UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2009

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE EXCHANGE ACT

For the transition period from                      to                     

Fentura Financial, Inc.

 

(Exact name of registrant as specified in its charter)

Michigan		38-2806518
(State or other jurisdiction of		(IRS Employee Identification No.)
incorporation or organization)

175 N Leroy, P.O. Box 725, Fenton, Michigan 48430
(Address of Principal Executive Offices)

(810) 629-2263
(Registrant’s telephone number)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the 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. þ Yes   o No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files.) o Yes   o No

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o Yes   No þ

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: July 24, 2009

Class — Common Stock		Shares Outstanding — 2,209,183

 

 

Fentura Financial Inc.
Index to Form 10-Q

		Page
Part I — Financial Information			3
Item 1 — Consolidated Financial Statements (Unaudited)			3-21
Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations			22-35
Item 3 — Quantitative and Qualitative Disclosures about Market Risk			35-37
Item 4T — Controls and Procedures			37
Part II — Other Information			38
Item 1 — Legal Proceedings			38
Item 1A — Risk Factors			38
Item 2 — Unregistered Sales of Equity Securities and Use of Proceeds			38
Item 3 — Defaults Upon Senior Securities			38
Item 4 —Submission of Matters to a Vote of Security Holders			38
Item 5 — Other Information			38
Item 6 — Exhibits			38
Signatures			39
Exhibit Index			40
EX-31.1
EX-31.2
EX-32.1
EX-32.2

PART I — FINANCIAL INFORMATION

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

Fentura Financial, Inc.
Consolidated Balance Sheets

		June 30,
		2009				Dec 31,
(000s omitted except share data)		(unaudited)				2008
ASSETS
Cash and due from banks		$	43,645			$	13,626
Federal funds sold			0				0
Total cash & cash equivalents			43,645				13,626
Securities-available for sale			51,483				47,065
Securities-held to maturity, (fair value of $5,657 at June 30, 2009 and $6,784 at December 31, 2008)			5,654				6,765
Total securities			57,137				53,830
Loans held for sale			1,136				690
Loans:
Commercial			278,224				289,523
Real estate loans — construction			37,028				48,777
Real estate loans — mortgage			33,050				37,828
Consumer loans			50,669				52,910
Total loans			398,971				429,038
Less: Allowance for loan losses			(13,970	)			(10,455	)
Net loans			385,001				418,583
Bank owned life insurance			7,088				7,282
Bank premises and equipment			16,369				16,879
Federal Home Loan Bank stock			1,900				1,900
Accrued interest receivable			1,996				2,231
Acquisition intangibles			220				293
Equity investment			0				1,360
Other real estate owned			5,933				5,983
Assets of held for sale operations			42,712				45,650
Other assets			5,502				10,297
Total assets		$	568,639			$	578,604
LIABILITIES
Deposits:
Non-interest bearing deposits		$	69,231			$	64,325
Interest bearing deposits			409,844				405,039
Total deposits			479,075				469,364
Short term borrowings			477				1,500
Federal Home Loan Bank advances			9,981				12,707
Subordinated debentures			14,000				14,000
Note payable			0				1,000
Liabilities of held for sale operations			40,143				42,174
Accrued taxes, interest and other liabilities			5,753				1,735
Total liabilities			549,429				542,480
SHAREHOLDERS’ EQUITY
Common stock — no par value
2,209,183 shares issued (2,185,765 at Dec. 31, 2008)			42,850				42,778
Retained deficit			(21,700	)			(4,677	)
Accumulated other comprehensive loss			(1,940	)			(1,977	)
Total shareholders’ equity			19,210				36,124
Total liabilities and shareholders’ equity		$	568,639			$	578,604

See notes to consolidated financial statements.

Fentura Financial, Inc.
Consolidated Statements of Income (Unaudited)

		Three Months Ended								Six Months Ended
		June 30								June 30
(000s omitted except per share data)		2009				2008				2009				2008
INTEREST INCOME
Interest and fees on loans		$	6,000			$	6,867			$	12,463			$	14,350
Interest and dividends on securities:
Taxable			390				499				809				1,045
Tax-exempt			138				144				283				255
Interest on federal funds sold			0				15				0				108
Total interest income			6,528				7,525				13,555				15,758
INTEREST EXPENSE
Deposits			2,613				3,065				5,226				6,809
Borrowings			291				423				602				909
Total interest expense			2,904				3,488				5,828				7,718
NET INTEREST INCOME			3,624				4,037				7,727				8,040
Provision for loan losses			7,711				3,475				9,366				4,455
Net interest income (loss) after provision for loan losses			(4,087	)			562				(1,639	)			3,585
NON-INTEREST INCOME
Service charges on deposit accounts			480				595				917				1,220
Gain on sale of mortgage loans			277				100				512				218
Trust and investment services income			463				516				827				972
Loss on equity investment			(874	)			(290	)			(1,360	)			(457	)
Other income and fees			480				451				1,069				820
Total non-interest income			826				1,372				1,965				2,773
NON-INTEREST EXPENSE
Salaries and employee benefits			2,071				2,767				4,623				5,591
Occupancy			447				492				950				997
Furniture and equipment			403				508				827				979
Loan and collection			933				221				1,318				369
Advertising and promotional			47				130				88				215
Loss on security impairment			200				36				200				610
Loss on impairment of held for sale operations			0				0				700				0
Other operating expenses			1,211				766				2,441				1,566
Total non-interest expense			5,312				4,920				11,1147				10,327
Loss from continuing operations before income tax			(8,573	)			(2,986	)			(10,821	)			(3,969	)
Federal income tax expense/(benefit)			5,952				(1,025	)			5,360				(1,389	)
Net loss from continuing operations		$	(14,525	)		$	(1,961	)		$	(16,181	)		$	(2,580	)
Net loss from held for sale operations, net of tax			(839	)			(207	)			(842	)			(217	)
Net loss		$	(15,364	)		$	(2,168	)		$	(17,023	)		$	(2,797	)
Loss per share from continuing operations
Basic		$	(6.61	)		$	(0.90	)		$	(7.38	)		$	(1.19	)
Diluted		$	(6.61	)		$	(0.90	)		$	(7.38	)		$	(1.19	)
Net loss per share
Basic		$	(6.99	)		$	(1.00	)		$	(7.77	)		$	(1.29	)
Diluted		$	(6.99	)		$	(1.00	)		$	(7.77	)		$	(1.29	)
Cash Dividends declared		$	0.00			$	0.00			$	0.00			$	0.00

See notes to consolidated financial statements.

Fentura Financial, Inc.
Consolidated Statements of Changes in Shareholders’ Equity (Unaudited)

		Six Months Ended
		June 30,
(000s omitted)		2009				2008
COMMON STOCK
Balance, beginning of period		$	42,778			$	42,478
Issuance of shares under
Director stock purchase plan & Dividend reinvestment program (23,418 and 11,800 shares)			72				213
Stock options exercised			0				0
Stock compensation expense			0				4
Balance, end of period			42,850				42,695
RETAINED DEFICIT
Balance, beginning of period			(4,677	)			7,488
Net loss			(17,023	)			(2,797	)
Cash dividends declared			0				0
Balance, end of period			(21,700	)			4,691
ACCUMULATED OTHER COMPREHENSIVE LOSS
Balance, beginning of period			(1,977	)			(470	)
Change in unrealized gain (loss) on securities, net of tax			37				(417	)
Balance, end of period			(1,940	)			(887	)
Total Shareholders’ Equity		$	19,210			$	46,499

See notes to consolidated financial statements.

