these competitors may offer higher interest rates, which could decrease the deposits we attract or require us to increase rates to retain existing deposits or attract new deposits. Increased deposit competition could adversely affect our ability to generate the funds necessary for lending operations which could increase our cost of funds.

The financial services industry could become even more competitive as a result of legislative, regulatory and technological changes and continued consolidation. Banks, securities firms and insurance companies can merge as part of a financial holding company, which can offer virtually any type of financial service, including banking, securities underwriting, insurance (both agency and underwriting) and merchant banking. Technological developments have allowed competitors, including some non-depository institutions, to compete more effectively in local markets and have expanded the range of financial products, services and capital available to our target customers. If we are unable to implement, maintain and use such technologies effectively, we may not be able to offer products or achieve cost-efficiencies necessary to compete in the industry. In addition, some of these competitors have fewer regulatory constraints and lower cost structures.

We may be adversely affected by the soundness of other financial institutions.

Financial services institutions are interrelated as a result of trading, clearing, counterparty, or other relationships. We have exposure to many different industries and counterparties, and routinely execute transactions with counterparties in the financial services industry, including commercial banks, brokers and dealers, investment banks, and other institutional clients. Many of these transactions expose us to credit risk in the event of a default by a counterparty or client. In addition, our credit risk may be exacerbated when the collateral held by us cannot be realized or is liquidated at prices not sufficient to recover the full amount of the credit or derivative exposure due to us. Any such losses could have a material adverse effect on our financial condition and results of operations.

We depend on the accuracy and completeness of information about clients and counterparties.

In deciding whether to extend credit or enter into other transactions with clients and counterparties, we may rely on information furnished to us by or on behalf of clients and counterparties, including financial statements and other financial information. We also may rely on representations of clients and counterparties as to the accuracy and completeness of that information and, with respect to financial statements, on reports of independent auditors. For example, in deciding whether to extend credit to clients, we may assume that a customer’s audited financial statements conform to accounting principles generally accepted in the United States of America (“GAAP”) and present fairly, in all material respects, the financial condition, results of operations and cash flows of the customer. Our earnings are significantly affected by our ability to properly originate, underwrite and service loans. Our financial condition and results of operations could be negatively impacted to the extent we incorrectly assess the creditworthiness of our borrowers, fail to detect or respond to deterioration in asset quality in a timely manner, or rely on financial statements that do not comply with GAAP or are materially misleading.

The accuracy of our financial statements and related disclosures could be affected because we are exposed to conditions or assumptions different from the judgments, assumptions or estimates used in our critical accounting policies.

The preparation of financial statements and related disclosure in conformity with GAAP requires us to make judgments, assumptions, and estimates that affect the amounts reported in our consolidated financial statements and accompanying notes. Our critical accounting policies, included in this document, describe those significant accounting policies and methods used in the preparation of our consolidated financial statements that are considered “critical” by us because they require judgments, assumptions and estimates that materially impact our consolidated financial statements and related disclosures. As a result, if future

events differ significantly from the judgments, assumptions and estimates in our critical accounting policies, such events or assumptions could have a material impact on our audited consolidated financial statements and related disclosures.

Our potential inability to integrate companies we may acquire in the future could expose us to financial, execution, and operational risks that could negatively affect our financial condition and results of operations. Acquisitions may be dilutive to common shareholders and FDIC-assisted transactions have additional compliance risk that other acquisitions do not have.

On occasion, we may engage in a strategic acquisition when we believe there is an opportunity to strengthen and expand our business. In addition, such acquisitions may involve the issuance of stock, which may have a dilutive effect on earnings per share. To fully benefit from such acquisition, however, we must integrate the administrative, financial, sales, lending, collections, and marketing functions of the acquired company. If we are unable to successfully integrate an acquired company, we may not realize the benefits of the acquisition, and our financial results may be negatively affected. A completed acquisition may adversely affect our financial condition and results of operations, including our capital requirements and the accounting treatment of the acquisition. Completed acquisitions may also lead to exposure from potential asset quality issues, losses of key employees or customers, difficulty and expense of integrating operations and systems, and significant unexpected liabilities after the consummation of these acquisitions. In addition, if we were to conclude that the value of an acquired business had decreased and that the related goodwill had been impaired, that conclusion would result in a goodwill impairment charge, which would adversely affect our results of operations.

We may have opportunities to acquire the assets and liabilities of failed banks in FDIC-assisted transactions. Although these transactions typically provide for FDIC assistance to an acquirer to mitigate certain risks, such as sharing exposure to loan losses and providing indemnification against certain liabilities of the failed institution, we are (and would be in future transactions) subject to many of the same risks we would face in acquiring another bank in a negotiated transaction, including risks associated with maintaining customer relationships and failure to realize the anticipated acquisition benefits in the amounts and within the time frames we expect. In addition, ongoing compliance risk under the loss-share agreement with the FDIC is considerable and the event of noncompliance could result in coverage under the loss-share being disallowed, thus increasing the actual losses to First Federal. Our inability to overcome these risks could have a material adverse effect on our business, financial condition and results of operations.

Negative public opinion regarding our company and the financial institutions industry generally could damage our reputation and adversely impact our earnings.

Reputation risk, or the risk to our business, earnings and capital from negative public opinion regarding our company and the financial institutions industry generally, is in herentin our business. Negative public opinion can result from actual or alleged conduct in any number of activities, including lending practices, corporate governance and acquisitions, and from actions taken by government regulators and community organizations in response to those activities. Negative public opinion can adversely affect our ability to keep and attract clients and employees and can expose us to litigation and regulatory action. Although we have taken steps to minimize reputation risk in dealing with our clients and communities, this risk will always be present given the nature of our business.

We are exposed to a possible loss of our senior management team and key employees. If we were to lose key employees, we may experience a disruption in our relationship with certain customers.

We are dependent on the continued efforts and abilities of our key employees and our executive officers. Our success depends, in large part, on our ability to retain our current key employees and attract new skilled people. Competition for the best people in most of our business activities can be intense, and we may not be able to hire sufficiently skilled people or to retain them. The unexpected loss of services of one or more of our key personnel could have a material adverse impact on our business because of their skills, knowledge of our markets, years of industry experience, and the difficulty of promptly finding qualified replacement personnel. Many of our key employees have extensive customer relationships. Loss of a key employee with such customer relationships may lead to the loss of customers if they were to follow that employee to a competitor. Also, as we continue to grow operations, our success depends on our ability to continue to attract, manage, and retain qualified middle management personnel. While we believe that our relationship with our senior management team, other key employees, and key producers is good, we cannot guarantee that we will continue to attract or retain such personnel.

We are party to various lawsuits incidental to our business. Litigation is subject to many uncertainties such that the expenses and ultimate exposure with respect to many of these matters cannot be ascertained.

From time to time, customers and others make claims and take legal action pertaining to our performance of fiduciary responsibilities. Whether customer claims and legal action are legitimate or unfounded, if such claims and legal actions are not resolved in our favor they may result in significant financial liability and/or adversely affect the market perception of us and our products and services as well as impact customer demand for those products and services. Any financial liability or reputation damage could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.

Our business continuity plans or data security systems could prove to be inadequate, resulting in a material interruption in, or disruption to, our business and a negative impact on our results of operations.

We rely heavily on communications and information systems to conduct our business. Our daily operations depend on the operational effectiveness of their technology. We rely on our systems to accurately track and record our assets and liabilities. Any failure, interruption or breach in security of our computer systems or outside technology, due to severe weather, natural disasters, acts of war or terrorism, criminal activity or other factors, could result in failures or disruptions in general ledger, deposit, loan, customer relationship management, and other systems leading to inaccurate financial records. This could materially affect our business operations and financial condition. While we have disaster recovery and other policies and procedures designed to prevent or limit the effect of the failure, interruption or security breach of our information systems, there can be no assurance that any such failures, interruptions or security breaches will not occur or, if they do occur, that they will be adequately addressed. The occurrence of any failures, interruptions or security breaches of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability, any of which could have a material adverse effect on our results of operations.

Our controls and procedures may fail or be circumvented, which could have a material adverse effect on our business, result of operations and financial condition.

We regularly review and update our internal controls, disclosure controls and procedures, and corporate governance policies and procedures. Any system of controls, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. Any failure or circumvention of our controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on our business, results of operations and financial condition.

Our stock price may be volatile, which could result in losses to our investors and litigation against us.

Our stock price has been volatile in the past and several factors could cause the price to fluctuate substantially in the future. These factors include but are not limited to: actual or anticipated variations in earnings, changes in analysts’ recommendations or projections, our announcement of developments related to our businesses, operations and stock performance of other companies deemed to be peers, new technology used or services offered by traditional and non-traditional competitors, news reports of trends, irrational exuberance on the part of investors, new federal banking regulations, and other issues related to the financial services industry. Our stock price may fluctuate significantly in the future, and these fluctuations may be unrelated to our performance. General market declines or market volatility in the future, especially in the financial institutions sector, could adversely affect the price of our common stock, and the current market price may not be indicative of future market prices. Stock price volatility may make it more difficult for you to resell your common stock when you want and at prices you find attractive. Moreover, in the past, securities class action lawsuits have been instituted against some companies following periods of volatility in the market price of its securities. We could in the future be the target of similar litigation. Securities litigation could result in substantial costs and divert management’s attention and resources from our normal business.

Future sales of our stock by our shareholders or the perception that those sales could occur may cause our stock price to decline.

Although our common stock is listed for trading on The NASDAQ Global Select Market, the trading volume in our common stock is lower than that of other larger financial services companies. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of willing buyers and sellers of our common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which we have no control. Given the relatively low trading volume of our common stock, significant sales of our common stock in the public market, or the perception that those sales may occur, could cause the trading price of our common stock to decline or to be lower than it otherwise might be in the absence of those sales or perceptions.

Anti-takeover provisions could negatively impact our shareholders.

