Note 6 - Loans

6 Months Ended

Jun. 30, 2011

Loans, Notes, Trade and Other Receivables Disclosure [Text Block]

Note 6. Loans. Following is a summary of loans at June 30, 2011 and December 31, 2010:

	June 30, 2011					December 31, 2010
	Amount		Percent of total			Amount		Percent of total
	(Dollars in thousands)
Mortgage loans:
Residential mortgage loans	$	57,919		9.8	%	$	56,503		9.0	%
Total mortgage loans		57,919		9.8	%		56,503		9.0	%
Commercial loans and leases:
Commercial real estate		385,432		65.5	%		409,073		65.3	%
Commercial construction		38,657		6.6	%		47,527		7.6	%
Commercial non-real estate		15,004		2.5	%		17,780		2.8	%
Commercial unsecured		4,722		0.8	%		4,701		0.8	%
Lease receivables		7,955		1.4	%		8,148		1.3	%
Total commercial loans and leases		451,770		76.8	%		487,229		77.8	%
Consumer loans:
Consumer real estate		41,076		7.0	%		41,222		6.6	%
Home equity lines of credit		32,532		5.5	%		35,397		5.7	%
Consumer non-real estate		2,639		0.4	%		2,895		0.4	%
Consumer unsecured		2,909		0.5	%		2,965		0.5	%
Total consumer loans		79,156		13.4	%		82,479		13.2	%
Gross loans		588,845		100.0	%		626,211		100.0	%
Less deferred loan origination fees, net		1,189					1,307
Less allowance for loan and lease losses		18,667					18,830
Total loans, net	$	568,989				$	606,074

The Bank has pledged its eligible real estate loans as collateral for potential borrowings from the Federal Home Loan Bank of Atlanta in the amount of $103.9 million and $126.7 million at June 30, 2011 and December 31, 2010, respectively.

The Company's lending is concentrated primarily in central, eastern, northeastern and southeastern North Carolina. At June 30, 2011, the Bank had pre-approved but unused lines of credit totaling $70.7 million.

The table below details performing troubled debt restructured loans, segregated by class of loans, at the dates indicated.

	June 30,  2011			December 31,  2010
	(Dollars in thousands)
Performing troubled debt restructured loans accounted for on an accrual basis:
Residential mortgage	$	-		$	426
Commercial real estate		19,928			26,213
Commercial construction		2,676			4,129
Commercial non-real estate		-			189
Commercial unsecured		53			127
Consumer real estate		146			222
Consumer non-real estate		28			28
Total performing troubled debt restructured loans accounted for on an accrual basis	$	22,831		$	31,334
Percentage of total loans, net		4.0	%		5.2	%

The table below details non-accrual loans, including troubled debt restructured loans accounted for on a non-accrual basis, segregated by class of loans, at the dates indicated.

	June 30,  2011			December 31,  2010
	(Dollars in thousands)
Loans accounted for on a non-accrual basis:
Residential mortgage	$	1,059		$	1,549
Commercial real estate		15,950			10,517
Commercial construction		854			1,291
Commercial non-real estate		51			18
Commercial unsecured		-			9
Consumer real estate		1,485			797
Home equity lines of credit		96			99
Consumer non-real estate		14			11
Consumer unsecured		1			1
Total loans accounted for on a non-accrual basis		19,510			14,292
Troubled debt restructured loans accounted for on a non-accrual basis:
Past Due TDRs:
Residential mortgage		508			-
Commercial real estate		8,816			10,910
Commercial construction		354			-
Commercial non-real estate		1,497			1,497
Consumer real estate		53			-
Total Past Due TDRs		11,228			12,407
Current TDRs:
Residential mortgage		-			508
Commercial real estate		8,136			11,743
Commercial construction		2,271			2,315
Commercial non-real estate		14			-
Total Current TDRs		10,421			14,566
Total troubled debt restructured loans accounted for on a non-accrual basis		21,649			26,973
Total non-performing loans	$	41,159		$	41,266
Percentage of total loans, net		7.2	%		6.8	%
Other real estate owned	$	11,387		$	11,616
Total non-performing assets	$	52,546		$	52,882

Cumulative interest income not recorded on loans accounted for on a non-accrual basis was $1,598,960 and $1,536,936 at June 30, 2011 and December 30, 2010, respectively.

The Company’s primary objective in granting concessions to borrowers having financial difficulties is an attempt to protect as much of its investment as possible.  The Company faces significant challenges when working with borrowers who are experiencing diminished operating cash flows, depreciated collateral values, or prolonged sales and rental absorption periods.  While borrowers may experience deterioration in their financial condition, many continue to be creditworthy customers who have the willingness and capacity to repay their debts.  In such cases, the Company finds it mutually beneficial to work constructively together with its borrowers, and that prudent restructurings are often in the best interest of the Company and the borrower.