Fentura Financial, Inc.
Consolidated Statements of Cash Flows (Unaudited)

		Six Months Ended
		June 30,
(000s omitted)		2009				2008
OPERATING ACTIVITIES:
Net loss		$	(17,023	)		$	(2,797	)
Adjustments to reconcile net income (loss) to cash Provided by Operating Activities:
Stock compensation expense			0				4
Depreciation and amortization			581				458
Establishment of deferred tax asset valuation allowance			6,617				0
Provision for loan losses			9,366				4,455
Loans originated for sale			(42,302	)			(16,999	)
Proceeds from the sale of loans			42,368				18,424
(Gain) on sales of loans			(512	)			(218	)
(Gain) Loss on sale of fixed assets			0				(118	)
(Gain) Loss on other real estate owned			200				0
Loss on security impairment			200				610
Loss on equity investment			1,360				458
Earnings from bank owned life insurance			194				(108	)
Net (increase) decrease in interest receivable & other assets			1,748				2,591
Net increase (decrease) in interest payable & other liabilities			2,097				(1,412	)
Total Adjustments			15,741				8,145
Net cash provided by (used in) operating activities			(1,282	)			5,348
CASH FLOWS FROM INVESTING ACTIVITES:
Proceeds from maturities of securities — HTM			1,108				1,253
Proceeds from maturities of securities — AFS			4,726				4,726
Proceeds from sales of securities — AFS			0				1,999
Proceeds from calls of securities — AFS			2,000				11,112
Purchases of securities — AFS			(10,646	)			(6,732	)
Net (increase) decrease in loans			24,966				2,552
Sales of other real estate owned			865				0
Acquisition of premises and equipment, net			(71	)			95
Net cash provided by investing activities			22,948				15,005
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase (decrease) in deposits			9,711				(26,698	)
Net increase (decrease) in borrowings			(1,023	)			2,109
Net increase (decrease) in repurchase agreements			0				(5,000	)
Repayment of notes payable			(250	)			0
Purchase of advances from FHLB			55,495				7,001
Repayments of advances from FHLB			(58,221	)			(8,024	)
Net proceeds from stock issuance and purchase			72				213
Net cash provided by (used in) financing activities			5,784				(30,399	)
Net Change in Cash and Cash Equivalents		$	27,450			$	(10,046	)
Change in cash and cash equivalents of held for sale operations			2,569				(2,231	)
Cash and cash equivalents — Beginning		$	13,626			$	27,041
Cash and cash equivalents — Ending		$	43,645			$	14,764
Cash paid for:
Interest		$	5,655			$	7,690
Income Taxes		$	3,715			$	0
Noncash Disclosures:
Transfers from loans to other real estate		$	750			$	2,892

Fentura Financial, Inc.
Consolidated Statements of Comprehensive Income (Unaudited)

		Three Months Ended								Six Months Ended
		June 30,								June 30,
(000s Omitted)		2009				2008				2009				2008
Net loss		$	(15,364	)		$	(2,168	)		$	(17,023	)		$	(2,797	)
Other comprehensive income (loss), net of tax:
Unrealized holding gains (losses) arising during period			900				(706	)			237				193
Impairment loss recognized during period			(200	)			(35	)			(200	)			(610	)
Other comprehensive income (loss)			1,100				(741	)			37				(417	)
Comprehensive income (loss)		$	(14,264	)		$	(2,909	)		$	(16,986	)		$	(3,214	)

Fentura Financial, Inc.
Notes to Consolidated Financial Statements (Unaudited)

NOTE 1 — BASIS OF PRESENTATION

The consolidated financial statements at December 31, 2008, June 30, 2008 and June 30, 2009 include Fentura Financial, Inc. (the “Corporation”) and its wholly owned subsidiaries, The State Bank in Fenton, Michigan; Davison State Bank in Davison, Michigan; and West Michigan Community Bank in Hudsonville, Michigan (the “Banks”), as well as Fentura Mortgage Company, West Michigan Mortgage Company, LLC, and the other subsidiaries of the Banks. Intercompany transactions and balances are eliminated in consolidation.

On March 17, 2009, The Corporation entered into an agreement to sell all of the stock of one of its bank subsidiaries, Davison State Bank, to a private, non-affiliated, investor group. The transaction is expected to close during the third quarter of 2009. At June 30, 2009, Davison had assets of $42.7 million, loans of $27.4 million; deposits of $37.8 million, equity of $2.6 million and a year-to-date net loss of $842,000. The agreement calls for consideration to be received of $3.0 million plus or minus certain closing equity adjustments. The Corporation recorded an estimated loss on the sale of Davison State Bank of $700,000 in the first quarter of 2009. The agreement also provides for a termination payment of $150,000 if either party breaches the agreement. This transaction will have minimal impact to 2009 core earnings due to the proportionate size of Davison State Bank. The Corporation projects cost savings for the fourth quarter of 2009 and beyond, as a result of this transaction.

Financial statements are presented with held for sale operations sequestered on the balance sheet and income statement. The presentations have been updated for June 30, 2009, December 31, 2008 and June 30, 2008 to reflect the held for sale operations results.

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the six months ended June 30, 2009 are not necessarily indicative of the results that may be expected for the year ending December 31, 2009. For further information, refer to the consolidated financial statements and footnotes thereto included in the Corporation’s annual report on Form 10-K for the year ended December 31, 2008.

Reclassifications: Some items in the prior year financial statements were reclassified to conform to the current presentation.

Allowance for Loan Losses: The allowance for loan losses is a valuation allowance for probable incurred credit losses, increased by the provision for loan losses and decreased by charge-offs less recoveries. Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged-off. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed.

A loan is impaired when full payment under the loan terms is not expected. Impairment is evaluated in total for smaller-balance loans of similar nature such as residential mortgage, consumer, and on an individual loan basis for other loans. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral.

Income Taxes: Income tax expense is the total of the current year income tax due or refundable and the change in deferred tax assets and liabilities. Deferred tax assets and liabilities are the expected future tax amounts for the temporary differences between carrying amounts and tax bases of assets and liabilities, computed using enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.

The Corporation recognizes interest and/or penalties related to income tax matters in income tax expense.

Dividend Restriction: Banking regulations require maintaining certain capital levels and may limit the dividends paid by the Banks to the Corporation or by the Corporation to shareholders. The Banks have been restricted from dividend payments in efforts of preserving their individual capital levels.