Provisions in our Certificate of Incorporation and Bylaws, the corporate law of the State of Delaware and federal regulations could delay, defer or prevent a third party from acquiring us, despite the possible benefit to our shareholders, or otherwise adversely affect the market price of our common stock. These provisions include: supermajority voting requirements for certain business combinations with any person who beneficially owns 15% or more of our outstanding common stock; the election of directors to staggered terms of three years; advance notice requirements for nominations for election to our Board of Directors and for proposing matters that shareholders may act on at shareholder meetings, a requirement that only directors may fill a vacancy on our Board of Directors, and supermajority voting requirements to remove any of our directors. Our Certificate of Incorporation also authorizes our Board of Directors to issue preferred stock, and preferred stock could be issued as a defensive measure in response to a takeover proposal. In addition, pursuant to federal banking regulations, as a general matter, no person or company, acting individually or in concert with others, may acquire more than 10% of our common stock without prior approval from the regulatory banking agencies.

These provisions may discourage potential takeover attempts, discourage bids for our common stock at a premium over market price or adversely affect the market price of, and the voting and other rights of the holders of, our common stock. These provisions

could also discourage proxy contests and make it more difficult for holders of our common stock to elect directors other than the candidates nominated by our Board of Directors.

ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

ITEM 2. PROPERTIES

First Financial’s corporate offices are located on Mall Drive, in Charleston, South Carolina. This site is also the location of the commercial banking, wealth management, operations and administrative groups for First Federal, as well as the main office for First Southeast Investors and First Southeast 401(k). At September 30, 2011, First Financial’s subsidiaries operated through locations primarily along coastal South Carolina, Florence, South Carolina, and Wilmington, North Carolina. In addition, the non-bank subsidiaries have leased locations in Columbia and the up state region of South Carolina. First Federal has 65 financial centers, of which 32 are owned, 15 are leased offices, and 18 are leased spaces inside a major retailer. In addition, First Federal leases properties for off-site ATMs and owns land for potential future branch locations. First Southeast Investors has 25 leased offices, of which 21 are located in a First Federal financial center. The owned locations do not have any major encumbrances and most of the leases have renewal or purchase options. At certain locations, a portion of the building is leased to unaffiliated tenants under long-term contracts. Additional information related to First Financial’s premises and equipment is incorporated herein by reference from Note 7 to the Consolidated Financial Statements.

ITEM 3. LEGAL PROCEEDINGS

From time to time, First Federal is subject to various legal proceedings and claims, which arise in the ordinary course of business. While the ultimate outcome of pending proceedings cannot be predicted with certainty, First Financial believes that final resolution of such litigation will not materially affect its consolidated financial position or results of operations. At such time that exposure is identified, it is First Financial’s policy to establish and accrue appropriate reserves during the accounting period in which a loss is deemed to be probable and the amount is determinable.

PART II

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

First Financial’s common stock is traded on the NASDAQ Global Select Market under the symbol “FFCH.” There were 5,701 shareholders of record and individual participants in security position listings as of September 30, 2011. The following table presents First Financial’s high and low stock prices and cash dividends paid per share during each quarter for the last two fiscal years.



	High		Low		Cash Dividend Declared

Fiscal 2011
Quarter ended December 31, 2010	$	12.74	$	9.63	$	0.050
Quarter ended March 31, 2011		13.19		9.62		0.050
Quarter ended June 30, 2011		11.65		8.45		0.050
Quarter ended September 30, 2011		9.63		3.74		0.050


Fiscal 2010
Quarter ended December 31, 2009	$	16.62	$	11.65	$	0.050
Quarter ended March 31, 2010		15.54		10.31		0.050
Quarter ended June 30, 2010		15.70		11.36		0.050
Quarter ended September 30, 2010		13.13		8.98		0.050

The timing and amount of cash dividends to be paid is determined by the Board of Directors and is dependent upon First Financial’s earnings, capital position, financial condition, and other relevant factors. As a recipient of funds from the Treasury’s TARP CPP, First Financial is restricted from repurchasing common stock, preferred stock, or trust preferred stock as well as paying quarterly common stock dividend payments in excess of $0.255 per share, the dividend in effect at the time First Financial received TARP CPP Funds, unless approved by Treasury and the Federal Reserve. This restriction will remain in effect until such time as

Treasury no longer holds its preferred shares. Other restrictions on First Financial’s ability to pay dividends are incorporated herein by reference from Note 12to the Consolidated Financial Statements.

Equity Compensation Plan Information

Equity compensation plan information is provided under Item 12 of this Report and is incorporated herein by reference.

Issuer Purchases of Equity Securities

First Financial did not repurchase any equity securities during the fiscal year ended September 30, 2011.

Stock Performance Graph

The following graph compares the five-year cumulative total return of First Financial’s common stock with the SNL Bank Index and the NASDAQ Bank Index. The SNL Bank Index is a market capitalization weighted index which includes all Major Exchange (NYSE, NYSE Amex, NASDAQ) banks in SNL’s coverage universe (over 350 banks but not First Financial). The NASDAQ Bank Index (symbol: IXBK) is a market capitalization weighted index which includes over 650 banks listed on NASDAQ (including First Financial). Both indices are designed to effectively represent the performance of the broad and diverse US banking industry. The presentation assumes that $100 was invested at the closing price on September 30, 2006 in First Financial’s common stock and in each index and that all dividends were reinvested. The returns shown are not necessarily indicative of future performance.

(LINE GRAPH)


	Period Ending

Index	9/30/2006		9/30/2007		9/30/2008		9/30/2009		9/30/2010		9/30/2011

First Financial Holdings Index		100.00		94.13		82.17		51.59		36.60		13.48
SNL Bank Index		100.00		97.36		71.02		49.77		45.19		35.68
NASDAQ Bank Index		100.00		94.59		78.41		56.18		56.05		48.11

Source: SNL Financial LC, Charlottesville, VA

ITEM 6. SELECTED FINANCIAL DATA

Discontinued Operations

As a result of First Financial’s sale of its insurance agency subsidiary, First Southeast Insurance, which was completed on June 1, 2011, and its managing general insurance agency subsidiary, Kimbrell, which was completed on September 30, 2011, the financial condition, operating results, and the gain or loss on the sales, net of transaction costs and taxes, for these subsidiaries have been segregated from the financial condition and operating results of First Financial’s continuing operations throughout this report on Form 10-K and, as such, are presented as discontinued operations. While all prior periods have been revised retrospectively to align with this treatment, these changes do not affect First Financial’s reported consolidated financial condition or operating results for any of the prior periods.

Non-GAAP Measures

In addition to results presented in accordance with GAAP, the summary of selected consolidated financial data table includes non-GAAP financial measures such as the tangible book value per common share, efficiency ratio, pre-tax pre-provision earnings, and tangible common equity to tangible assets ratio. First Financial believes these non-GAAP financial measures provide additional information that is useful to investors in understanding its underlying performance, business, and performance trends and such measures help facilitate performance comparisons with others in the banking industry. Non-GAAP measures have inherent limitations, are not required to be uniformly applied and are not audited. Although First Financial believes the above non-GAAP financial measures enhance investors’ understanding of First Financial’s business and performance, these non-GAAP measures should not be considered in isolation, or as a substitute for GAAP basis financial measures. Reconciliations of the non-GAAP measures are contained in “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Use of Non-GAAP Financial Measures” discussed below.




Five Year Summary of Selected Financial Data
	Years Ended September 30,

(dollars in thousands, except per share data)	2011			2010			2009			2008			2007

Summary of Operations
Interest income	$	160,284		$	180,869		$	188,767		$	174,736		$	167,948
Interest expense		42,269			54,322			66,479			83,036			85,173

Net interest income		118,015			126,547			122,288			91,700			82,775
Provision for loan losses		109,901			125,194			66,883			16,939			5,164

Net interest income after provision for loan losses		8,114			1,353			55,405			74,761			77,611
Noninterest income		47,495			45,947			34,722			40,567			33,562
Noninterest expense		116,902			112,577			94,514			84,045			75,903

(Loss) Income from continuing operations before income tax		(61,293	)		(65,277	)		(4,387	)		31,283			35,270
Income tax (benefit) expense from continuing operations		(23,672	)		(25,969	)		(2,243	)		12,165			13,527

(Loss) Income from continuing operations		(37,621	)		(39,308	)		(2,144	)		19,118			21,743
(Loss) income from discontinued operations, net of tax		(3,565	)		2,519			2,607			3,520			3,329
Extraordinary gain on acquisition, net of tax		---			---			28,857			---			---

Net (loss) income	$	(41,186	)	$	(36,789	)	$	29,320		$	22,638		$	25,072

Preferred stock dividends		3,250			3,252			2,663			---			---
Accretion on preferred stock		591			556			431			---			---

Net (loss) income available to common shareholders	$	(45,027	)	$	(40,597	)	$	26,226		$	22,638		$	25,072

Net (loss) income per common share:
Basic	$	(2.72	)	$	(2.46	)	$	2.24		$	1.94		$	2.10
Diluted		(2.72	)		(2.46	)		2.24			1.94			2.07
Market price, end of period		4.01			11.14			15.97			26.18			31.28
Book value per common share		12.31			15.32			18.03			15.69			15.96
Tangible book value per common share (non-GAAP)¹		12.16			13.02			15.64			12.59			14.02
Dividends		0.200			0.200			0.405			1.020			1.000
Shares outstanding, end of period		16,527			16,527			15,897			11,692			11,635
Balance Sheet Summary, at year end
Assets	$	3,206,310		$	3,323,015		$	3,510,287		$	2,973,994		$	2,711,370
Investment securities		469,561			473,372			561,296			412,479			352,640
Loans		2,355,280			2,564,348			2,661,742			2,348,527			2,149,893
Allowance for loan losses		54,333			86,871			68,473			23,990			15,428
Deposits		2,302,857			2,415,063			2,319,533			1,868,126			1,873,710
Borrowings		605,204			555,439			797,956			893,205			606,207
Shareholders’ equity		268,506			318,190			351,649			183,478			185,715
Balance Sheet Summary, average for the year
Assets	$	3,287,067		$	3,398,843		$	3,349,677		$	2,863,121		$	2,677,363
Investment securities		455,552			508,144			583,518			418,647			339,963
Loans		2,557,507			2,637,613			2,595,321			2,248,516			2,114,467
Allowance for loan losses		77,991			79,927			47,196			19,007			14,887
Deposits		2,375,258			2,387,636			2,133,515			1,867,705			1,868,908
Borrowings		571,875			642,351			901,720			773,672			566,459
Shareholders’ equity		300,705			339,072			266,265			186,219			187,113
Performance Metrics from Continuing Operations
Return on average assets		(1.15	)%		(1.16	)%		(0.06	)%		0.67	%		0.81	%
Return on average shareholders’ equity		(12.51	)		(11.59	)		(0.81	)		10.27			11.62
Net interest margin (FTE)²		3.84			3.95			3.83			3.41			3.36
Efficiency ratio (non-GAAP)¹		70.60			63.97			58.51			63.64			65.38
Pre-tax pre-provision earnings (non-GAAP)¹		48,608			59,917			62,496			48,222			40,434
Performance Metrics from Consolidated Operations
Return on average assets		(1.25	)%		(1.08	)%		0.01	%		0.79	%		0.94	%
Return on average shareholders’ equity		(13.70	)		(10.85	)		0.17			12.16			13.40
Capital Ratios
Equity to assets		8.37	%		9.58	%		7.95	%		6.50	%		6.99	%
Tangible common equity to tangible assets (non-GAAP)¹		6.27			6.55			7.16			5.01			6.07
Dividend payout ratio		(7.35	)		(8.13	)		18.08			52.58			47.62
Leverage capital ratio³		8.26			8.47			7.67			7.32			7.38
Tier 1 risk-based capital ratio³		11.26			11.27			9.77			9.75			9.75
Total risk-based capital ratio³		12.53			12.55			11.02			10.75			10.49