The Company offers a variety of troubled debt restructuring programs on a loan-by-loan basis in which, for economic or legal reasons related to an individual borrower’s financial condition, it grants a concession to the borrower that would not otherwise be considered.  The restructuring of a troubled loan may include, but is not limited to any one or combination of the following: a modification of the loan terms such as a reduction of the contractual interest rate, principal, payment amount or accrued interest; an extension of the maturity date at a stated interest rate lower than the current market rate for a new debt with similar risks; a change in payment type, e.g. from principal and interest, to interest only with all principal and interest due at maturity; a substitution or acceptance of additional collateral; and a substitution or addition of new debtors for the original borrower.

The Company’s restructuring success includes but is not limited to any one or combination of the following: improves the prospects for repayment of principal and interest; reduces the prospects of further write downs and charge-offs; reduces the prospects of potential additional foreclosures; helps borrowers to maintain a creditworthy status; and ultimately will reduce the volume of classified, criticized and/or nonaccrual loans.

The Company identifies loans for potential restructuring on a loan-by-loan basis using a variety of sources which may include, but is not limited to any one or combination of the following: being approached or contacted by the borrower to modify loan terms; review of borrower’s financial statements indicates borrower may be experiencing financial difficulties; past due payment reports; loans extending past their stated maturity date; and nonaccrual loan reports.

On a loan-by-loan basis, the Company restructures loans that were either on nonaccrual basis prior to restructuring or on accrual basis prior to restructuring.  If a loan was on nonaccrual basis prior to restructuring, it remains on nonaccrual basis until the borrower has demonstrated a willingness and ability to meet the terms and conditions of the restructuring and to make the restructured loan payments, generally for a period of at least six months.  The Company has not immediately placed any restructured loan on accrual status that was on nonaccrual status prior to restructuring.

If a restructured loan was on accrual basis prior to restructuring and the Company expects the borrower to perform to the terms and conditions of the loan after restructuring (i.e. the loan was current, on accrual basis, the monthly payment is not significantly larger than the contractual payment before restructuring, and the borrower has the ability to make the restructured loan payments), the loan remains on an accrual basis and placement on nonaccrual is not required.

The Bank has performed restructurings on certain troubled loan workouts, whereby existing loans are restructured into a multiple two note structure (i.e., A Note and B Note structure).  The Bank separates a portion of the current outstanding debt into a new legally enforceable note (Note A) that is reasonably assured of repayment and performance according to prudently modified terms.  The portion of the debt that is not reasonably assured of repayment (Note B) is adversely classified and charged-off as appropriate.

Information concerning multiple note restructures for certain commercial real estate loan workouts for the three and six month periods ended June 30, 2011 and 2010 is as follows:

	Three Months Ended 6/30/11		Three Months Ended 6/30/10		Six Months Ended 6/30/11		Six Months Ended  6/30/10
	(In thousands)
Note A Structure
Commercial real estate (1)	$	3,035	$	0	$	3,871	$	0
Note B Structure
Commercial real estate (2)	$	1,396	$	0	$	1,795	$	0
Reduction of interest income	$	23	$	0	$	23	$	0

(1) Note A may be placed back on accrual status based on sustained historical payment performance, generally six months.

(2) Note B is immediately charged-off upon restructuring; however, payment in full is due at maturity of the note.

The benefit of this workout strategy is for the A note to remain a performing asset for which the borrower has the willingness and ability to meet the restructured payment terms and conditions.  In addition, this workout strategy reduces the prospects of further write downs and charge offs, and also reduces the prospects of a potential foreclosure.  Following this restructuring, the Note A credit classification generally improves from “substandard” to “pass”.

The general terms of the new loans restructured under the Note A and Note B structure differ as follows:

Note A: First lien position; fixed or adjustable current market interest rate; fixed month term to maturity; payments – interest only to maturity, or full principal and interest to maturity.  Note A is underwritten in accordance with the Company’s customary underwriting standards and is on an accrual basis.

Note B: Second lien position; fixed or adjustable below current market interest rate; fixed month term to maturity; payments – due in full at maturity. Note B is underwritten in accordance with the Company’s customary underwriting standards, except for the below market interest rate and payment terms, and is on a nonaccrual basis.

