BANK OF THE JAMES FINANCIAL GROUP INC - Quarter Report: 2012 June (Form 10-Q)

Large accelerated filer

Accelerated filer

Non-accelerated filer

Smaller reporting company

Form 10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

Quarterly Report Pursuant to Section 13 or 15(d) of

the Securities Exchange Act of 1934

For the Quarterly Period Ended June 30, 2012

BANK OF THE JAMES FINANCIAL GROUP, INC.

(Exact Name of Registrant as Specified in Its Charter)

Virginia

001-35402

20-0500300

(State or other jurisdiction of

incorporation or organization)

(Commission

file number)

(I.R.S. Employer

Identification No.)


828 Main Street, Lynchburg, VA				24504
(Address of principal executive offices)				(Zip Code)

(434) 846-2000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x Yes ¨ 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 (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). x Yes ¨ No

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

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

APPLICABLE ONLY TO CORPORATE ISSUERS

State the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practicable date: 3,342,415 shares of Common Stock, par value $2.14 per share, were outstanding at August 8, 2012.

Table of Contents



PART I – FINANCIAL INFORMATION		1

Item 1.	Consolidated Financial Statements	1

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	33

Item 4.	Controls and Procedures	52

PART II – OTHER INFORMATION		52

Item 1.	Legal Proceedings	52

Item 1A.	Risk Factors	52

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	52

Item 3.	Defaults Upon Senior Securities	52

Item 4.	Mine Safety Disclosures	52

Item 5.	Other Information	52

Item 6.	Exhibits	53

SIGNATURES		54

PART I – FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements

Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Balance Sheets

(dollar amounts in thousands, except per share amounts)


	(unaudited)			(audited)
	6/30/2012			12/31/2011
Assets

Cash and due from banks	$	18,924		$	17,678
Federal funds sold		8,362			5,662

Total cash and cash equivalents		27,286			23,340

Securities held-to-maturity (fair value of $3,437 in 2012 and $8,533 in 2011)		3,087			8,133
Securities available-for-sale, at fair value		55,674			48,338
Restricted stock, at cost		1,916			1,977
Loans, net of allowance for loan losses of $5,693 in 2012 and $5,612 in 2011		319,216			318,754
Loans held for sale		1,164			434
Premises and equipment, net		8,785			8,859
Interest receivable		1,502			1,583
Cash value—bank owned life insurance		8,773			8,609
Other real estate owned, net of valuation allowance		2,263			3,253
Other assets		3,538			4,156

Total assets	$	433,204		$	427,436

Liabilities and Stockholders’ Equity

Deposits
Noninterest bearing demand	$	56,740		$	55,569
NOW, money market and savings		234,642			230,386
Time		93,207			88,279

Total deposits	$	384,589		$	374,234

Repurchase agreements		—			8,379
FHLB borrowings		10,000			10,000
Capital notes, 6%, due 4/1/2012		—			7,000
Capital notes, 6%, due 4/1/2017		9,627			—
Interest payable		107			111
Other liabilities		582			907

Total liabilities	$	404,905		$	400,631

Stockholders’ equity
Common stock $2.14 par value; authorized 10,000,000 shares; issued and outstanding 3,342,415 as of June 30, 2012 and December 31, 2011		7,152			7,152
Additional paid-in-capital		22,775			22,775
Accumulated other comprehensive income (loss)		594			(54	)
Retained (deficit)		(2,222	)		(3,068	)

Total stockholders’ equity	$	28,299		$	26,805

Total liabilities and stockholders’ equity	$	433,204		$	427,436

See accompanying notes to these consolidated financial statements

Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Statements of Income

(dollar amounts in thousands, except per share amounts) (unaudited)


	For the Three Months				For the Six Months
	Ended June 30,				Ended June 30,
	2012		2011		2012		2011
Interest and Dividend Income
Loans	$	4,178	$	4,384	$	8,402	$	8,857
Securities
US Government and agency obligations		241		204		521		442
Mortgage backed securities		7		147		20		263
Municipals		171		124		325		212
Dividends		25		23		29		26
Other (Corporates)		17		6		23		25
Federal Funds sold		6		8		11		13