¹	See Item 7. Managements Discussion and Anaylsis of Financial Condition and Results of Operations - Use of Non-GAAP Financial Measures

²	Net interest margin includes taxable equivalent adjustments to interest income based on a federal tax rate of 35%.

³	Calculated for First Federal




Five Year Summary of Selected Financial Data (continued)
	Years Ended September 30,

(dollars in thousands, except per share data)	2011			2010			2009			2008			2007

Asset Quality Metrics
Allowance for loan losses as a percent of loans		2.31	%		3.39	%		2.57	%		1.02	%		0.72	%
Allowance for loan losses as a percent of nonperforming loans		126.64			61.54			85.00			116.27			251.43
Nonperforming loans as a percent of loans		1.82			5.50			3.03			0.88			0.29
Nonperforming assets as a percent of loans and other repossessed assets aquired		4.48			5.94			3.82			1.07			0.36
Nonperforming assets as a percent of total assets		3.38			4.61			2.92			0.84			0.28
Net loans charged-off as a percent of average loans		6.05			4.05			1.02			0.37			0.21
Net loans charged-off	$	142,439		$	106,796		$	26,532		$	8,377		$	4,417
Asset Quality Metrics Excluding Nonperforming Loans Held for Sale
Nonperforming assets excluding nonperforming loans held for sale as a percent of loans and other repossessed assets acquired		2.82	%		5.94	%		3.82	%		1.07	%		0.36	%
Nonperforming assets excluding nonperforming loans held for sale as a percent of total assets		2.10			4.61			2.92			0.84			0.28
Asset Quality Metrics Excluding Covered Loans
Allowance for loan losses as a percent of non-covered loans		2.47	%		3.66	%		2.83	%		1.02	%		0.72	%
Allowance for loan losses as a percent of non-covered nonperforming loans		227.09			66.15			85.58			116.27			251.43
Nonperforming loans as a percent of non-covered loans		1.09			5.54			3.31			0.88			0.29
Nonperforming assets as a percent of non-covered loans and other repossessed assets acquired		3.58			5.82			3.93			1.07			0.36
Nonperforming assets as a percent of total assets		2.52			4.16			2.72			0.84			0.28
Asset Quality Metrics Excluding Covered Loans and Nonperforming Loans Held for Sale

Nonperforming assets excluding nonperforming loans held for sale as a percent of non-covered loans and other repossessed assets acquired		1.79	%		5.82	%		3.93	%		1.07	%		0.36	%
Nonperforming assets excluding nonperforming loans held for sale as a percent of total assets		1.23			4.16			2.72			0.84			0.28

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following presents management’s discussion and analysis of First Financial’s financial condition and results of operations and should be read in conjunction with the accompanying Consolidated Financial Statements and Notes. The discussion highlights the principal factors affecting earnings (loss) for the fiscal years ended September 30, 2011, September 30, 2010, and September 30, 2009 and the significant changes in balance sheet items from September 30, 2010 to September 30, 2011 and is intended to help the reader understand, from management’s perspective, the Consolidated Financial Statements, Notes to Consolidated Financial Statements, and the accompanying tables, charts, and financial statistics appearing elsewhere in this report. Where applicable, this discussion also reflects management’s insights regarding known events and trends that have or may reasonably be expected to have a material effect on First Financial’s operations and financial condition.

Nature of First Financial’s Business

First Financial has two primary sources of revenue, net interest income and noninterest income. Net interest income is the difference between interest income, the income earned on loans and investments, and interest expense, the interest paid on deposits and borrowings. Noninterest income represents fees and other revenue from financial services provided to customers. The majority of noninterest income comes from service charges and fees on deposit accounts and mortgage and other loan income.

Use of Non-GAAP Financial Measures

In addition to results presented in accordance with U.S. generally accepted accounting principles (“GAAP”), this report includes non-GAAP financial measures such as the efficiency ratio, tangible common equity to tangible assets ratio, tangible common book value, and pre-tax, pre-provision earnings. First Financial believes these non-GAAP financial measures provide additional information that is useful to investors in understanding its underlying performance, business, and performance trends and such measures help facilitate performance comparisons with others in the banking industry. Non-GAAP measures have inherent limitations, are not required to be uniformly applied and are not audited. Readers should be aware of these limitations and should

be cautious to their use of such measures. To mitigate these limitations, First Financial has procedures in place to ensure that these measures are calculated using the appropriate GAAP or regulatory components in their entirety and to ensure that First Financial’s performance is properly reflected to facilitate consistent period-to-period comparisons. Although First Financial believes the above non-GAAP financial measures enhance investors’ understanding of its business and performance, these non-GAAP measures should not be considered in isolation, or as a substitute for GAAP basis financial measures.

The efficiency ratio measures the amount of revenue (defined as the sum of net interest income on a fully tax-equivalent basis and noninterest income) needed to cover noninterest expenses. In accordance with industry standards, the presentation of net interest margin on a taxable equivalent basis using a 35% effective federal tax rate allows comparability of net interest margin with industry peers by eliminating the effect of the differences in portfolios attributable to the proportion represented by both taxable and tax-exempt investment securities.

First Financial believes that the exclusion of goodwill and other intangible assets facilitates the comparison of results for ongoing business operations. The tangible common equity (“TCE”) ratio and tangible common book value (“TBV”) have become a focus of some investors, analysts and banking regulators. Management believes these measures may assist in analyzing First Financial’s capital position absent the effects of intangible assets and preferred stock. Because TCE and TBV are not formally defined by GAAP or codified in the federal banking regulations, these measures are considered to be non-GAAP financial measures. However, analysts and banking regulators may assess First Financial’s capital adequacy using TCE or TBV, therefore, management believes that it is useful to provide investors the ability to assess its capital adequacy on the same basis.

First Financial believes that pre-tax pre-provision earnings are a useful measure in assessing its core operating performance, particularly during times of economic stress. This measurement, as defined by management, represents total revenue (net interest income plus noninterest income) less noninterest expense. As recent results for the banking industry demonstrate, credit write downs, loan charge-offs, and related provisions for loan losses can vary significantly from period to period, making a measure that helps isolate the impact of credit costs on profitability important to investors.

The following table presents the calculation of these non-GAAP measures for the past five years.


FIRST FINANCIAL HOLDINGS, INC.
Non-GAAP Reconciliation (Unaudited)	For the Years Ended

(dollars in thousands, except per share data)	2011			2010			2009			2008			2007

Efficiency Ratio from Continuing Operations
Net interest income (A)	$	118,015		$	126,547		$	122,288		$	91,700		$	82,775
Taxable equivalent adjustment (B)		605			628			545			57			32
Noninterest income (C)		47,495			45,947			34,722			40,567			33,562
Net securities gains (losses) and impairment losses on investment securities(D)		540			(2,853	)		(3,993	)		264			266
Noninterest expense (F)		116,902			112,577			94,514			84,045			75,903
Efficiency ratio: F/(A+B+C-D) (non-GAAP)		70.60	%		63.97	%		58.51	%		63.64	%		65.38	%

Tangible Assets and Tangible Common Equity
Total assets	$	3,206,310		$	3,323,015		$	3,510,287		$	2,973,994		$	2,711,370
Goodwill¹		—			(28,260	)		(29,278	)		(27,892	)		(21,679	)
Other intangible assets, net²		(2,491	)		(9,754	)		(8,683	)		(8,349	)		(948	)

Tangible assets (non-GAAP)	$	3,203,819		$	3,285,001		$	3,472,326		$	2,937,753		$	2,688,743


Total shareholders’ equity	$	268,506		$	318,190		$	351,649		$	183,478		$	185,715
Preferred stock		(65,000	)		(65,000	)		(65,000	)		—			—
Goodwill¹		—			(28,260	)		(29,278	)		(27,892	)		(21,679	)
Other intangible assets, net²		(2,491	)		(9,754	)		(8,683	)		(8,349	)		(948	)

Tangible common equity (non-GAAP)	$	201,015		$	215,176		$	248,688		$	147,237		$	163,088


Shares outstanding, end of period (000s)		16,527			16,527			15,897			11,692			11,635

Tangible common equity to tangible assets (non-GAAP)		6.27	%		6.55	%		7.16	%		5.01	%		6.07	%
Tangible common book value per share (non-GAAP)	$	12.16		$	13.02		$	15.64		$	12.59		$	14.02

Pre-tax Pre-provision Earnings from Continuing Operations
(Loss) income before income taxes	$	(61,293	)	$	(65,277	)	$	(4,387	)	$	31,283		$	35,270
Provision for loan losses		109,901			125,194			66,883			16,939			5,164

Pre-tax pre-provision earnings (non-GAAP)	$	48,608		$	59,917		$	62,496		$	48,222		$	40,434


¹	Goodwill represents goodwill for Continuing Operations, as shown on the Consolidated Balance Sheets, and includes goodwill for Discontinued Operations of $0, $27,630, $27,395, $27,262, and $21,679 for the years ended September 30, 2011, 2010, 2009, 2008, and 2007, respectively.