Stock Option Plans: The Nonemployee Director Stock Option Plan provides for granting options to nonemployee directors to purchase the Corporation’s common stock. No options have been granted in 2009. The purchase price of the shares is the fair market value at the date of the grant, and there is a three-year vesting period before options may be exercised. Options to acquire no more than 8,131 shares of stock may be granted under the Plan in any calendar year and options to acquire not more than 73,967 shares in the aggregate may be outstanding at any one time.

The Employee Stock Option Plan grants options to eligible employees to purchase the Corporation’s common stock at or above, the fair market value of the stock at the date of the grant. Awards granted under this plan are limited to an aggregate of 86,936 shares. The administrator of the plan is a committee of directors. The administrator has the power to determine the number of options to be granted, the exercise price of the options and other terms of the options, subject to consistency with the terms of the Plan.

The fair value of each option award is estimated on the date of grant using a closed form option valuation (Black-Scholes) model that uses the assumptions noted in the table below. Expected volatilities are based on historical volatilities of the Corporation’s common stock. The Corporation uses historical data to estimate option exercise and post-vesting termination behavior. (Employee and management options are tracked separately.) The expected term of options granted is based on historical data and represents the period of time that options granted are expected to be outstanding, which takes into account that the options are not transferable. The risk-free interest rate for the expected term of the option is based on the U.S. Treasury yield curve in effect at the time of the grant. Shares that are issued upon option exercise come from authorized but unissued shares.

The following table summarizes stock option activity:

		Number of				Weighted
		Options				Average Price
Options outstanding at December 31, 2008			26,597			$	29.85
Options granted 2009			0			$	0.00
Options forfeited 2009			(2,350	)		$	30.52
Options outstanding at June 30, 2009			24,247			$	29.78

NOTE 2 — ADOPTION OF NEW ACCOUNTING STANDARDS

New Accounting Pronouncements:

In December 2007, the FASB issued FAS No. 141 (revised 2007), Business Combinations (“FAS 141(R)”), which establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest in an acquiree, including the recognition and measurement of goodwill acquired in a business combination. FAS No. 141(R) is effective for fiscal years beginning on or after December 15, 2008. The adoption of this standard did not have an impact on the Corporation’s results of operations or financial position.

In December 2007, the FASB issued SFAS No. 160, Non-controlling Interest in Consolidated Financial Statements, an amendment of ARB No. 51 (“SFAS No. 160”), which changed the accounting and reporting for minority interests, re-characterizing them as non-controlling interests and classifying them as a component of equity within the consolidated balance sheets. FAS No. 160 is effective as of the beginning of the first fiscal year beginning on or after December 15, 2008. The adoption of FAS No. 160 did not have a significant impact on the Corporation’s results of operations or financial position.

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities, an amendment of SFAS No. 133. FAS No. 161 amends and expands the disclosure requirements of SFAS No. 133 for derivative instruments and hedging activities. FAS No. 161 requires qualitative disclosure about objectives and strategies for using derivative and hedging instruments, quantitative disclosures about fair value amounts of the instruments and gains and losses on such instruments, as well as disclosures about credit-risk features in derivative agreements. FAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The adoption of this standard did not have a material effect on the Corporation’s results of operations or financial position.

In June 2008, the FASB issued FSP EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities. This FSP addresses whether these types of instruments are participating prior to vesting and, therefore need to be included in the earning allocation in computing earnings per share under the two class method described in FASB Statement No. 128, Earnings Per Share. This FSP is effective for fiscal years beginning after December 15, 2008, and interim periods within those years. All prior-period earnings per share data presented shall be adjusted retrospectively. The adoption of this FSP on January 1, 2009 had no effect on the Corporation’s results of operations or financial position.

In April 2009, the FASB issued Staff Position (FSP) No. 115-2 and No. 124-2, Recognition and Presentation of Other-Than-Temporary Impairments, which amends existing guidance for determining whether impairment is other-than-temporary for debt securities. The FSP requires an entity to assess

whether it intends to sell, or it is more likely than not that it will be required to sell a security in an unrealized loss position before recovery of its amortized cost basis. If either of these criteria is met, the entire difference between amortized cost and fair value is recognized in earnings. For securities that do not meet the aforementioned criteria, the amount of impairment recognized in earnings is limited to the amount related to credit losses, while impairment related to other factors is recognized in other comprehensive income. Additionally, the FSP expands and increases the frequency of existing disclosures about other-than-temporary impairments for debt and equity securities. This FSP is effective for interim and annual reporting periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009. The Corporation adopted this FSP in the second quarter. The adoption did not have any effect on the results of operations or financial position.

In April 2009, the FASB issued Staff Position (FSP) No. 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset and Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly. This FSP emphasizes that even if there has been a significant decrease in the volume and level of activity, the objective of a fair value measurement remains the same. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants. The FSP provides a number of factors to consider when evaluating whether there has been a significant decrease in the volume and level of activity for an asset or liability in relation to normal market activity. In addition, when transactions or quoted prices are not considered orderly, adjustments to those prices based on the weight of available information may be needed to determine the appropriate fair value. The FSP also requires increased disclosures. This FSP is effective for interim and annual reporting periods ending after June 15, 2009, and shall be applied prospectively. Early adoption is permitted for periods ending after March 15, 2009. The Corporation adopted this FSP in the second quarter. The adoption did not have any effect on the results of operations or financial position.

In April 2009, the FASB issued Staff Position (FSP) No. 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial Instruments. This FSP amends FASB Statement No. 107, Disclosures about Fair Value of Financial Instruments, to require disclosures about fair value of financial instruments for interim reporting periods of publicly traded companies that were previously only required in annual financial statements. This FSP is effective for interim reporting periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009. The Corporation adopted this FSP in the second quarter and the relevant disclosures have been added to Note 3.

Recently Issued and Not Yet Effective Accounting Standards:

In July 2009, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 168, The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles, a replacement of FASB Statement No. 162. The objective of this statement is to replace SFAS No. 162 “The Hierarchy of Generally Accepted Accounting Principles”, and to establish the FASB Accounting Standards Codification as the source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with Generally Accepted Accounting Principles (“GAAP”). Rules and interpretive releases of the Securities and Exchange Commission (“SEC”) under authority of federal securities laws are also sources of authoritative GAAP for SEC registrants. This Statement is effective for financial statements issued for interim and annual periods ending after September 15, 2009.

In February 2008, the FASB issued FSP 157-2, Effective Date of FASB Statement No. 157. This FSP delays the effective date of SFAS #157, “Fair Value measure for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value on a recurring basis (at least annually) to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. The adoption of this FSP on January 1, 2009 did not have a material impact on our consolidated financial statements.

In May, 2009, the FASB issued SFAS No. 165, Subsequent Events. This SFAS adopts part of the auditing literature regarding subsequent event transactions into the accounting standards. Though the criteria used to measure subsequent events did not change, the relevant terms of Type 1 and Type 2 subsequent events were changed to ‘recognized subsequent events’ and ‘nonrecognized subsequent events’ respectively. This standard also requires public companies to disclose the date upon which subsequent events were measured, which is the date the financial statements are filed with the Securities and Exchange Commission (SEC).

The Corporation evaluated subsequent events as of and through the date August 14, 2009.