The following tables present an age analysis of past due loans, segregated by class of loans as of June 30, 2011 and December 31, 2010, respectively:

	June 30, 2011
	30-59 Days Past Due		60-89 Days Past Due		Over 90 Days Past Due		Non- Accrual Loans		Current		Total Loans
	(In thousands)
Residential mortgage	$	2,383	$	701	$	952	$	1,567	$	52,316	$	57,919
Commercial real estate		5,600		4,065		-		32,902		342,865		385,432
Commercial construction		-		-		-		3,479		35,178		38,657
Commercial non-real estate		22		766		-		1,562		12,654		15,004
Commercial unsecured		68		-		-		-		4,654		4,722
Lease receivables		392		62		-		-		7,501		7,955
Consumer real estate		576		635		-		1,538		38,327		41,076
Home equity lines of credit		63		194		-		96		32,179		32,532
Consumer non-real estate		-		6		-		14		2,619		2,639
Consumer unsecured		1		64		-		1		2,843		2,909
Total	$	9,105	$	6,493	$	952	$	41,159	$	531,136	$	588,845

	December 31, 2010
	30-59 Days Past Due		60-89 Days Past Due		Over 90 Days Past Due		Non- Accrual Loans		Current		Total Loans
	(In thousands)
Residential mortgage	$	-	$	2,389		1,150	$	2,057	$	50,907	$	56,503
Commercial real estate		7,512		1,940		1,593		33,171		364,857		409,073
Commercial construction		500		484		-		3,606		42,937		47,527
Commercial non-real estate		12		40		-		1,515		16,213		17,780
Commercial unsecured		64		46		-		9		4,582		4,701
Lease receivables		-		-		-		-		8,148		8,148
Consumer real estate		611		698		-		797		39,116		41,222
Home equity lines of credit		271		-		-		99		35,027		35,397
Consumer non-real estate		59		-		-		11		2,825		2,895
Consumer unsecured		161		-		-		1		2,803		2,965
Total	$	9,190	$	5,597	$	2,743	$	41,266	$	567,415	$	626,211

The following tables present information on loans that were considered impaired as of June 30, 2011 and December 31, 2010:

June 30, 2011	Recorded Investment		Contractual Unpaid Principal Balance		Related Allowance		YTD Average Recorded Investment		Interest Income Recognized on Impaired Loans
	(In thousands)
With no related allowance recorded:
Residential mortgage	$	508	$	508	$	-	$	508	$	1
Commercial real estate		57,925		63,053		-		59,610		1,243
Commercial construction		6,959		7,436		-		7,023		131
Commercial non-real estate		1,736		2,228		-		1,736		22
Commercial unsecured		53		53		-		53		2
Consumer real estate		587		815		-		640		20
Home equity lines of credit		175		175		-		175		3
Consumer non-real estate		36		36		-		37		1
Subtotal:		67,979		74,304		-		69,782		1,423
With an allowance recorded:
Commercial real estate		10,034		11,178		3,165		10,041		126
Commercial construction		1,430		1,430		331		1,520		24
Commercial unsecured		799		799		448		799		13
Consumer real estate		913		913		424		914		12
Subtotal:		13,176		14,320		4,368		13,274		175
Totals:
Mortgage		508		508		-		508		1
Commercial		78,936		86,177		3,944		80,782		1,561
Consumer		1,711		1,939		424		1,766		36
Grand Total:	$	81,155	$	88,624	$	4,368	$	83,056	$	1,598

December 31, 2010	Recorded Investment		Contractual Unpaid Principal Balance		Related Allowance		YTD Average Recorded Investment		Interest Income Recognized on Impaired Loans
	(In thousands)
With no related allowance recorded:
Commercial real estate	$	19,127	$	23,147	$	-	$	20,345	$	500
Commercial construction		1,460		1,868		-		1,592		55
Commercial non-real estate		1,551		2,043		-		1,883		57
Commercial unsecured		10		10		-		10		-
Consumer real estate		332		752		-		429		14
Home equity lines of credit		1		1		-		1		1
Consumer non-real estate		11		11		-		12		1
Subtotal:		22,492		27,832		-		24,272		628
With an allowance recorded:
Commercial real estate		12,026		12,576		2,846		11,943		415
Commercial construction		454		550		95		518		20
Commercial non-real estate		19		19		19		19		1
Commercial unsecured		54		54		54		54		2
Consumer real estate		156		156		91		157		6
Home equity lines of credit		83		83		83		84		4
Subtotal:		12,792		13,438		3,188		12,775		448
Totals:
Commercial		34,701		40,267		3,014		36,364		1,050
Consumer		583		1,003		174		683		26
Grand Total:	$	35,284	$	41,270	$	3,188	$	37,047	$	1,076

Credit Quality Indicators.The Bank assigns a risk grade to each loan in the portfolio as part of the on-going monitoring of the credit quality of the loan portfolio.