²	Intangible assets represents intangible assets for Continuing Operations, as shown on the Consolidated Balance Sheets, and includes intangible assets for Discontinued Operations of $0, $6,938, $7,568, $8,304, and $948 for the years ended September 30, 2011, 2010, 2009, 2008, and 2007, respectively.

Critical Accounting Policies and Estimates

First Financial’s Consolidated Financial Statements are prepared in accordance with GAAP and follow general practices within the financial institutions industry. Application of these principles requires management to make estimates, assumptions, and complex judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements. Accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Actual results could differ significantly from these estimates. Certain policies inherently have a greater reliance on the use of estimates, assumptions, and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported. Estimates that are particularly susceptible to significant change include the determination of the allowance for loan losses, fair value measurements, and income taxes. First Financial believes that these estimates and the related policies discussed below are important to the portrayal of its financial condition and results of operations. Therefore, management considers them to be critical accounting policies and discusses them directly with the Audit Committee of the Board of Directors. First Financial’s accounting policies are more fully described in Note 1 to the Consolidated Financial Statements.

Allowance for Loan Losses

The allowance for loan losses represents First Federal’s estimate of probable losses inherent in the loan portfolio, the largest asset category on the Consolidated Balance Sheets. Determining the amount of the allowance for loan losses is considered a

critical accounting policy because it requires significant judgment and the evaluation of several factors: ongoing loan reviews, thecredit risk ratings of loans, consideration of First Federal’s loan loss experience, trends in delinquent and nonperforming loans, risk characteristics of the various classifications of loans, existing economic conditions, the fair value of underlying collateral, the size and diversity of individual large credits, and other qualitative and quantitative factors which could affect probable credit losses. Other considerations include the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on First Federal’s historical loss experience and additional qualitative adjustments for internal and external factors. Additionally, an allocation of reserves may be established for special situations that are unique to the measurement period with consideration of current economic trends and conditions. Because current economic conditions can change and future events are inherently difficult to predict, the anticipated amount of estimated loan losses, and therefore the adequacy of the allowance, could change significantly.

First Federal’s allowance for loan loss methodology is based on regulatory, GAAP, and SEC guidance. Portions of the allowance may be allocated for specific credits; however, the entire allowance is available for any credit that, in management’s judgment, should be charged off. While management utilizes its best judgment and information available, the ultimate adequacy of the allowance is dependent upon a variety of factors beyond its control, including the performance of the loan portfolio, the economy, changes in interest rates, and the view of the regulatory authorities toward loan classifications. See “- Allowance for Loan Losses” for further details of the risk factors considered by management in estimating the necessary level of the allowance for loan losses.

Continuous credit monitoring processes and the analysis of loss components are the principal methods relied upon by management to ensure that changes in estimated credit loss levels are reflected in the allowance for loan losses on a timely basis. First Federal utilizes regulatory guidance and its own experience in this analysis. In addition, federal banking regulatory agencies, as an integral part of their examination process, periodically review the allowance for loan losses and may require an increase in the allowance for loan losses through an increase in the provision for loan losses or the recognition of further loan charge-offs, based on judgments different than those of management.

Actual loss ratios experienced in the future may vary from those projected. In the event that management over estimates future cash flows or underestimates losses on loan pools, First Federal adjusts the allowance for loan losses through the provision for loan losses, which will impact results of operations in the period where the variance is identified. Management believes that the allowance for loan losses at each balance sheet date is adequate and appropriate in accordance with GAAP. See Notes 1 and 4to the Consolidated Financial Statements for additional information.

Fair Value Measurements

A number of valuation techniques are used to determine the fair value of assets and liabilities in First Financial’s Consolidated Financial Statements. These include quoted market prices for securities, interest rate swap valuations based on the modeling of termination values adjusted for credit spreads with counterparties, and appraisals of real estate from independent licensed appraisers, among other valuation techniques. Fair value measures for assets and liabilities where there exists limited or no observable market data are based primarily on estimates, and are often calculated based on the economic and competitive environment, the characteristics of the asset or liability, and other factors. Therefore, the results cannot be determined with precision and may not be realized in an actual sale or immediate settlement of the asset or liability. Additionally, there are inherent weaknesses in any calculation technique, and changes in the underlying assumptions used, including discount rates and estimates of future cash flows, could significantly affect the results of current or future values. Significant changes in the aggregate fair value of assets or liabilities required to be measured at fair value or for impairment will be recognized in the financial statements as appropriate. See Note 17 to the Consolidated Financial Statements for additional information.

Income Taxes

Income tax liabilities or assets are established for the amount of taxes payable or refundable for the current year. Deferred tax liabilities and assets are also established for the future tax consequences of events that have been recognized in First Financial’s Consolidated Financial Statements or tax returns. A deferred tax liability or asset is recognized for the estimated future tax effects attributable to temporary differences and deductions that can be carried forward (used) in future years. First Financial assesses whether a valuation allowance should be established against its deferred tax assets based on the consideration of all available evidence using a “more likely than not” standard. In making such judgments, significant weight is given to evidence that can be objectively verified. For example, a cumulative loss in recent years is significant negative evidence in considering whether deferred tax assets are realizable and also restricts the amount of evidence on projections of future taxable income to support the recovery of deferred tax assets.

The valuation of current and deferred tax liabilities and assets is considered critical as it requires management to make estimates based on enacted tax laws and other future events. The assessment of tax assets and liabilities involves the use of estimates, assumptions, interpretations, and judgments concerning certain accounting pronouncements and federal and state tax codes. There can be no assurance that future events, such as court decisions or positions of federal and state taxing authorities, will not differ from management’s current assessment, the impact of which could be significant to the consolidated results of operations and reported earnings. First Financial believes its tax assets and liabilities are adequate and are properly recorded in the Consolidated Financial Statements. See Note 13 to the Consolidated Financial Statements for additional information.

Recent Accounting Pronouncements

Notes 1 and 2 to the Consolidated Financial Statements discuss new accounting policies adopted by First Financial during fiscal 2011 and 2010 and the expected impact of accounting policies recently issued or proposed but not yet required to be adopted. To the extent the adoption of new accounting standards materially affects First Financial’s financial condition, results of operations, or liquidity, the impact is discussed elsewhere in “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.

Significant Developments Over the Last Three Years

On September 30, 2011, First Financial completed the sale of its managing general insurance agency subsidiary, Kimbrell to Burns & Wilcox, Ltd., a Kaufman Financial Group company (“Burns& Wilcox”). Burns & Wilcox acquired substantially all of the assets of Kimbrell in exchange for cash. In addition, there is a provision for a potential earn-out payable over two years based on specific annual growth goals.

On September 29, 2009, First Financial completed the sale of $65.0 million of its common stock in an underwritten public offering. After deducting underwriting discounts and commissions as well as other expenses associated with the offering, the net proceeds totaled $60.6 million. The underwriters exercised their over-allotment option in full in October 2009, which resulted in additional proceeds of $9.2 million, net of expenses.

On July 1, 2009, First Federal purchased American Pensions, Inc. (“American Pensions”), a retirement plan consulting, fiduciary and administration services provider located in Charleston, South Carolina. First Federal acquired approximately $310 thousand in cash, accounts receivable, prepaid and tangible assets and less than $100 thousand in liabilities. Additionally, $3.1 million in intangible assets resulted from the acquisition.

On April 10, 2009, First Federal acquired certain assets and assumed certain liabilities of Cape Fear Bank, a full service community bank that was formerly headquartered in Wilmington, North Carolina, in an FDIC-assisted acquisition (“Cape Fear Acquisition”). The acquisition consisted of assets with a fair value of $413.2 million and liabilities with a fair value of $384.3 million. In addition to the assets purchased and liabilities assumed, First Federal entered into a loss sharing agreement with the FDIC. Under the loss sharing agreement, First Federal will share in the losses on assets covered under the agreement (“covered assets”).

Results of Operations

First Financial recorded a net loss for the fiscal year ended September 30, 2011 of $(41.2) million compared with a net loss of $(36.8) million for the fiscal year ended September 30, 2010 and net income of $29.3 million for the year ended September 30, 2009.After the effect of the preferred stock dividend and related accretion, the net loss available to common shareholders was $(45.0) million for the fiscal year ended September 30, 2011 compared with $(40.6) million for the fiscal year ended September 30, 2010 and net income available to common shareholders of $26.2 million for the fiscal year ended September 30, 2009.Diluted net loss per common share was $(2.72) for fiscal 2011, compared with $(2.46) for fiscal 2010 and net income per common share of $2.24 for fiscal 2009. First Financial recorded a net loss from continuing operations of $(37.6) million for fiscal 2011, compared with $(39.3) million for fiscal 2010 and $(2.1) million for fiscal 2009. Diluted net loss per common share from continuing operations was $(2.51) for the current fiscal year compared with $(2.61) for fiscal 2010 and $(0.45) for fiscal 2009. Additionally, First Financial recorded an extraordinary item totaling $28.9 million in fiscal 2009 related to the Cape Fear Acquisition. The net loss from discontinued operations was $(3.6) million for fiscal 2011, as compared with net income of $2.5 million for fiscal 2010 and net income of $2.6 million for fiscal 2009. The net loss from discontinued operations for fiscal 2011 was primarily the result of tax expense totaling $5.3 million related to recognizing permanent tax differences at the time of selling First Southeast and Kimbrell, combined with sale-related expenses.

Net Interest Income

The following table presents an analysis of net interest income, interest spread and net interest margin with average balances and related weighted average interest rates.