Total interest and dividend income		4,645		4,896		9,331		9,838

Interest Expense
Deposits
NOW, money market savings		209		464		414		1,076
Time deposits		392		428		813		857
FHLB borrowings		75		75		149		148
Reverse repurchase agreements		—		18		15		34
Capital notes		133		105		238		210

Total interest expense		809		1,090		1,629		2,325

Net interest income		3,836		3,806		7,702		7,513

Provision for loan losses		425		906		1,175		1,485

Net interest income after provision for loan losses		3,411		2,900		6,527		6,028

Other Operating Income
Mortgage fee income		289		243		515		529
Service charges, fees and commissions		311		272		594		555
Increase in cash value of life insurance		82		55		164		110
Other		32		19		71		36
Gain on sale or call of securities		129		169		170		200

Total other operating income		843		758		1,514		1,430

Other operating expenses
Salaries and employee benefits		1,546		1,391		3,049		2,818
Occupancy		291		272		577		548
Equipment		245		256		498		517
Supplies		103		108		216		197
Professional, data processing, and other outside expense		518		496		1,016		969
Marketing		145		108		249		187
Credit expense		56		71		112		143
Other real estate expenses		274		38		322		215
FDIC insurance expense		144		141		288		370
Other		237		323		516		410

Total other operating expenses		3,559		3,204		6,843		6,374

Income before income taxes		695		454		1,198		1,084

Income tax expense		209		135		352		330

Net Income	$	486	$	319	$	846	$	754

Weighted average shares outstanding – basic		3,342,415		3,323,743		3,342,415		3,323,743

Weighted average shares outstanding – diluted		3,343,250		3,331,426		3,342,833		3,333,764

Income per common share – basic and diluted	$	0.15	$	0.10	$	0.25	$	0.23

See accompanying notes to these consolidated financial statements

Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Statements of Comprehensive Income

Three and six months ended June 30, 2012 and 2011

(dollar amounts in thousands) (unaudited)


	Three months ended						Six months ended
	June 30,						June 30,
	2012			2011			2012			2011
Net Income	$	486		$	319		$	846		$	754

Other comprehensive income
Unrealized gains on securities available-for-sale net of deferred taxes of $444 and $254 for the three month periods and $389 and $441 for the six month periods ended June 30, 2012 and 2011		862			494			760			856

Reclassification adjustment for gains included in net income, net of taxes of $44 and $57 for the three month periods and $58 and $68 for the six month periods ended June 30, 2012 and 2011		(85	)		(112	)		(112	)		(132	)

Other comprehensive income, net of tax		777			382			648			724

Comprehensive income	$	1,263		$	701		$	1,494		$	1,478

See accompanying notes to these consolidated financial statements

Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

Six months ended June 30, 2012 and 2011

(dollar amounts in thousands) (unaudited)


	June 30,
	2012			2011
Cash flows from operating activities
Net Income	$	846		$	754

Adjustments to reconcile net income to net cash provided by operating activities
Depreciation		334			367
Net amortization and accretion of premiums and discounts on securities		299			292
(Gain) on sale of available-for-sale securities		(170	)		(200	)
Provision for loan losses		1,175			1,485
Loss on sale of other real estate owned		81			215
Impairment of other real estate owned		200			—
Increase in loans held for sale		(730	)		(215	)
(Increase) in cash value of life insurance		(164	)		(110	)
Decrease in interest receivable		81			54
(Increase) decrease in other assets		309			565
(Increase) in income taxes receivable		(22	)		(45	)
(Decrease) in interest payable		(4	)		(1	)
(Decrease) in other liabilities		(325	)		(161	)