Commercial loans are graded on a scale of 1 to 9. A description of the general characteristics of the 9 risk grades is as follows:

• Risk Grade 1 (Excellent) - Loans in this category are considered to be of the highest quality. The borrower(s) has significant financial strength, stability, and liquidity. Proven cash flow is significantly more than required to service current and proposed debt with consistently strong earnings. Collateral position is very strong and a secondary source of repayment is self-evident. Guarantors may not be necessary to support the debt.

• Risk Grade 2 (Above Average) - Loans are supported by above average financial strength and stability. Cash flow is more than sufficient to meet current demands. Earnings are strong and reliable, but may differ from year to year. Collateral is highly liquid and sufficient to repay the debt in full. Guarantors may qualify for the loan on a direct basis.

• Risk Grade 3 (Average) - Credits in this group are supported by upper tier industry-average financial strength and stability. Liquidity levels fluctuate and need for short-term credit is demonstrated. Cash flow is steady and adequate to meet demands but can fluctuate. Earnings should be consistent but operating losses have not occurred recently. Collateral is generally pledged at an acceptable loan to value, but the credit can support some level of unsecured exposure. Guarantors with demonstrable financial strength are typically required on loans to business entities, but may not be on loans to individual borrowers.

• Risk Grade 4 (Acceptable) - Credits in this group are supported by lower end industry-average financial strength and stability. Liquidity levels fluctuate but are acceptable and need for short term credit is demonstrated. Cash flow is adequate to meet demands but can fluctuate. Earnings may be inconsistent but operating losses have not occurred recently. Collateral is generally pledged at an acceptable loan to value. Guarantors with demonstrable financial strength are required on loans to business entities, but may not be on loans to individual borrowers.

• Risk Grade 5 (Watch) - An asset in this category is one that has been identified by the lender, or credit administration as a loan that has shown some degree of deterioration from its original status. These loans are typically protected by collateral but have potential weaknesses that deserve management’s close attention, but are not yet at a point to become a classified asset. There may be unsecured loans that are included in this category. These are loans that management feels need to be watched more closely than those rated as acceptable and if left uncorrected, these potential weaknesses may result in the deterioration of the repayment prospects for the asset to warrant including them as classified assets.

• Risk Grade 6 (Special Mention) - An asset in this category is currently protected by collateral but has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in the deterioration of the repayment prospects for the asset or in the Bank’s credit position at some future date.

• Risk Grade 7 (Substandard) - A Substandard loan is inadequately protected by the current sound net worth and paying capacity of the debtor(s) or of the collateral pledged, if any. These credits have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. There is a distinct possibility the Bank will sustain some loss if the deficiencies are not corrected.

• Risk Grade 8 (Doubtful) - A loan graded in this category has all the weaknesses inherent in one graded Substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values highly questionable and improbable.

• Risk Grade 9 (Loss) - A loan graded as Loss is considered uncollectible and of such little value that continuance as a bankable asset is not warranted. This grade does not mean that the loan has absolutely no recovery or salvage value, but rather it is not practical or desirable to defer writing off this basically worthless asset even though partial recovery may be affected in the future.

Consumer loans are graded on a scale of 1 to 9. A description of the general characteristics of the 9 risk grades is as follows:

• Risk Grades 1 - 5 (Pass) - Loans in this category generally show little to no signs of weakness or have adequate mitigating factors that minimize the risk of loss.  Some of the characteristics of these loans include, but are not limited to, adequate financial strength and stability, adequate cash flow, collateral with acceptable loan to value, additional repayment sources, and reliable earnings.

• Risk Grade 6 (Special Mention) - An asset in this category is currently protected by collateral but has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in the deterioration of the repayment prospects for the asset or in the Bank’s credit position at some future date.

• Risk Grade 7 (Substandard) - A Substandard loan is inadequately protected by the current sound net worth and paying capacity of the debtor(s) or of the collateral pledged, if any. These credits have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. There is a distinct possibility the Bank will sustain some loss if the deficiencies are not corrected.

• Risk Grade 8 (Doubtful) - A loan graded in this category has all the weaknesses inherent in one graded Substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values highly questionable and improbable.

• Risk Grade 9 (Loss) - A loan graded as Loss is considered uncollectible and of such little value that continuance as a bankable asset is not warranted. This grade does not mean that the loan has absolutely no recovery or salvage value, but rather it is not practical or desirable to defer writing off this basically worthless asset even though partial recovery may be affected in the future.