Average Balances, Net Interest Income, Average Rates	For the Years Ended September 30,
	2011								2010								2009

(dollars in thousands)	Average Balance			Interest		Average Rate			Average Balance			Interest		Average Rate			Average Balance			Interest		Average Rate

Earning assets
Interest-bearing deposits with banks	$	11,931		$	20		0.17	%	$	6,938		$	12		0.17	%	$	9,385		$	29		0.31	%
Securities available for sale		393,580			17,265		4.39			440,048			23,238		5.28			525,652			29,470		5.61
Securities held to maturity¹		22,071			1,138		7.90			22,485			1,186		8.07			15,610			1,034		10.12
Nonmarketable securities - FHLB stock		39,901			311		0.78			45,611			111		0.24			42,256			184		0.44
Loans²		2,557,507			139,535		5.46			2,637,613			152,522		5.78			2,595,321			155,674		6.00
FDIC indemnification asset, net		63,292			2,015		3.18			65,245			3,800		5.82			18,460			2,376		12.87

Total earning assets		3,088,282			160,284		5.21	%		3,217,940			180,869		5.64	%		3,206,684			188,767		5.90	%

Nonearning assets
Cash and due from banks		63,660								58,170								61,456
Allowance for loan losses		(77,991	)							(79,927	)							(47,196	)
Other assets		186,769								159,515								83,461
Assets of discontinued operations		26,347								43,145								45,272

Total assets	$	3,287,067							$	3,398,843							$	3,349,677


Interest-bearing liabilities
Interest-bearing deposits
Interest-bearing checking	$	422,040		$	1,521		0.36	%	$	367,490		$	1,753		0.48	%	$	320,814		$	1,506		0.47	%
Savings and money market		503,365			1,997		0.40			501,528			3,682		0.73			464,203			4,940		1.06
Time deposits		1,210,008			22,213		1.84			1,297,186			27,349		2.11			1,146,874			34,448		3.00

Total interest-bearing deposits		2,135,413			25,731		1.20	%		2,166,204			32,784		1.51	%		1,931,891			40,894		2.12	%
Advances from FHLB		526,035			13,351		2.54			517,626			18,100		3.50			660,706			21,722		3.29
Long-term debt		45,840			3,187		6.95			124,725			3,438		2.76			241,014			3,863		1.60

Total interest-bearing liabilities		2,707,288			42,269		1.56	%		2,808,555			54,322		1.93	%		2,833,611			66,479		2.35	%


Noninterest-bearing liabilities
Noninterest-bearing checking		239,845								221,432								201,624
Other liabilities		34,831								24,133								41,074
Liabilities of discontinued operations		4,398								5,651								7,103

Total liabilities		2,986,362								3,059,771								3,083,412
Shareholders’ equity		300,705								339,072								266,265

Total liabilities and shareholders’ equity	$	3,287,067							$	3,398,843							$	3,349,677

Net interest income/interest spread				$	118,015		3.65	%				$	126,547		3.71	%				$	122,288		3.56	%

Contribution of noninterest bearing sources of funds³							0.19								0.24								0.27

Net interest margin (FTE)⁴							3.84	%							3.95	%							3.83	%


¹	Interest income used in the average rate calculation includes the tax equivalent adjustment of $605 thousand, $628 thousand, and $545 thousand for the years ended September 30, 2011, 2010 and 2009, respectively, calculated based on a federal tax rate of 35%.

²	Average loans include loans held for sale and nonaccrual loans. Loan fees, which are not material for any of the periods, have been included in loan interest income for the rate calculation.

³	Equates to total cost of funds of 1.43%, 1.79% and 2.19% for the years ended September 30, 2011, 2010 and 2009, respectively.

⁴	Net interest margin exceeds the interest spread due to noninterest-bearing funding sources supporting earning assets.

The decrease in net interest margin for fiscal 2011 as compared with fiscal 2010 was primarily the result of the decline in portfolio rates on earning assets exceeding the decline in the average rate paid on deposits. The increase in net interest margin for fiscal 2010 as compared with fiscal 2009 was primarily the result of higher average earning assets due to the full-year effect of the Cape Fear Acquisition, accretion of the purchase accounting fair-value adjustments, and deposits repricing lower and faster than loans and investments.

The following table presents changes in interest income, interest expense and net interest income due to volume and rate variances for major categories of earning assets and interest-bearing liabilities.




	Year Ended September 30, 2011 versus 2010 Increase (Decrease) Due to									Year Ended September 30, 2010 versus 2009 Increase (Decrease) Due to

(in thousands)	Volume			Rate			Net			Volume			Rate			Net

Interest income
Interest-bearing deposits with banks	$	8		$	---		$	8		$	(6	)	$	(11	)	$	(17	)
Securities available for sale		(2,294	)		(3,679	)		(5,973	)		(4,594	)		(1,638	)		(6,232	)
Securities held to maturity		(22	)		(26	)		(48	)		392			(240	)		152
Nonmarketable securities - FHLB stock		(16	)		216			200			14			(87	)		(73	)
Loans		(4,541	)		(8,446	)		(12,987	)		2,508			(5,660	)		(3,152	)
FDIC indemnification asset, net		(111	)		(1,674	)		(1,785	)		3,311			(1,887	)		1,424

Total interest income	$	(6,976	)	$	(13,609	)	$	(20,585	)	$	1,625		$	(9,523	)	$	(7,898	)

Interest expense
Interest-bearing deposits
Interest-bearing checking	$	236		$	(468	)	$	(232	)	$	222		$	25		$	247
Savings and money market		13			(1,698	)		(1,685	)		372			(1,630	)		(1,258	)
Time deposits		(1,757	)		(3,379	)		(5,136	)		4,104			(11,203	)		(7,099	)

Total interest-bearing deposits		(1,508	)		(5,545	)		(7,053	)		4,698			(12,808	)		(8,110	)
Advances from FHLB, and long-term debt		(2,856	)		(2,144	)		(5,000	)		(7,337	)		3,290			(4,047	)

Total interest expense		(4,364	)		(7,689	)		(12,053	)		(2,639	)		(9,518	)		(12,157	)

Net interest income	$	(2,612	)	$	(5,920	)	$	(8,532	)	$	4,264		$	(5	)	$	4,259



Note: The change in interest not solely due to changes in volume or rates has been allocated in proportion to the absolute dollar amounts of the change in each.

Fiscal 2011 compared with Fiscal 2010

The decrease in net interest income reflects variance volumes that were negative in the aggregate as well as rate variances that were negative in the aggregate. The volume variance was primarily a result of a decline in loan balances due to recording loans to be sold in the bulk loan sale to their estimated fair value when they were reclassified to loans held for sale; combined with the decline in net loans due to the generally lower loan demand from creditworthy borrowers, loan charge-offs, and transfers to OREO. In addition, cash flows from investment securities were used during the year to fund maturing deposits or paydown borrowings rather than being fully reinvested. The rate variance was primarily the result of the continued low interest rate environment, as cash flows from loans and maturing investment securities were at considerably higher rates than new originations and purchases. The negative rate variance on loans was also impacted by the sustained elevated levels of nonperforming loans during fiscal 2011 prior to the reclassification to loans held for sale, as compared with a gradual increase in nonperforming loans during fiscal 2010. These decreases were partially offset by a reduction in deposit interest expense as First Financial continues to reprice deposits as market competition will support.

Fiscal 2010 compared with Fiscal 2009

The increase in net interest income reflects volume variances that were favorable in the aggregate, partially offset by rate variances that were slightly unfavorable in the aggregate. The volume variance was primarily the result of the full-year effect of the Cape Fear Acquisition. This increase was partially offset by lower balances on securities available for sale as a result of not reinvesting proceeds received from maturities and using portfolio cash flow to reduce short-term borrowings. Higher interest-bearing deposit levels increased interest expense, which was more than offset by lower average advances from the Federal Home Loan Bank (“FHLB”) advances and long-term debt. The rate variance was fairly neutral as both assets and liabilities repriced down as a result of the significant market interest rate declines throughout fiscal 2010. Rate reductions on deposit accounts more than offset the higher rates on borrowings due, in part, to the short-term nature of the majority of the deposits while certain advances from the FHLB were extended for asset/liability planning purposes.

Provision for Loan Losses

After determining what First Financial believes is an adequate allowance for loan losses based on the risk inherent in the loan portfolio, the provision for loan losses is calculated as a result of the net effect of the change in the allowance for loan losses and net charge-offs. The provision for loan losses totaled $109.9 million for fiscal year 2011, compared with $125.2 million for fiscal 2010, and $66.9 million in fiscal 2009. The decrease from fiscal 2010 was primarily the result of an improvement in credit quality measurements, including the level of nonperforming and classified loans during the current year, as well as a reduction in the risk

inherent in the portfolio following the reclassification of certain performing and nonperforming loans to held for sale during fiscal 2011. The reclassification resulted in charge-offs of $97.2 million during fiscal 2011 and a $30.1 million reduction in the allowance for loan losses at September 30, 2011 as compared with September 30, 2010 due to measuring those loans at estimated fair value and reclassifying them to loans held for sale, which excluded them from the allowance for loan losses calculation in future periods. The provision for fiscal 2011 included $67.1 million related to the reclassification of loans held for sale and $42.8 million as a result of First Federal’s normal credit practices. The increase in fiscal 2010 over fiscal 2009 was primarily the result of higher classified and nonperforming loan levels and higher net charge-offs, which increased the historical loss rates and affected the qualitative factors used to calculate the allowance for loan losses. Net charge-offs increased primarily as a result of economic conditions in the markets First Financial serves as well as declines in property values on collateral supporting commercial and residential real estate loans. See “– Allowance for Loan Losses” for additional discussion regarding the calculation of the allowance for loan losses and information related to loan charge-offs.

Noninterest Income

The following table summarizes the components of noninterest income for the last three fiscal years.