Net cash provided by operating activities	$	1,910		$	3,000

Cash flows from investing activities
Purchases of securities held-to-maturity	$	—		$	(1,000	)
Proceeds from maturities and calls of securities held-to-maturity		5,000			6,000
Purchases of securities available-for-sale		(25,400	)		(26,318	)
Proceeds from maturities, calls and paydowns of securities available-for-sale		10,488			4,911
Proceeds from sale of securities available-for-sale		8,472			11,928
Redemption of Federal Home Loan Bank stock		61			100
Proceeds from sale of other real estate owned		2,088			974
Improvements to other real estate owned		(5	)		(10	)
Origination of loans, net of principal collected		(3,011	)		(2,391	)
Purchases of premises and equipment		(260	)		(549	)

Net cash (used in) investing activities	$	(2,567	)	$	(6,355	)

Cash flows from financing activities
Net increase in deposits	$	10,355		$	8,161
Net increase (decrease) in repurchase agreements		(8,379	)		1,220
Payoff of 6% senior capital notes due 4/1/2012		(7,000	)		—
Proceeds from sale of 6% senior capital notes due 4/1/2017		9,627			—

Net cash provided by financing activities	$	4,603		$	9,381


Increase in cash and cash equivalents		3,946			6,026

Cash and cash equivalents at beginning of period	$	23,340		$	18,759

Cash and cash equivalents at end of period	$	27,286		$	24,785

Non cash transactions
Transfer of loans to foreclosed assets	$	1,434		$	2,020
Fair value adjustment for securities		979			1,097

Cash transactions
Cash paid for interest	$	1,633		$	2,326
Cash paid for taxes		370			375

See accompanying notes to these consolidated financial statements

Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Statements of Changes in Stockholders’ Equity

(dollars in thousands) (unaudited)


	Total Shares Outstanding		Common Stock		Additional Paid-in Capital		Retained Earnings (Deficit)			Accumulated Other Comprehensive Income (Loss)			Total
Balance at December 31, 2010		3,323,743	$	7,113	$	22,742	$	(3,668	)	$	(692	)	$	25,495

Net Income		—		—		—		754			—			754

Other Comprehensive Income		—		—		—		—			724			724

Balance at June 30, 2011		3,323,743	$	7,113	$	22,742	$	(2,914	)	$	32		$	26,973


Balance at December 31, 2011		3,342,415	$	7,152	$	22,775	$	(3,068	)	$	(54	)	$	26,805

Net Income		—		—		—		846			—			846

Other Comprehensive Income		—		—		—		—			648			648

Balance at June 30, 2012		3,342,415	$	7,152	$	22,775	$	(2,222	)	$	594		$	28,299

See accompanying notes to these consolidated financial statements

Notes to Consolidated Financial Statements

Note 1 – Basis of Presentation

The unaudited consolidated financial statements have been prepared by Bank of the James Financial Group, Inc. (“Financial” or the “Company”) pursuant to the rules and regulations of the Securities and Exchange Commission. In management’s opinion the accompanying financial statements, which unless otherwise noted are unaudited, reflect all adjustments, consisting solely of normal recurring accruals, necessary for a fair presentation of the financial information as of and for the three and six months ended June 30, 2012 and 2011 in conformity with accounting principles generally accepted in the United States of America. Additional information concerning the organization and business of Financial, accounting policies followed, and other related information is contained in Financial’s Annual Report on Form 10-K for the year ended December 31, 2011. These financial statements should be read in conjunction with the audited consolidated financial statements and footnotes for the year ended December 31, 2011 included in Financial’s Annual Report on Form 10-K. Results for the three and six month periods ended June 30, 2012 are not necessarily indicative of the results that may be expected for the year ending December 31, 2012.

The Company’s primary market area consists of the area commonly referred to as Region 2000 which encompasses the seven jurisdictions of the Town of Altavista, Amherst County, Appomattox County, the City of Bedford, Bedford County, Campbell County, and the City of Lynchburg.