Mortgage loans are graded on a scale of 1 to 9. A description of the general characteristics of the 9 risk grades is as follows:

• Risk Grades 1 - 5 (Pass) - Loans in this category generally show little to no signs of weakness or have adequate mitigating factors that minimize the risk of loss.  Some of the characteristics of these loans include, but are not limited to, adequate financial strength and stability, acceptable credit history, adequate cash flow, collateral with acceptable loan to value, additional repayment sources, and reliable earnings.

• Risk Grade 6 (Special Mention) – Special Mention loans are currently protected by collateral but have potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in the deterioration of the repayment prospects for the asset or in the Bank’s credit position at some future date.

• Risk Grade 7 (Substandard) - Substandard loans are inadequately protected by their sound net worth and paying capacity of the borrower(s). Loans so classified must have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.

• Risk Grade 8 (Doubtful) - Loans classified Doubtful have all the weaknesses inherent in those classified Substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently known facts, conditions, and values, highly questionable and improbable.

• Risk Grade 9 (Loss) - Loans classified Loss are considered uncollectible and of such little value that their continuance as bankable assets is not warranted. This classification does not mean that the loan has absolutely no recovery or salvage value, but rather it is not practical or desirable to defer writing off this basically worthless asset even though partial recovery may be affected in the future.

The following tables present information on risk ratings of the commercial and consumer loan portfolios, segregated by loan class as of June 30, 2011 and December 31, 2010, respectively:

June 30, 2011
Commercial Credit Exposure by Internally Assigned Grade	Commercial Real Estate		Commercial Construction		Commercial Non-Real Estate		Commercial Unsecured
			(In thousands)
1-Excellent	$	-	$	-	$	-	$	-
2-Above Average		1,380		423		475		116
3-Average		25,106		5,095		1,563		522
4-Acceptable		205,555		19,584		9,172		2,260
5-Watch		61,829		6,557		946		672
6-Special mention		28,296		2,466		77		346
7-Substandard		63,266		4,532		2,770		805
8-Doubtful		-		-		-		-
9-Loss		-		-		-		-
Total	$	385,432	$	38,657	$	15,004	$	4,722

June 30, 2011
Consumer Credit Exposure by Internally Assigned Grade	Consumer Real Estate		Home Equity Line of Credit		Consumer Non-Real Estate		Consumer Unsecured
			(In thousands)
Pass	$	39,393	$	32,261	$	2,597	$	2,889
6-Special mention		54		-		-		19
7-Substandard		1,629		271		42		1
8-Doubtful		-		-		-		-
9-Loss		-		-		-		-
Total	$	41,076	$	32,532	$	2,639	$	2,909

June 30, 2011
Mortgage and Lease Receivable Credit Exposure by Internally Assigned Grade	Mortgage		Lease Receivable
	(In thousands)
Pass	$	55,400	$	7,835
6-Special mention		952		-
7-Substandard		1,567		120
8-Doubtful		-		-
9-Loss		-		-
Total	$	57,919	$	7,955

December 31, 2010
Commercial Credit Exposure by Internally Assigned Grade	Commercial Real Estate		Commercial Construction		Commercial Non-Real Estate		Commercial Unsecured
			(In thousands)
1-Excellent	$	-	$	-	$	-	$	-
2-Above Average		2,168		487		11		99
3-Average		22,336		6,433		1,510		666
4-Acceptable		236,338		21,207		12,301		2,793
5-Watch		62,007		11,273		2,084		683
6-Special mention		34,506		3,279		92		392
7-Substandard		51,718		4,848		1,755		68
8-Doubtful		-		-		27		-
9-Loss		-		-		-		-
Total	$	409,073	$	47,527	$	17,780	$	4,701

December 31, 2010
Consumer Credit Exposure by Internally Assigned Grade	Consumer  Real Estate		Home Equity  Line of Credit		Consumer  Non-Real  Estate		Consumer Unsecured
			(In thousands)
Pass	$	40,295	$	35,298	$	2,884	$	2,964
6-Special mention		-		-		-		-
7-Substandard		927		99		11		1
8-Doubtful		-		-		-		-
9-Loss		-		-		-		-
Total	$	41,222	$	35,397	$	2,895	$	2,965

December 31, 2010
Mortgage and Lease Receivable Credit Exposure by Internally Assigned Grade	Mortgage		Lease Receivable
	(In thousands)
Pass	$	53,772	$	7,959
6-Special mention		674		-
7-Substandard		2,057		189
8-Doubtful		-		-
9-Loss		-		-
Total	$	56,503	$	8,148