Noninterest income
	Years Ended September 30,									2011-2010 Change						2010-2009 Change

(dollars in thousands)	2011			2010			2009			$			%			$		%

Service charges on deposit accounts	$	26,837		$	25,574		$	24,407		$	1,263			4.9	%	$	1,167		4.8	%

Mortgage and other loan income		10,460			11,436			8,261			(976	)		(8.5	%)		3,175		38.4	%
Trust and plan administration		4,738			4,414			1,841			324			7.3	%		2,573		139.8	%
Brokerage fees		2,425			2,281			2,028			144			6.3	%		253		12.5	%

Other		2,495			5,095			2,178			(2,600	)		(51.0	%)		2,917		133.9	%
Net securities gains		1,419			---			---			1,419			NM			---		NM
Net impairment losses recognized in earnings		(879	)		(2,853	)		(3,993	)		1,974			(69.2	%)		1,140		(28.5	%)

Total noninterest income	$	47,495		$	45,947		$	34,722		$	1,548			3.4	%	$	11,225		32.3	%

Fiscal 2011 compared with Fiscal 2010

The increase in noninterest income was primarily the result of lower credit-related other-than-temporary-impairment (“OTTI”) losses on investments recognized in earnings during fiscal 2011, a gain on the sale of investment securities, and higher service charges on deposit accounts, partially offset by lower other income as well as mortgage and other loan income. The securities gain was due to the sale of one security in the second fiscal quarter of 2011, which had previously been written-off through OTTI. The increase in service charges on deposit accounts was due to higher transaction-related revenue resulting from increases in transaction volume as well as transaction fees. The decrease in other income was primarily the result of two transactions which occurred in fiscal 2010: a $1.5 million settlement with the FDIC related to the 2009 Cape Fear Acquisition and a $1.4 million gain on the donation of a branch location. The decrease in mortgage and other loan income was primarily the result of a unfavorable hedge adjustments on mortgage servicing rights and the mortgage pipeline hedges due to a decrease in the spread between the rates on U.S. Treasuries and long-term mortgage rates and lower late fees due to the overall stabilization in nonperforming loan trends, partially offset by $1.9 million in gains on the resolution of some loans in the bulk sale pool prior to the final disposition of the pool.

Fiscal 2010 compared with Fiscal 2009

All noninterest income categories increased as a result of the full-year effect of the Cape Fear Acquisition in April 2009 and the purchase of American Pensions in July 2009. In addition, the increase in service charges on deposit accounts was due to additional interchange revenue of $1.8 million related to higher customer ATM and debit transaction volumes, partially offset by lower penalty charges for insufficient funds and overdrafts of $679 thousand due to customers holding higher deposit balances. The increase in mortgage and other loan income was primarily the result of higher residential mortgage origination volume in fiscal 2010, of which over 50% was sold in the secondary market. Mortgage activities, which include gains on sales, servicing fees, and hedging activities, accounted for $2.8 million of the increase while additional loan late fees and other loan income resulting from higher volumes. Trust and plan administration revenue increased primarily as a result of the full-year effect of the American Pensions acquisition, which occurred in July 2009. The increase in brokerage fees was primarily the result of new accounts related to expansion of the wealth management department, and some improvements in consumer confidence regarding investment alternatives translating to higher trading volumes. Other noninterest income increased primarily due to a $1.4 million gain on the donation of a branch location during the year as well as the receipt of $1.5 million from the FDIC for the final settlement on Cape Fear. Net impairment losses decreased primarily due to lower OTTI on investment securities.

Noninterest Expense

The following table summarizes the components of noninterest expense for the last three fiscal years.



Noninterest expense
	Years Ended September 30,						2011-2010 Change					2010-2009 Change

(dollars in thousands)		2011		2010		2009		$		%			$		%

Salaries and employee benefits	$	62,921	$	58,425	$	50,160	$	4,496		7.7	%	$	8,265		16.5	%
Occupancy costs		8,570		8,514		7,638		56		0.7	%		876		11.5	%
Furniture and equipment		7,044		7,739		7,182		(695	)	(9.0	%)		557		7.8	%
Other real estate expenses, net		4,909		6,751		2,568		(1,842	)	(27.3	%)		4,183		162.9	%
FDIC insurance and regulatory fees		4,090		4,672		5,787		(582	)	(12.5	%)		(1,115	)	(19.3	%)
Professional services		5,483		4,118		3,652		1,365		33.1	%		466		12.8	%
Advertising and marketing		3,233		3,097		2,676		136		4.4	%		421		15.7	%
Other loan expense		3,916		2,049		1,586		1,867		91.1	%		463		29.2	%
Goodwill impairment		630		---		---		630		NM			---		NM
Intangible asset amortization		325		327		25		(2	)	(0.6	%)		302		1208.0	%
Other expense		15,781		16,885		13,240		(1,104	)	(6.5	%)		3,645		27.5	%

Total noninterest expense	$	116,902	$	112,577	$	94,514	$	4,325		3.8	%	$	18,063		19.1	%

Fiscal 2011 compared with Fiscal 2010

The increase was primarily the result of higher salaries and benefits, other loan expense, higher professional services, and the goodwill impairment charge, partially offset by lower OREO, net, other expense, furniture and equipment expense, as well as FDIC insurance and regulatory fees. The increase in salaries and benefits was primarily the result of new hires throughout fiscal 2010, combined with $1.8 million recorded for separation agreements entered into in the second fiscal quarter of 2011. The increase in other loan expense was primarily the result of higher levels of foreclosure related expenses. The increase in professional services was primarily the result of $521 thousand in legal and other advisory services related to preparing the loans held for bulk sale pool for final disposition, as well as utilizing outside resources related to loss-share management, and the implementation of several strategic initiatives. The goodwill impairment charge was related to First Financial’s insurance premium financing operations. The decrease in OREO expenses, net was primarily the result of a $1.3 million reduction in the second fiscal quarter of 2011 due to the receipt of OREO valuation loss claims and recoverable expenses on covered OREO from the Cape Fear Acquisition, as well as lower fair value writedowns on OREO properties in the current fiscal year. The decrease in other expense was primarily the result of a $1.2 million contribution in conjunction with the donation of a branch location recorded during the first fiscal quarter of 2010. The decrease in furniture and equipment expense was primarily the result of the elimination of certain contracted services. The decrease in FDIC insurance and regulatory fees was primarily the result of the new assessment methodology implemented by the FDIC, which was effective July 1, 2011.

Fiscal 2010 compared with Fiscal 2009

All noninterest expense categories, with the exception of FDIC insurance and regulatory fees, increased primarily as a result of the full-year effect of the Cape Fear Acquisition in April 2009 and the purchase of American Pensions in July 2009. Also contributing to the increase in salaries and employee benefits was new positions added during the year in wealth management, correspondent lending, and mortgage origination, as well as in operations and administrative areas. OREO expense increased primarily due to $3.9 million in additional writedowns to reflect further fair value declines on the underlying properties and $421 thousand in higher maintenance costs due to an increase in the number of properties during fiscal 2010. Other loan expense increased primarily due to higher appraisal costs on commercial and residential properties. In addition to the full-year effect of the 2009 acquisitions, the increase in other noninterest expenses was due to a $1.2 million contribution in conjunction with the donation of a former branch facility as well as $743 thousand required to replenish insurance reserves at the reinsurance subsidiary related to losses incurred during the year. The decrease in FDIC insurance and regulatory fees was primarily the result of an industry-wide special assessment paid in fiscal 2009.

Income Taxes

The income tax benefit from continuing operations for fiscal 2011 totaled $(23.7) million, compared with $(26.0) million for fiscal 2010 and $(2.2)millionfor fiscal 2009. Additionally, income tax expense of $18.8 million was recorded during fiscal 2009 in conjunction with the gain associated with the Cape Fear Acquisition. The income tax (benefit) expense fluctuates in relation to pre-tax (loss) income levels. The effective tax rate for continuing operations was 38.62%,39.78%, and 51.11%for 2011, 2010, and 2009, respectively. The fluctuations in the effective tax rate for continuing operations were primarily the result of a pre-tax loss as well as recognizing deductions on tax-exempt income sources and low income housing credits, which increased the tax benefit.

First Financial regularly monitors its deferred tax assets, which totaled $10.8 million at September 30, 2011. First Financial considers the cumulative three-year pretax operating results as well as the timing, nature and amount of future taxable income,

various plans to maximize the realization of deferred tax assets and taxable income within the carryback and carryforward periods, the reversal of taxable temporary differences as well as future events and uncertainties in making its determination of the realization of its net deferred tax asset. After evaluating all positive and negative evidence available as of September 30, 2011, First Financial concluded that it is more likely than not that it will be able to realize its deferred tax benefits and that a valuation allowance is not needed. Refer to Note 13to the Consolidated Financial Statements for additional information.

Line of Business Results

Prior to June 30, 2011, First Financial had two principal operating segments, banking and insurance, which were evaluated regularly by management and First Financial’s Board of Directors in deciding how to allocate resources and assess performance. During fiscal 2011, First Financial sold its insurance agency subsidiary, First Southeast and its managing general insurance agency, Kimbrell, and their results of operations are now segregated from continuing operations and displayed as (loss) income from discontinued operations on a net basis. First Financial continues to monitor the revenue streams of its various financial products and services but now manages its operations and evaluates its financial performance on a consolidated basis. As of September 30, 2011, First Financial considers its former Banking and Other business segments to not be independent and determined that they are one operating segment.

Financial Condition

Total assets at September 30, 2011were $3.2 billion, a decrease of $116.7 million or 3.5% from September 30, 2010. The decline was primarily the result of a decrease in total loans due to loans charged-off to estimated fair value and reclassified to loans held for sale at June 30,2011, as well as the sales of First Southeast and Kimbrell during the last two fiscal quarters of 2011, partially offset by an increase in other assets. Continued low loan demand from creditworthy borrowers, charge-offs, transfers of nonperforming loans to OREO, and paydowns due to normal borrower activity also contributed to the reduction in loans, partially offset by demand for residential mortgage loans due to the low interest rate environment. Total liabilities at September 30, 2011were $2.9 billion, a decrease of $67.0 million or 2.2% from September 30, 2010. The decline was primarily the result of a planned reduction in maturing high rate retail and wholesale time deposits, partially offset by an increase in core deposits, which include checking, savings, and money market accounts, as well as higher FHLB advances.

Investment Securities

The primary objectives in managing the investment securities portfolio include maintaining a portfolio of high quality investments with returns competitive with U.S. Treasury or agency securities and highly rated corporate securities. First Financial maintains balances in investments and mortgage-backed securities based on a continuing assessment of cash flows, the level of loan production, current interest rate risk strategies and the assessment of the potential future direction of market interest rate changes.

The amortized cost and estimated fair value on investment securities at September 30, 2011 and 2010 follows.