Financial’s critical accounting policy relates to the evaluation of the allowance for loan losses which is based on management’s opinion of an amount that is adequate to absorb loss in the existing loan portfolio of Bank of the James (the “Bank”), Financial’s wholly-owned subsidiary. The allowance for loan losses is established through a provision for loan loss based on available information including the composition of the loan portfolio, historical loan losses (to the extent available due to limited history), specific impaired loans, availability and quality of collateral, age of the various portfolios, changes in local economic conditions, and loan performance and quality of the portfolio. Different assumptions used in evaluating the adequacy of the Bank’s allowance for loan losses could result in material changes in Financial’s financial condition and results of operations. The Bank’s policies with respect to the methodology for determining the allowance for loan losses involve a higher degree of complexity and require management to make subjective judgments that often require assumptions or estimates about uncertain matters. These critical policies and their assumptions are periodically reviewed with the Board of Directors.

Note 2 – Use of Estimates

The consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America which require management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

Note 3 – Earnings Per Share

Currently, only the option shares granted to certain officers and other employees of Financial pursuant to the Amended and Restated Stock Option Plan of 1999 Financial (the “1999 Plan”) are considered dilutive. The following is a summary of the earnings per share calculation for the three and six months ended June 30, 2012 and 2011.


	Three months ended				Year to date,
	June 30,				June 30
	2012		2011		2012		2011
Net income	$	486,000	$	319,000	$	846,000	$	754,000

Weighted average number of shares		3,342,415		3,323,743		3,342,415		3,323,743
Options effect of incremental shares		835		7,683		418		10,021

Weighted average diluted shares		3,343,250		3,331,426		3,342,833		3,333,764

Basic EPS (weighted avg shares)	$	0.15	$	0.10	$	0.25	$	0.23

Diluted EPS (Including Option Shares)	$	0.15	$	0.10	$	0.25	$	0.23

The following table sets forth the incremental shares associated with option shares that were not included in calculating the diluted earnings because their effect was anti-dilutive:

Three months ended

Year to date

June 30,

2012

2011

2012

2011

Incremental shares excluded from calculating diluted EPS because their effect was anti-dilutive

175,847

248,239

216,492

207,305

Note 4 – Stock Based Compensation

Accounting standards require companies to recognize the cost of employee services received in exchange for awards of equity instruments, such as stock options and restricted stock, based on the fair value of those awards at the date of grant.

Note 4 – Stock Based Compensation (continued)

Stock option plan activity for the six months ended June 30, 2012 is summarized below:


	Shares			Weighted Average Exercise Price		Weighted Average Remaining Contractual Life (in years)		Intrinsic Value
Options outstanding, January 1, 2012		216,886		$	8.83
Exercised		—			—
Forfeited		(394	)	$	10.82

Options outstanding, June 30, 2012		216,492		$	8.83		2.21	$	6,910

Options exercisable, June 30, 2012		216,492		$	8.83		2.21	$	6,910

Intrinsic value is calculated by subtracting exercise price of option shares from the market price of underlying shares and multiplying that amount by the number of options outstanding. No intrinsic value exists where the exercise price is greater than the market price on a given date.

All compensation expense related to the foregoing stock option plan has been recognized. The Company’s ability to grant additional options shares under the 1999 Plan has expired.

Note 5 – Fair Value Measurements

Determination of Fair Value

The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. In accordance with the Fair Value Measurements and Disclosures topic of FASB ASC, the fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.

The fair value guidance provides a consistent definition of fair value, which focuses on exit price in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is most representative of fair value under current market conditions.

Note 5 – Fair Value Measurements (continued)

Fair Value Hierarchy

In accordance with this guidance, the Company groups its financial assets and financial liabilities generally measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.

•

Level 1 inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

•

Level 2 inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

•

Level 3 inputs to the valuation methodology are unobservable and significant to the fair value measurement.

Following is a description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy:

Securities available-for-sale

Where quoted prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities would include highly liquid government bonds, mortgage products and exchange traded equities. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, or discounted cash flow. Level 2 securities would include U.S. agency securities, mortgage-backed agency securities, obligations of states and political subdivisions and certain corporate, asset backed and other securities. In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy. Currently, all of the Company’s securities are considered to be Level 2 securities.