NOTE 3 — FAIR VALUE

Statement 157 establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing and asset or liability.

The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs) or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). The remaining fair values of securities (Level 3 inputs) are based on the reporting entity’s own assumptions and basic knowledge of market conditions and individual investment performance. The Corporation reviews the performance of the securities that comprise Level 3 on a quarterly basis.

Assets and Liabilities Measured on a Recurring Basis

Assets and liabilities measured at fair value on a recurring basis are summarized below:

		Fair Value Measurements Using
												Significant
								Quoted Prices in				Other				Significant
								Active Markets				Observable				Unobservable
								for Identical				Inputs				Inputs
(000s omitted)				Total				Assets (Level 1)				(Level 2)				(Level 3)
Assets:
Available for sale securities		June 30, 2009		$	51,483			$	12			$	51,471			$	0
Available for sale securities		December 31, 2008		$	47,065			$	9			$	45,827			$	1,229

NOTE 3 — FAIR VALUE (Continued)

Level 1 assets are comprised of investments in other financial institutions, which are publicly traded on the open market.

Level 2 assets are comprised of available for sale securities including, U.S. Treasuries, Government Agencies and Municipal Securities.

Level 3 assets are comprised of investments in other financial institutions including DeNovo banks.

The table below presents a reconciliation and income statement classification of gains and losses for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the six months ended June 30, 2009:

		Fair Value Measurements Using
		Significant Unobservable Inputs
		(Level 3)
(000s omitted)		Asset				Liability				Total
Beginning balance, Jan. 1, 2009		$	1,229			$	0			$	1,229
Total gains or losses (realized / unrealized)
Included in earnings
Loss on security impairment			(200	)			0				(200	)
Included in other comprehensive income			356				0				356
Purchases, issuances, and settlements
Transfers in and / or out of Level 3			(1,385	)			0				(1,385	)
Ending balance, June 30, 2009		$	0			$	0			$	0

Assets and Liabilities Measured on a Non-Recurring Basis

Assets and liabilities measured at fair value on a non-recurring basis are summarized below:

								Fair Value Measurements Using
								Quoted Prices
								in Active				Significant
								Markets for				Other				Significant
								Identical				Observable				Unobservable
								Assets				Inputs				Inputs
(000s omitted)				Total				(Level 1)				(Level 2)				(Level 3)
Assets:
Impaired loans		June 30, 2009		$	26,693			$	0			$	0			$	26,693
Other real estate owned		June 30, 2009		$	22			$	0			$	0			$	22
Impaired loans		December 31, 2008		$	19,970			$	0			$	0			$	19,970

The following represent impairment charges recognized during the period:

At June 30, 2009, impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $35,208,000 with a valuation allowance of

NOTE 3 — FAIR VALUE (Continued)

$8,465,000 resulting in an additional provision for loan losses of $7,156,000 for the period. This is compared to December 31, 2008 when the fair value of the collateral dependent impaired loans was $29,090,000 with a valuation allowance of $5,642,000.

At June 30, 2009, other real estate owned measured at fair vale using collateral valuation methods (Level 3 inputs) has a carrying value of $22,000. During the period ended June 30, 2009, other real estate owned incurred valuation losses totaling $119,000.

Carrying amount and estimated fair value of financial instruments, not previously presented, at year end were as follows:

		June 30, 2009								December 31, 2008
		Carrying								Carrying
(000s omitted)		Amount				Fair Value				Amount				Fair Value
Assets:
Cash and cash equivalents		$	43,645			$	43,645			$	13,626			$	14,764
Securities — held to maturity			5,654				5,657				6,765				6,784
FHLB stock			1,900				n/a				1,900				n/a
Loans held for sale			1,136				1,136				690				448
Loans			398,971				377,835				429,038				408,387
Accrued interest receivable			1,996				1,996				2,231				2,231
Liabilities:
Deposits		$	479,075			$	451,013			$	469,364			$	433,398
Short-term borrowings			477				477				1,500				1,500
FHLB advances			9,981				9,709				12,707				12,505
Subordinated debentures			14,000				13,810				14,000				14,061
Accrued interest payable			763				763				590				590

The following methods and assumptions were used by the Corporation in estimating its fair value disclosures for financial instruments:

Cash and cash equivalents

The carrying amounts reported in the balance sheet for cash and short-term instruments approximate their fair values.

Securities (including mortgage-backed securities)

Fair values for securities held to maturity are based on similar information previously presented for securities available for sale.

FHLB Stock

It was not practical to determine the fair value of FHLB stock due to restrictions placed on its transferability.

Loans held for sale

The market value of these loans represents estimated fair value. The market value is determined in the aggregate on the basis of existing forward commitments or fair values attributable to similar loans.

NOTE 3 — FAIR VALUE (Continued)

Loans

For variable rate loans that re-price frequently and with no significant change in credit risk, fair values are based on carrying values. The fair value for other loans is estimated using discounted cash flow analysis. The carrying amount of accrued interest receivable approximates its fair value.

Off-balance-sheet instruments

The fair value of off-balance sheet items is not considered material.

Deposit liabilities

The fair values disclosed for demand deposits are, by definition equal to the amount payable on demand at the reporting date. The carrying amounts for variable rate, fixed term money market accounts and certificates of deposit approximate their fair values at the reporting date. Fair values for fixed certificates of deposit are estimated using discounted cash flow calculation that applies interest rates currently being offered on similar certificates. The carrying amount of accrued interest payable approximates its fair value.

Short-term borrowings

The carrying amounts of federal funds purchased and other short-term borrowings approximate their fair values.

Note Payable

The carrying amount of the note payable approximates its fair value.

FHLB advances

Rates currently available for FHLB debt with similar terms and remaining maturities are used to estimate the fair value of the existing debt.

Repurchase agreements

Rates currently available for repurchase agreements with similar terms and remaining maturities are used to estimate the fair value of the existing repurchase agreements.

Subordinated Debentures

The estimated the fair value of the existing subordinated debentures is calculated by comparing a current market rate for the instrument compared to the book rate. The difference between these rates computes the fair value.