	As of September 30,
	2011				2010

(in thousands)	Amortized Cost		Fair Value		Amortized Cost		Fair Value

Securities Available for Sale
Obligations of the U.S. government agencies and corporations	$	1,826	$	1,863	$	2,021	$	2,049
State and municipal obligations		450		481		450		466
Collateralized debt obligations		7,127		3,074		7,780		3,417
Mortgage-backed securities		85,306		88,957		79,754		83,148
Collateralized mortgage obligations		306,525		312,513		303,088		312,097
Other securities		5,431		5,220		5,809		6,799

Total securities available for sale	$	406,665	$	412,108	$	398,902	$	407,976

Securities Held to Maturity
State and municipal obligations	$	20,863	$	23,354	$	21,623	$	23,972
Certificates of deposit		808		808		906		906

Total securities held to maturity	$	21,671	$	24,162	$	22,529	$	24,878


Nonmarketable securities - FHLB stock	$	35,782	$	35,782	$	42,867	$	42,867

First Financial performs a thorough credit review of its investment securities portfolio on a quarterly basis to evaluate the underlying collateral as well as the supporting credit enhancement and structure. As a result, OTTI charges of $879 thousand, $2.9 million and$4.0 million were recorded in noninterest income during fiscal 2011, 2010, and 2009, respectively. See Notes 1 and 3 to the Consolidated Financial Statements for additional information.

Maturities and average yields of investment securities are presented in the table below.




	Due in One Year or Less					Due after One Year through Five Years					Due after Five Years through Ten Years					Due after Ten Years

September 30, 2011 (dollars in thousands)	Balance		Weighted average yield³			Balance		Weighted average yield³			Balance		Weighted average yield³			Balance		Weighted average yield³

Securities Available for Sale, at fair value
Obligations of the U.S. government agencies and corporations	$	146		0.52	%	$	1,717		0.96	%	$	---		---	%	$	---		---	%
State and municipal obligations¹		---		---			---		---			---		---			481		6.96
Collateralized debt obligations²		---		---			---		---			---		---			3,074		1.44
Mortgage-backed securities²		---		---			615		4.95			8,886		4.95			79,456		3.41
Collateralized mortgage obligations²		---		---			---		---			64,005		6.28			248,508		3.41
Other securities		---		---			---		---			950		5.64			4,270		5.26

Total securities available for sale	$	146		0.52	%	$	2,332		1.99	%	$	73,841		6.13	%	$	335,789		3.36	%


Securities Held to Maturity, at amortized cost
State and municipal obligations	$	---		---	%	$	---		---	%	$	1,520		3.95	%	$	19,343		5.40	%
Certificates of deposit		408		1.22			400		0.87			---		---			---		---

Total securities held to maturity	$	408		1.22	%	$	400		0.87	%	$	1,520		3.95	%	$	19,343		5.40	%




¹ Yields on tax-exempt securities are calculated on a tax-equivalent basis using a statutory federal income tax rate of 35%. Yields on available-for-sale securities are calculated based on amortized costs of the security.

² For purposes of the maturity table, mortgage-based securities, collateralized debt obligations, and collateralized mortgage obligations, which are not due at any single maturity date, have been included in maturity groupings based on their contractual maturity. The expected life of mortgage-backed securities will differ from contractual maturities because borrowers may have the right to call or prepay the underlying mortgage with or without call or prepayment penalty.

³ Weighted average yield is calculated using the amortized costs basis of the underlying security.

Loans

At September 30, 2011, the loan portfolio totaled $2.4 billion, or 73.5% of total assets. The majority of loans were originated to borrowers in First Federal’s local market areas of Charleston, Florence, Hilton Head, and Myrtle Beach, South Carolina and Wilmington, North Carolina. First Federal’s principal lending activity has historically consisted of the origination of residential mortgage loans secured by first mortgages on owner-occupied, one-to-four family residences and, to a lesser extent, on loans for the construction of one-to-four family residences. First Federal also originates commercial real estate loans and commercial business loans. While First Federal intends to increase its commercial and small business loan originations, a substantial portion of the loan portfolio is currently secured by real estate. First Federal originates consumer loans with an emphasis on home equity loans and lines of credit as well as manufactured housing.

Because lending activities comprise such a significant source of revenue, the main objective is to adhere to sound lending practices. First Federal’s Management Loan Committee, which consists of the Chief Credit Officer and senior lending personnel, is authorized to approve loans to one borrower or a group of related borrowers up to $5.0 million in the aggregate. Loan requests for relationships in excess of $5.0 million in aggregate credit exposure are presented to the Loan Committee of First Federal’s Board of Directors for review and approval.

The following table summarizes outstanding loans by purpose of the loan.




	As of September 30,
	2011				2010				2009				2008				2007

LOANS (dollars in thousands)		$	%			$	%			$	%			$	%			$	%

Residential loans
Residential 1-4 family	$	909,907	38.7	%	$	836,644	32.6	%	$	749,289	28.2	%	$	719,092	30.6	%	$	711,149	33.1	%
Residential construction		16,431	0.7			14,436	0.6			15,681	0.6			13,424	0.6			12,824	0.6
Residential land		40,725	1.7			56,344	2.2			75,707	2.8			75,751	3.2			77,663	3.6

Total residential loans		967,063	41.1			907,424	35.4			840,677	31.6			808,267	34.4			801,636	37.3

Commercial loans
Commercial business		80,871	3.4			92,650	3.6			128,097	4.8			112,805	4.8			109,289	5.1
Commercial real estate		471,296	20.0			598,547	23.3			601,135	22.6			448,667	19.1			404,360	18.8
Commercial construction		15,051	0.6			28,449	1.1			80,247	3.0			97,798	4.2			62,825	2.9
Commercial land		67,432	2.9			143,366	5.6			221,845	8.3			172,112	7.3			140,161	6.5

Total commercial loans		634,650	26.9			863,012	33.7			1,031,324	38.7			831,382	35.4			716,635	33.3

Consumer loans
Home equity		369,213	15.7			397,632	15.5			398,423	15.0			329,387	14.0			277,097	12.9
Manufactured housing		276,047	11.7			269,857	10.5			243,823	9.2			224,122	9.5			201,030	9.4
Marine		55,243	2.3			65,901	2.6			76,608	2.9			83,052	3.5			82,512	3.8
Other consumer		53,064	2.3			60,522	2.4			70,887	2.7			72,317	3.1			70,983	3.3

Total consumer loans		753,567	32.0			793,912	31.0			789,741	29.7			708,878	30.2			631,622	29.4

Total loans		2,355,280	100.0	%		2,564,348	100.0	%		2,661,742	100.0	%		2,348,527	100.0	%		2,149,893	100.0	%
Less: Allowance for loan losses		54,333				86,871				68,473				23,990				15,428

Net loans	$	2,300,947			$	2,477,477			$	2,593,269			$	2,324,537			$	2,134,465


Loans held for sale	$	94,872			$	28,400			$	25,603			$	8,731			$	6,311

Loans held for sale have historically been comprised of residential mortgage loans awaiting sale in the secondary market, which generally settle in 15 to 45 days. At September 30, 2011, loans held for sale consisted of $40.8 million of residential mortgage loans to be sold in the secondary market and $54.1 million of nonperforming and performing loans selected for bulk loan sale. There were no balances related to loans held for bulk sale in any of the prior periods. The increase in residential mortgage loans to be sold in the secondary market over September 30, 2010 was primarily the result of higher borrower demand due to reductions in market interest rates toward the end of fiscal 2011. The transfer of select loans to held for sale effective June 30, 2011 is discussed further in the “Asset Quality” section below.

Included in the table above are loans covered under the loss share agreement with the FDIC (“covered loans”). The following table presents the outstanding balance for the covered loans at September 30, 2011. The table also includes the amount of delinquent loans and nonperforming loans by category, as well as total other repossessed assets acquired and total classified covered loans at September 30, 2011 and 2010. See Notes 4 and6 to the Consolidated Financial Statements for additional information.



	As of September 30, 2011						As of September 30, 2010

Loans Covered Under Loss Share Agreement (dollars in thousands)	Loans Outstanding		Delinquent Loans		Nonperforming Loans		Loans Outstanding		Delinquent Loans		Nonperforming Loans

Residential loans
Residential 1-4 family¹	$	2,834	$	---	$	943	$	3,086	$	---	$	1,454
Residential land		7,743		---		173		10,959		265		114

Total residential loans		10,577		---		1,116		14,045		265		1,568

Commercial loans
Commercial business		12,589		282		3,599		16,215		394		2,147
Commercial real estate		85,133		1,581		11,460		99,639		1,786		4,870
Commercial construction		1,161		596		---		4,336		284		---
Commercial land		16,495		66		2,380		26,273		1,743		1,569

Total commercial loans		115,378		2,525		17,439		146,463		4,207		8,586

Consumer loans
Home equity		26,516		151		335		29,185		308		324
Other consumer		1,749		19		89		2,309		267		110

Total consumer loans		28,265		170		424		31,494		575		434

Total loans	$	154,220	$	2,695	$	18,979	$	192,002	$	5,047	$	10,588

Other repossessed assets acquired	$	8,688					$	4,901
Special mention loans²		8,166						12,118
Classified loans²		34,110						24,099


		¹	Residential 1-4 family nonperforming loans includes a restructured loan, still accruing interest in the amount of $734 thousand and $750 thousand at September 30, 2011 and 2010, respectively.

		²	See Note 4 for the regulatory definition of special mention and classified.

The following table presents the contractual terms to maturity for loans outstanding at September 30, 2011. Demand loans, loans having no stated schedule of repayment and no stated maturity, and overdrafts are reported as due in one year or less. The table does not include an estimate of prepayments, which can significantly affect the average life of loans and may cause First Federal’s actual principal payment experience to differ materially from that shown. For example, the average life of mortgage loans tends to increase when current market interest rates are substantially higher than the interest rates on existing loans and, conversely, decrease when the interest rates on existing loans are substantially higher than current market interest rates.