Limitations

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Corporation’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Corporation’s financial instruments, fair value estimates are based on management’s judgments regarding future expected loss experience, current economic conditions, risk characteristics and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

NOTE 4 — SECURITIES

The following table summarizes the amortized cost and fair value of the available for sale and held to maturity securities portfolio at June 30, 2009 and the corresponding amounts of unrealized gains and losses therein:

(000s omitted)						Gross				Gross
Available for Sale		Amortized				Unrecognized				Unrecognized
2009		Cost				Gains				Losses				Fair Value
U.S. Government & federal agency		$	9,574			$	105			$	(136	)		$	9,543
State and municipal			7,873				46				(102	)			7,817
Mortgage-backed — residential			16,817				239				(32	)			17,024
Collateralized mortgage obligations			16,698				113				(1,612	)			15,199
Equity securities			2,362				10				(472	)			1,900
		$	53,324			$	513			$	(2,354	)		$	51,483

(000s omitted)						Gross				Gross
Held to Maturity		Amortized				Unrecognized				Unrecognized
2009		Cost				Gains				Losses				Fair Value
State and municipal		$	5,652			$	38			$	(35	)		$	5,655
Mortgage-backed — residential			2				0				0				2
		$	5,654			$	38			$	(35	)		$	5,657

The amortized cost and fair value of the securities portfolio are shown by expected maturity. Expected maturities may differ from contractual maturities if borrowers have the right to call or prepay obligations with or without call or prepayment penalties. Contractual maturities of securities at June 30, 2009 were as follows:

		Available for Sale
		Amortized				Fair
(000s omitted)		Cost				Value
Due in one year or less		$	8,420			$	8,441
Due from one to five years			3,750				3,714
Due from five to ten years			4,777				4,695
Due after ten years			500				511
Mortgage-backed securities			16,820				17,023
Collateralized mortgage obligations			16,698				15,199
Equity securities			2,362				1,900
		$	53,327			$	51,483

		Held to Maturity
		Amortized				Fair
(000s omitted)		Cost				Value
Due in one year or less		$	570			$	572
Due from one to five years			2,818				2,836
Due from five to ten years			2,264				2,247
Due after ten years			0				0
Mortgage-backed securities			2				2
		$	5,654			$	5,657

At June 30, 2009, there were no holdings of securities of any one issuer, other than the U.S. Government and its agencies, in an amount greater than 10% of shareholders’ equity.

Securities with unrealized losses at June 30, 2009, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position are as follows:

2009

Available for Sale		Less than 12 Months								12 Months or More								Total
(000s omitted)
Description of		Fair				Unrealized				Fair				Unrealized				Fair				Unrealized
Securities		Value				Loss				Value				Loss				Value				Loss
US Government & federal agency		$	3,438			$	(136	)		$	0			$	0			$	3,438			$	(136	)
State & municipal			2,357				(102	)			0				0				2,357				(102	)
Mortgage-backed			4,346				(32	)			0				0				4,346				(32	)
Collateralized mortgage obligations			8,437				(69	)			4,976				(1,543	)			13,413				(1,612	)
Equity securities			0				0				1,900				(472	)			1,900				(472	)
Total available for sale		$	18,578			$	(339	)		$	6,876			$	(2,015	)		$	25,454			$	(2,354	)

2009

Held to Maturity		Less than 12 Months								12 Months or More								Total
(000s omitted)
Description of		Fair				Unrealized				Fair				Unrealized				Fair				Unrealized
Securities		Value				Loss				Value				Loss				Value				Loss
State & municipal		$	1,015			$	(35	)		$	0			$	0			$	1,015			$	(35	)
Mortgage-backed			0				0				0				0				0				0
Total held to maturity		$	1,015			$	(35	)		$	0			$	0			$	1,015			$	(35	)

The Corporation evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to the length of time and the extent to which fair value has been less than cost, the financial condition and near-term prospects of the issuer, and the intent and the ability of the Corporation to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. In analyzing the issuer’s financial condition, the Corporation may consider whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, and the results of the reviews of the issuer’s financial condition.

As of June 30, 2008, the Corporation had $1,999 in proceeds from the sales of securities and no gain or loss on securities. As of June 30, 2009, the Corporation had no proceeds from the sale of securities.

Other-Than-Temporary-Impairment

Management evaluates securities for other-than-temporary impairment (“OTTI”) at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. The investment securities portfolio is evaluated for OTTI by segregating the portfolio into two general segments and applying the appropriate OTTI model. Investment securities classified as available for sale or held-to-maturity are generally evaluated for OTTI under Statement of Financial Accounting Standards (“SFAS”) No. 115, Accounting for Certain Investments in Debt and Equity Securities. However, certain purchased beneficial interests, including non-agency mortgage-backed securities, asset-backed securities, and collateralized debt obligations, that had credit ratings at the time of purchase of below AA are

evaluated using the model outlined in EITF Issue No. 99-20, Recognition of Interest Income and Impairment on Purchased Beneficial Interests and Beneficial Interests that Continue to be Held by a Transfer in Securitized Financial Assets.

In determining OTTI under the SFAS No. 115 model, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) whether the market decline was affected by macroeconomic conditions, and (4) whether the entity has the intent to sell the debt security or more likely than not will be required to sell the debt security before its anticipated recovery. The assessment of whether an other-than-temporary decline exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time.

The second segment of the portfolio uses the OTTI guidance provided by EITF 99-20 that is specific to purchased beneficial interests that, on the purchase date, were rated below AA. Under the EITF 99-20 model, the Corporation compares the present value of the remaining cash flows as estimated at the preceding evaluation date to the current expected remaining cash flows. An OTTI is deemed to have occurred if there has been an adverse change in the remaining expected future cash flows.

When OTTI occurs under either model, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, less any current-period credit loss. If an entity intends to sell or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, less any current-period credit loss, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. If an entity does not intend to sell the security and it is not more likely than not that the entity will be required to sell the security before recovery of its amortized cost basis less any current-period loss, the OTTI shall be separated into the amount representing the credit loss and the amount related to all other factors. The amount of the total OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings. The amount of the total OTTI related to other factors is recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment.

As of June 30, 2009, the Corporation’s security portfolio consisted of 65 securities, 49 of which were in an unrealized loss position. The majority of unrealized losses are related to the Corporation’s collateralized mortgage obligations (CMO’s) and equity securities, as discussed below:

Collateralized Mortgage Obligations (CMO’s) and Equity Securities

The Corporation’s unrealized losses relate primarily to its investment in collateralized mortgage obligation securities. The decline in fair value is primarily attributable to temporary illiquidity and the financial crisis affecting these markets and not necessarily the expected cash flows of the individual securities.

Management’s analysis of nine of these investments falls within the scope of EITF 99-20 and includes $16.7 million book value of collateralized mortgage obligations (CMOs). The majority of these securities were issued by U.S. government sponsored agencies, Ginnie Mae and Federal Home Loan Bank. In addition, the portfolio contains three private label securities. For private label securities, management completes an analysis to review the recent performance of the mortgage pools underlying the instruments. Management reviews payment streams, delinquency ratios, geographic distribution, ratings and general market conditions. Following the June 30, 2009 analysis, managements review did not indicate other-than-temporary impairment on these securities.

On a quarterly basis, management reviews the Corporation’s investment in equity securities. Management reviews current market prices on publicly traded equity securities and compares the current

price to the book price. Any difference is adjusted as a temporary valuation difference, unless other resources provide other information. Equity securities that are not publicly traded receive a multi-faceted review utilizing call report data. Management reviews such performance indicators as earnings, ROE, ROA, non-performing assets, brokered deposits and capital ratios. Management draws conclusions from this information, as well as any published information or trading activity received from the individual institutions, to assist in determining if a temporary valuation adjustment is warranted. The equity securities portfolio has an amortized cost of $2,362,000. Currently, the equity securities have a net unrecognized loss of $472,000, for a fair value of $1,900,000. As of the end of the second quarter, management performed its review and determined that an other than temporary impairment was necessary on one equity security in the portfolio. The determination was made based on the age of the denovo, unfavorable changes in performance of their loan portfolio and decreases in capital ratios. The impairment taken on the individual security totaled $200,000. The remaining securities in the portfolio do not hold other-than-temporary impairment.

Other Securities

At June 30, 2009, approximately 88% of the mortgage-backed securities held by the Corporation were issued by U.S. government-sponsored entities and agencies, primarily Fannie Mae and Freddie Mac, institutions which the government has affirmed its commitment to support. Because the decline in fair value is attributable to changes in interest rates and illiquidity, and not credit quality, and because the Corporation does not have the intent to sell these mortgage-backed securities and it is likely that it will not be required to sell the securities before their anticipated recovery, the Corporation does not consider these securities to be other-than-temporarily impaired at June 30, 2009.

The Corporation’s mortgage-backed securities portfolio includes non-agency collateralized mortgage obligations with a market value of $5.0 million which had unrealized losses of approximately $1.6 million at June 30, 2009. The Corporation monitors to insure it has adequate credit support and as of June 30, 2009, the Corporation believes there is no OTTI and does not have the intent to sell these securities and it is likely that it will not be required to sell the securities before their anticipated recovery.

NOTE 4 — LOANS AND ALLOWANCE FOR LOAN LOSSES

Major categories of loans at June 30, 2009 and December 31, 2008, are as follows:

(000s omitted)		June 30, 2009				December 31, 2008
Commercial		$	278,224			$	289,523
Real estate — construction			37,028				48,777
Real estate — mortgage			33,050				37,828
Consumer			50,669				52,910
			398,971				429,038
Less allowance for loan losses			13,970				10,455
		$	385,001			$	418,583

The Corporation has originated primarily residential and commercial real estate loans, commercial, construction and installment loans. The Corporation estimates that the majority of their loan portfolio is based in Genesee, Oakland and Livingston counties within southeast Michigan; in Kent and Ottawa counties in west Michigan, with the remainder of the portfolio distributed throughout Michigan. The ability of the Corporation’s debtors to honor their contracts is dependent upon the real estate and general economic conditions in these areas.

Activity in the allowance for loan losses, for the six month periods ended June 30, 2009 and June 30, 2008 is as follows:

(000s omitted)		June 30, 2009				June 30, 2008
Balance, January 1,		$	10,455			$	7,592
Provision for loan losses			9,366				4,455
Loans charged off			(5,958	)			(929	)
Loan recoveries			107				262
Balance, end of period		$	13,970			$	11,380

Activity in the allowance for loan losses, for the three month periods ended June 30, 2009 and June 30, 2008 is as follows:

(000s omitted)		June 30, 2009				June 30, 2008
Balance, April 1,		$	11,405			$	8,325
Provision for loan losses			7,711				3,475
Loans charged off			(5,194	)			(500	)
Loan recoveries			48				80
Balance, end of period		$	13,970			$	11,380

Loan impairment is measured by valuing the underlying collateral or by estimating the expected future cash flows and discounting them at the respective effective interest rate. The recorded investment in these loans is as follows at June 30:

(000s omitted)		June 30, 2009				December 31, 2008
Period end loans not requiring allocation		$	15,205			$	19,086
Period end loans requiring allocation			35,208				29,090
		$	50,413			$	48,176
Amount of the allowance for loan losses allocated		$	8,465			$	5,642

Nonaccrual loans and loans past due 90 days still on accrual were as follows:

(000s omitted)		June 30, 2009				December 31, 2008
Loans past due over 90 days still on accrual		$	15			$	667
Renegotiated loans		$	108			$	942
Nonaccrual loans		$	23,872			$	24,325

Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.

NOTE 6 — INCOME TAXES

A valuation allowance related to deferred tax assets is required when it is considered more likely than not that all or part of the benefit related to such assets will not be realized. Management has reviewed the deferred tax position for the Corporation at June 30, 2009. The deferred tax position has been impacted by several significant transactions in the past few years. These transactions included other than temporary impairment write-offs of certain investments, goodwill impairment, and continued elevated levels of provision for loan losses. As a result, the Corporation is in a cumulative loss position over the past few years and under the applicable accounting guidance, has concluded that it is not “more likely than not” that we will be able to realize our deferred tax assets and accordingly have established a full valuation allowance against our deferred tax asset at June 30, 2009. As a result, our net deferred tax asset of $6.6

million at December 31, 2008 has decreased to $0 at June 30, 2009. The valuation allowance will be analyzed quarterly for changes affecting the deferred tax assets, and as financial conditions improve and we return to consistent profitability, it may be reduced or eliminated.

NOTE 7 — EARNINGS PER COMMON SHARE

A reconciliation of the numerators and denominators used in the computation of basic earnings per common share and diluted earnings per common share is presented below. Earnings per common share are presented below for the three and six months ended June 30, 2009 and 2008:

		Three Months Ended								Six Months Ended
		June 30,								June 30,
(000s omitted except share and per share data)		2009				2008				2009				2008
Basic
Net loss		$	(15,364	)		$	(2,168	)		$	(17,023	)		$	(2,797	)
Weighted average common shares outstanding			2,196,743				2,172,177				2,191,940				2,169,692
Outstanding
Basic loss per common share		$	(6.99	)		$	(1.00	)		$	(7.77	)		$	(1.29	)
Diluted
Net loss		$	(15,364	)		$	(2,168	)		$	(17,023	)		$	(2,797	)
Weighted average common shares outstanding for basic earnings per common share			2,196,743				2,172,177				2,191,940				2,169,692
Add: Dilutive effects of assumed exercises of stock options			0				0				0				0
Average shares and dilutive potential common shares			2,196,743				2,172,177				2,191,940				2,169,692
Diluted loss per common share		$	(6.99	)		$	(1.00	)		$	(7.77	)		$	(1.29	)

There were no stock options for the three or six month periods ended June, 2009 or 2008 that were dilutive, as a result of the net loss for both periods.

NOTE 8 — COMMITMENTS AND CONTINGENCIES

There are various contingent liabilities that are not reflected in the financial statements including claims and legal actions arising in the ordinary course of business. In the opinion of management, after consultation with legal counsel, the ultimate disposition of these matters is not expected to have a material effect on the Corporation’s consolidated financial condition or results of operations.

NOTE 9 — HELD FOR SALE OPERATIONS

On March 17, 2009, The Corporation entered into an agreement to sell all of the stock of one of its bank subsidiaries, Davison State Bank, to a private, non-affiliated, investor group. The transaction is expected to close during the third quarter of 2009. At June 30, 2009, Davison had assets of $42.7 million, loans of $27.4 million; deposits of $37.8 million, equity of $2.6 million and a year-to-date net loss of $842,000. The agreement calls for consideration to be received of $3.0 million plus or minus certain closing equity adjustments. The Corporation recorded an estimated loss on the sale of Davison State Bank of $700,000 in the first quarter of 2009. The agreement also provides for a termination payment of $150,000 if either party breaches the agreement. This transaction will have minimal impact to 2009 core earnings due to the proportionate size of Davison State Bank. The Corporation projects cost savings for the fourth quarter of 2009 and beyond, as a result of this transaction.