SELECTED LOAN MATURITIES AND INTEREST SENSITIVITY

													Rate Structure for Loans Maturing Over One Year

As of September 30, 2011 (dollars in thousands)	One Year or Less			After One Year Through Five Years			Over Five Years			Total			Fixed Interest Rate			Floating or Adjustable Interest Rate

Residential loans
Residential 1-4 family	$	2,335		$	12,249		$	895,323		$	909,907		$	404,010		$	503,562
Residential construction		---			---			16,431			16,431			16,431			---
Residential land		11,985			24,478			4,262			40,725			27,947			793

Total residential loans		14,320			36,727			916,016			967,063			448,388			504,355

Commercial loans
Commercial business		34,423			35,555			10,893			80,871			37,268			9,180
Commercial real estate		92,447			159,994			218,855			471,296			300,863			77,986
Commercial construction		2,911			6,827			5,313			15,051			6,874			5,266
Commercial land		56,553			5,232			5,647			67,432			8,415			2,464

Total commercial loans		186,334			207,608			240,708			634,650			353,420			94,896

Consumer loans
Home equity		972			10,292			357,949			369,213			5,420			362,821
Manufactured housing		102			4,871			271,074			276,047			275,778			167
Marine		596			10,827			43,820			55,243			54,647			---
Other consumer		28,332			13,768			10,964			53,064			24,716			16

Total consumer loans		30,002			39,758			683,807			753,567			360,561			363,004

Total loans	$	230,656		$	284,093		$	1,840,531		$	2,355,280		$	1,162,369		$	962,255


Percent to total loans		9.8	%		12.1	%		78.1	%		100.0	%		49.4	%		40.9	%

Residential Loans

At September 30, 2011, residential mortgage loans, which include one-to-four family loans, residential construction loans, and residential land loans, totaled 41.1% of total loans. The following table provides a detailed breakdown of residentialone-to-four family mortgage loans by the year of origination and geographic location as of September 30, 2011.



Residential 1-4 Family

	Fiscal Year of Origination

(dollars in thousands)	2003 & Prior			2004			2005			2006			2007			2008			2009			2010			2011			Total

Portfolio balance	$	141,656		$	46,167		$	45,321		$	44,861		$	50,470		$	85,594		$	149,768		$	213,243		$	132,827		$	909,907
Number of loans		1,729			291			283			229			265			417			620			1,008			542			5,384
Weighted average age (in years)																													5.99
Average loan amount																												$	169

Geographic breakdown (%)
Charleston, SC		53.1	%		60.8	%		67.3	%		69.1	%		63.5	%		67.2	%		59.2	%		52.1	%		52.0	%		57.5	%
Florence, SC		7.9			4.1			5.2			2.5			3.6			2.4			2.1			2.9			2.1			3.6
Hilton Head, SC		11.1			10.4			8.0			7.3			9.5			2.6			9.7			4.2			7.1			7.4
Myrtle Beach, SC		17.9			13.2			14.0			12.2			13.2			14.4			13.2			10.1			7.8			12.5
Wilmington, NC		1.0			0.2			1.0			0.7			1.6			3.7			8.9			5.5			5.6			4.2
Other		9.0			11.3			4.5			8.2			8.6			9.7			6.9			25.2			25.4			14.8

Total		100.0	%		100.0	%		100.0	%		100.0	%		100.0	%		100.0	%		100.0	%		100.0	%		100.0	%		100.0	%

First Federal generally underwrites residential one-to-four family loans based on the applicant’s employment, debt-to-income levels, credit history and the appraised value of the subject property. Properties securing one-to-four family loans are generally appraised by independent appraisers who have been approved by First Federal. Borrowers are required to obtain title and hazard insurance, and flood insurance, if necessary, in an amount equal to the regulatory maximum. First Federal operates a correspondent lending program to purchase residential first mortgage loans originated by unaffiliated banks, mortgage lenders and brokers in South Carolina, North Carolina, Virginia and Tennessee. These loans are subject to underwriting standards consistent with the loans originated at First Federal locations and are accepted for purchase only after approval by First Federal’s underwriters. Loans funded through the correspondent program totaled $222.0 million in fiscal 2011, as compared with $116.1 million in fiscal 2010.

Generally, First Federal lends up to 80% of the lesser of the appraised value or purchase price for residential mortgage loans. On occasion, there have been first mortgages originated under specific lending programs that allow borrowers to obtain up to 100% of the appraised value and finance the closing costs, resulting in a loan-to-value(“LTV”)ratio of 100% or greater at origination, which may experience a higher risk of credit default. At September 30, 2011 and 2010, there were $88.3million and $83.3 million of such loans, respectively. Private mortgage insurance is generally required in order to reduce exposure on loans with LTVs at origination greater than 80%. Exposure is also reduced in cases where the loans are guaranteed under Veterans Administration (“VA”) or Federal Housing Administration (“FHA”) programs. The amount of residential one-to-four family loans with an LTV at the time of origination greater than 100% which were either not guaranteed or do not have private mortgage insurance totaled $55.1million and $45.9 million at September 30, 2011 and 2010, respectively.

First Federal offers adjustable-rate mortgage loans (“ARMs”) and fixed-rate mortgage loans with terms generally ranging from 10 to 30 years. Generally, these loans meet Fannie Mae, Ginnie Mae, or Freddie Mac requirements for sale in the secondary market. First Federal generally retains ARMs and jumbo mortgages, and periodically retains some of the fixed rate loans in the loan portfolio to meet asset/liability management objectives. Traditional types of ARMs have up to 30-year terms and interest rates which adjust annually after being fixed for a period of three, five, seven, or ten years in accordance with a designated index. ARMs may be originated with a 1%, 2% or 5% cap on the interest rate increase or decrease in the initial repricing period, a 1% or 2% cap on any increase or decrease in the interest rate per year thereafter, with a 4%, 5% or 6% limit on the amount by which the interest rate can increase or decrease over the life of the loan. These loans are underwritten based on the fully-indexed rate. Loans of this type have embedded interest rate risk if rates should rise during the initial fixed rate period as the income earned by First Federal would be lower than current market rates until the interest rate reset date. While ARM loans allow First Federal to decrease the sensitivity of its assets as a result of changes in interest rates, the extent this mitigates interest sensitivity is limited by the periodic and lifetime interest rate adjustment limits. Potential credit risk results from higher interest charges to be paid by the borrower as a result of increases in interest rates or the expiration of interest-only periods. It is possible that during periods of rising interest rates the risk of default on ARM loans may increase as a result of the higher required payment from the borrower. Given the recent market environment, the loan production of ARM loans has been substantially reduced in favor of fixed rate mortgages.

Commercial Lending

At September 30, 2011, the commercial portfolio totaled 26.9% of total loans. First Federal targets corporate, institutional and small business loans, as well as small and mid-size owner occupied properties.

At September 30, 2011, commercial business loans represented 3.4% of total loans. To increase the commercial and industrial business loans, lines of credit, equipment loans and letters of credit originated, First Federal focuse sits efforts on local or regional, small- to medium-sized companies that operate in the local market area. These loans are typically secured by non-real estate collateral or are unsecured and are used for general business purposes, including working capital financing, equipment financing, and general expansion. Collateral on these loans may consist of accounts receivable, inventory or equipment. The collateral securing these loans may depreciate over time, may be difficult to appraise and may fluctuate in value based on the success of the business. Loan terms vary but do not typically exceed five years. The interest rates on such loans are either fixed rates or floating rates indexed to the prime rate or LIBOR plus a margin to the index. Commercial business lending standards include credit file documentation and analysis of the borrower’s background, capacity to repay the loan, the adequacy of the borrower’s capital and collateral, as well as an evaluation of other conditions affecting the borrower. Analysis of the borrower’s past, present and future cash flows is also an important aspect of the credit analysis. First Federal generally obtains personal guarantees on commercial business loans.

Commercial real estate is generally priced at a higher rate of interest than residential one-to-four family loans. Interest rates charged on commercial real estate loans are determined by market conditions existing at the time of the loan commitment. The amortization of the loans may vary but will not usually exceed twenty years. Terms are based on either variable (prime rate or LIBOR based) or fixed rates. Fixed rate loans are generally for a period of three to five years; however some rates are fixed up to twenty years. Many commercial real estate loans are not fully amortizing and contain balloon payments.

Commercial real estate loans are primarily secured by office and warehouse space, professional buildings, retail sites, multi-family properties, and industrial facilities in First Federal’s primary market area. Commercial real estate loans typically involve higher principal amounts than other types of loans, and ifnon-owner occupied, repayment may be dependent on income generated, or expected to be generated, by the property securing the loan in amounts sufficient to cover operating expenses and debt service. Generally, the LTV ratio for commercial real estate loans does not exceed 80% on purchases and refinances. First Federal obtains appraisals, from approved independent appraisers or other forms of evaluation acceptable by policy and regulatory guidelines, on all properties securing commercial real estate loans, based on policy guidelines. These loans maypose a greater credit risk than loans secured by residential real estate because the collateral securing these loans typically may not be sold as easily as residential real estate. If First Federal forecloses on a commercial real estate loan, the holding period for the collateral may be longer than for residential one-to-four family mortgage loans because there may be fewer potential purchasers of the collateral. Accordingly, if any errors in judgment are made regarding the collectability of commercial real estate loans, any resulting charge-offs may be larger on a per loan basis than those incurred with the residential or consumer loan portfolios. As of September 30, 2011 approximately 39% of commercial real estate loans were owner occupied, which are expected to have a lower risk profile than non-owner occupied investment commercial real estate.

The following table provides a detailed breakdown of commercial real estate loans by the year of origination and geographic

location as of September 30, 2011.



Commercial Real Estate
	Fiscal Year of Origination

(dollars in thousands)	2003 & Prior			2004			2005			2006			2007			2008			2009			2010			2011			Total

Portfolio balance	$	56,769		$	28,649		$	38,075		$	40,429		$	81,920		$	119,003		$	60,287		$	29,381		$	16,783		$	471,296
Number of loans		629			154			183			175			299			332			207			100			55			2,134
Weighted average age (in years)																													7.66
Average loan amount																												$	221

Geographic breakdown (%)
Charleston, SC		64.1	%		48.0	%		41.9	%		67.9	%		42.2	%		52.0	%		51.5	%		63.7	%		71.8	%		53.4	%
Florence, SC		3.2			2.6			2.8			7.4			5.7			3.2			5.8			5.8			1.4			4.3
Hilton Head, SC