A condensed balance sheet of held for sale operations is presented below for the periods ended June 30, 2009 and December 31, 2008. A condensed statement of income of held for sale operations are presented for the three and six months ended June 30, 2009 and June 30, 2008.

DAVISON STATE BANK
CONDENSED BALANCE SHEET OF HELD FOR SALE OPERATIONS
(Unaudited)

		June 30,				Dec 31,
(000s omitted)		2009				2008
ASSETS
Cash and cash equivalents		$	5,164			$	7,327
Securities — available for sale			7,195				5,657
Securities — held to maturity			1,190				1,190
Loans, net of allowance ($652-2009, $1,318-2008)			26,757				28,954
Other assets			2,406				2,522
Total assets		$	42,712			$	45,650
LIABILITIES AND SHAREHOLDERS’ EQUITY
Deposits:
Non-interest bearing		$	8,552			$	9,361
Interest bearing			29,295				31,004
Total deposits			37,847				40,365
Federal Home Loan Bank advances			2,000				2,000
Accrued taxes, interest and other liabilities			295				(191	)
Shareholders’ equity			2,570				3,476
Total liabilities and shareholders’ Equity		$	42,712			$	45,650

DAVISON STATE BANK
CONDENSED STATEMENT OF INCOME OF HELD FOR SALE OPERATIONS
(Unaudited)

		Three Months Ended								Six Months Ended
		June 30								June 30
(000s omitted)		2009				2008				2009				2008
Interest income		$	513			$	664			$	1,062			$	1,377
Interest expense			171				237				359				529
Net interest income			342				427				703				848
Provision for loan losses			156				336				155				437
Net interest income after provision for loan losses			186				91				548				411
Non-interest income			141				181				263				338
Non-interest expense			490				595				977				1,093
Loss before federal income tax			(163	)			(323	)			(166	)			(344	)
Federal income tax expense/(benefit)			676				(116	)			676				(127	)
Net loss		$	(839	)		$	(207	)		$	(842	)		$	(217	)

ITEM 2 — MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Certain of the Corporation’s accounting policies are important to the portrayal of the Corporation’s financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Estimates associated with these policies are susceptible to material changes as a result of changes in facts and circumstances. Facts and circumstances, which could affect these judgments, include, but without limitation, changes in interest rates, in the performance of the economy or in the financial condition of borrowers. Management believes that its critical accounting policies include determining the allowance for loan losses and determining the fair value of securities, carrying value of deferred tax assets and other financial instruments.

The Corporation evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to the length of time and the extent to which fair value has been less than cost, the financial condition and near-term prospects of the issuer, and the intent and the ability of the Corporation to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. In analyzing an issuer’s financial condition, the Corporation may consider whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, and the results of the reviews of the issuer’s financial condition.

Results of Operations

The Corporation posted a loss of $15,364,000 for the three months ended June 30, 2009 versus a loss of $2,168,000 for the same period in 2008. Significant charges in the second quarter included the establishment of a $5,998,000 valuation reserve for deferred taxes, provision for loan losses of $7,711,000, and the write off of the Corporation’s remaining investment in an Arizona bank of $874,000.

Note 6 discussed the required establishment of a reserve against deferred tax assets, i.e. future tax deductions. The Corporation recognized a reserve of $5,998,000 at the end of the second quarter of 2009. Management believes cost reduction initiatives along with the sale of Davison State Bank and aggressive loan and deposit pricing will return the Corporation to profitability in future quarters. The markets in which the Corporation operates, however, have not shown signs of recovery as evidenced by the $7,711,000 in provision for loan losses for the quarter. The possibility of further loan losses coupled with the Corporation’s losses the last three years creates uncertainty regarding the usability of these deferred tax assets. In uncertain situations, accounting rules require these assets to be offset by a reserve, which is the action taken by the Corporation during the quarter. In future periods, if it becomes more likely these assets can be utilized the Corporation can write them back onto the books. Evidence to substantiate the transaction would include several consecutive quarters and/or years of profitability, an increase in the value of certain capital investments and an improvement in the Michigan economy.

As briefly described above, the Corporation provided an additional $7,711,000 of provision for loan losses in the second quarter of 2009. The total provision for the first six months of 2009 is $9,366,000. This is compared to $3,475,000 in the second quarter of 2008 and $4,455,000 for the first six months of 2008. Lower appraised values for loans in the Corporation’s substandard category and softness in the commercial real estate market were significant factors behind the additional provision amounts.

In 2007, the Corporation invested in an Arizona bank to diversify outside the Michigan market. The Arizona economy has experienced similar economic conditions as Michigan, raising concerns regarding the financial liability of the Arizona bank. As a result, the Corporation elected to write off the remaining investment in the Arizona bank. The second quarter write off of $874,000 brings the 2009 total charges to $1,360,000.

On March 17, 2009, the Corporation entered into an agreement to sell all of the stock of one of its bank subsidiaries, Davison State Bank, to a private non-affiliated, investor group. The transaction is expected to close during the third quarter of 2009. In the first quarter of 2009, the Corporation recorded, in other operating expenses, an estimated loss on the sale of $700,000 along with estimated sale related expenses of $150,000. In accordance with accounting rules, Davison State Bank is now deemed an “operation held for sale”. In addition, Davison State Bank’s results have been excluded from current period results and prior period results have been restated to exclude their results as well. Operating results for Davison State Bank are detailed in Note 8. The Corporation’s net income includes a line item after Net Loss from Continuing Operations to account for Davison State Bank’s performance in 2008 and 2009.

The banking industry uses standard performance indicators to help evaluate a banking institution’s performance. Return on average assets is one of these indicators. For the three months ended June 30, 2009, the Corporation’s return on average assets (annualized) was (10.63%) compared to (1.45%) for the same period in 2008. For six months ended June 30, 2009, the Corporation’s return on average assets (annualized) was (5.89%) compared to (0.92%) for the same period in 2008. Net loss per share, basic and diluted, was ($6.99) in the second quarter of 2009 compared to ($1.00) net loss per share basic and diluted for the same period in 2008. Net loss per share — basic and diluted was ($7.77) for the six month period ended June 30, 2009 compared to ($1.29) net loss per basic and diluted share for the same period in 2008.

Net Interest Income

Net interest income and average balances and yields on major categories of interest-earning assets and interest-bearing liabilities for the six months ended June 30, 2009 and 2008 are summarized in Table 2. Table 3 summarizes net interest income, average balances and yields on major categories of interest-earning assets and interest-earning liabilities for the three months ended June 30, 2009 and 2008. The effects of changes in average interest rates and average balances are detailed in Table 1 below.

Table 1

		SIX MONTHS ENDED
		JUNE 30,
		2009 COMPARED TO 2008
		INCREASE (DECREASE)
		DUE TO
										YIELD/
(000s omitted)		TIME				VOL				RATE				TOTAL
Taxable securities		$	(6	)		$	(235	)		$	5			$	(236	)
Tax-exempt securities (1)			(2	)			(13	)			58				43
Federal funds sold			(1	)			(107	)			0				(108	)
Total loans (1)			(79	)			(573	)			(1,234	)			(1,886	)
Loans held for sale			0				15				(9	)			6
Total earning assets			(88	)			(913	)			(1,180	)			(2,181	)
Interest bearing demand deposits			(4	)			(50	)			(291	)			(345	)
Savings deposits			(2	)			(5	)			(122	)			(129	)
Time CD’s $100,000 and over			(19	)			(280	)			(367	)			(666	)
Other time deposits			(13	)			136				(566	)			(443	)
Other borrowings			(5	)			(162	)			(140	)			(307	)
Total interest bearing liabilities			(43	)			(361	)			(1,486	)			(1,890	)
Net Interest Income		$	(45	)		$	(552	)		$	306			$	(291	)

As indicated in Table 1, during the six months ended June 30, 2009, net interest income decreased $291,000 compared to the same period in 2008. Total average earning assets declined 7.2% in balances year-over-year and resulted in a 6.9% decline in yield on these assets. Management was successful in offsetting this lost income by reducing average interest rates on interest bearing liabilities. Management reduced the cost of interest bearing liabilities from 3.44% at June 30, 2008 to 2.71% at June 30, 2009. This is a 21.2% reduction in rate when comparing the two periods. As indicated in Table 2, the Corporation’s net interest margin (with consideration of full tax equivalency) improved to 3.35% compared to 3.22% for the same period in 2008, as a result of management’s strategy.

Net interest income (displayed with consideration of full tax equivalency), average balance sheet amounts, and the corresponding yields for the three months ended June 30, 2009 and 2008 are shown in Table 3. Net interest income for the three months ended June 30, 2009 was $3,710,000, a decrease of $415,000, or 10.0%, over the same period in 2008. The decrease is due to a decrease in balances of earning assets of 6.92% as well as a decrease of 6.91% in their average yield. During this same period, interest bearing liability rates decreased 16.0%. Management reduced interest bearing liability rates from 3.18% to 2.67% during the three month period. The Corporation’s net interest margin (with consideration of full tax equivalency), decreased to 3.18% for the quarter ended June 30, 2009 when compared with 3.29% for the same time in 2008. While maintaining average balances, management has been successful in reducing offering rates on interest bearing accounts including demand, savings and certificates of deposit.

Management reviews economic forecasts and strategy on a monthly basis. Accordingly, the Corporation will continue to strategically manage the balance sheet structure in an effort to create stability in net interest income. The Corporation expects to continue to seek out new loan opportunities while continuing to maintain sound credit quality.

Average earning assets decreased 7.2% or approximately $36,883,000 comparing the six months of 2009 to the same time period in 2008. Loans, the highest yielding component of earning assets, represented 88.5% of earning assets in 2009 compared to 85.5% in 2008. Average interest bearing liabilities decreased 4.0% or $18,280,000 comparing the first six months of 2009 to the same time period in 2008. Non-interest bearing deposits amounted to 14.1% of average earning assets in the first six months of 2009 compared with 12.6% in the same time period of 2008. For the second quarter of 2009 compared to 2008, average earning assets decreased 6.9% or $34,850,000. The largest decrease was in the loan portfolio as the Banks continued to reduce loan outstandings as well as loans moving into non-performing assets. Loans decreased 5.1% or $22,386,000 comparing the second quarter of 2009 to the second quarter of 2008. Loans represented 88.4% of earning assets in 2009 compared to 86.7% in 2008. Average interest bearing liabilities decreased $4,782,000 or 1.1% comparing the second quarter of 2009 to 2008. Non-interest bearing liabilities were 14.7% of average earning assets for the second quarter of 2009 versus 13.1% in the second quarter of 2008.

Management continually monitors the Corporation’s balance sheet in an effort to insulate net interest income from significant swings caused by interest rate volatility. If market rates change in 2009, corresponding changes in funding costs will be considered to avoid the potential negative impact on net interest income. The Corporation’s policies in this regard are further discussed in the section titled “Interest Rate Sensitivity Management.”

Table 2 Average Balance and Rates

		SIX MONTHS ENDED JUNE 30
		2009												2008
		AVERAGE				INCOME/				YIELD/				AVERAGE				INCOME/				YIELD/
(000s omitted)(Annualized)		BALANCE				EXPENSE				RATE				BALANCE				EXPENSE				RATE
ASSETS
Securities:
U.S. Treasury and Government Agencies		$	36,818			$	759				4.16	%		$	47,552			$	983				4.16	%
State and Political (1)			14,143				429				6.11	%			14,666				386				5.30	%
Other			3,526				50				2.86	%			4,913				62				2.54	%
Total Securities			54,487				1,238				4.58	%			67,131				1,431				4.29	%
Fed Funds Sold			0				0				0.00	%			7,279				108				2.98	%
Loans:
Commercial			328,220				9,777				6.01	%			343,374				11,247				6.59	%
Tax Free (1)			2,724				85				6.39	%			1,995				64				6.41	%
Real Estate-Mortgage			36,339				1,117				6.20	%			37,672				1,202				6.42	%
Consumer			51,693				1,465				5.72	%			53,430				1,817				6.84	%
Total loans			418,976				12,444				5.99	%			436,471				14,330				6.60	%
Allowance for Loan Losses			(10,772	)											(8,072	)
Net Loans			408,204				12,444				6.15	%			428,399				14,330				6.73	%
Loans Held for Sale			1,979				48				4.89	%			1,444				42				5.85	%
TOTAL EARNING ASSETS CONTINUING OPERATIONS		$	475,442			$	13,730				5.82	%		$	512,325			$	15,911				6.25	%
Cash Due from Banks			27,794												13,387
Assets of held for sale operations			44,138												45,697
All Other Assets			41,605												47,541
TOTAL ASSETS		$	578,207											$	610,878
LIABILITIES & SHAREHOLDERS’ EQUITY:
Deposits:
Interest bearing — DDA		$	87,954			$	411				0.94	%		$	94,234			$	756				1.61	%
Savings Deposits			73,027				205				0.57	%			74,069				334				0.91	%
Time CD’s $100,000 and Over			130,946				2,795				4.30	%			142,498				3,461				4.88	%
Other Time CD’s			114,204				1,815				3.20	%			107,708				2,258				4.22	%
Total Deposits			406,131				5,226				2.59	%			418,509				6,809				3.27	%
Other Borrowings			27,093				602				4.48	%			32,995				909				5.54	%
INTEREST BEARING LIABILITIES		$	433,224			$	5,828				2.71	%		$	451,504			$	7,718				3.44	%
Non-Interest bearing — DDA			66,897												64,612
Liabilities of held for sale operations			40,845												41,734
All Other Liabilities			1,853												3,230
Shareholders’ Equity			35,388												49,798
TOTAL LIABILITIES & SHAREHOLDERS’ EQUITY		$	578,207											$	610,878
Net Interest Rate Spread											3.11	%											2.81	%
Net Interest Income /Margin						$	7,902				3.35	%						$	8,193				3.22	%