Note 5 – Fair Value Measurements (continued)

The following table summarizes the Company’s financial assets that were measured at fair value on a recurring basis during the period (in thousands):


			Carrying Value at June 30, 2012
Description	Balance as of June 30, 2012		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
US agency obligations	$	27,566	$	—	$	27,566	$	—
Mortgage-backed securities		2,799		—		2,799		—
Municipals		22,611		—		22,611		—
Other (corporates)		2,698		—		2,698		—

Total available-for-sale securities	$	55,674	$	—	$	55,674	$	—


			Carrying Value at December 31, 2011
Description	Balance as of December 31, 2011		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
US agency obligations	$	25,485	$	—	$	25,485	$	—
Mortgage-backed securities		3,939		—		3,939		—
Municipals		18,914		—		18,914		—

Total available-for-sale securities	$	48,338	$	—	$	48,338	$	—

Impaired loans

Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. The measurement of loss associated with impaired loans can be based on either the observable market price of the loan or the fair value of the collateral. Fair value is measured based on the value of the collateral securing the loans. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The vast majority of the collateral is real estate. The value of real estate collateral is determined utilizing an income or market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Bank using observable market data (Level 2). However, if the collateral is a house or building in the process of construction or if an appraisal of the real estate property is over one year old, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’ financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3). Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Consolidated Statements of Income.

Note 5 – Fair Value Measurements (continued)

Other Real Estate Owned

Certain assets such as other real estate owned (OREO) are measured at fair value less cost to sell. We believe that the fair value component in its valuation follows the provisions of ASC 820.

Real estate acquired through foreclosure is transferred to OREO. The measurement of loss associated with OREO is based on the fair value of the collateral compared to the unpaid loan balance and anticipated costs to sell the property. The value of OREO collateral is determined utilizing an income or market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Bank using observable market data (Level 2). However, if the collateral is a house or building in the process of construction or if an appraisal of the real estate is over one year old, then the fair value is considered Level 3. Any fair value adjustments are recorded in the period incurred and expensed against current earnings.

The following table summarizes the Company’s impaired loans and OREO measured at fair value on a nonrecurring basis during the period (in thousands).


			Carrying Value at June 30, 2012
Description	Balance as of June 30, 2012		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Impaired loans*	$	6,322	$	—	$	3,151	$	3,171
Other real estate owned	$	2,263	$	—	$	2,263	$	—

* Includes loans charged down during the quarter to the net realizable value of the collateral.


			Carrying Value at December 31, 2011
Description	Balance as of December 31, 2011		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Impaired loans*	$	10,655	$	—	$	2,710	$	7,945
Other real estate owned	$	3,253	$	—	$	3,253	$	—

* Includes loans charged down during the quarter to the net realizable value of the collateral.

Note 5 – Fair Value Measurements (continued)

The following table sets forth information regarding the quantitative inputs used to value assets classified as Level 3:

Quantitative information about Level 3 Fair Value Measurements for June 30, 2012
(dollars in thousands)

Fair
Value

Valuation Technique(s)

Unobservable Input

Range
(Weighted
Average)

Assets

Impaired loans

3,171

Discounted appraised value

Selling cost

5% - 10% (6%)

Discount for lack of marketability and age of appraisal

0% - 25% (15%)

The following table summarizes activity at the Level 3 valuation for the first six months of 2012:


Six months ended June 30, 2012 (dollars in thousands)
Balance as of December 31, 2011	$	7,945
Transfers to Level 3		514
Changes in loan balances due to payments		(17	)
Loans no longer considered impaired or transferred to Level 2		(5,271	)

Ending balance as of June 30, 2012	$	3,171

Financial Instruments

Cash, cash equivalents and Federal Funds sold

The carrying amounts of cash and short-term instruments approximate fair values.

Securities

Fair values of securities, excluding Federal Reserve Bank stock, Federal Home Loan Bank stock, and Community Bankers’ Bank stock are based on quoted market prices.

Loans

For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. Fair values for certain fixed rate loans are based on quoted market prices of similar loans adjusted for differences in loan characteristics. Fair values for other loans such as commercial real estate and commercial and industrial loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Fair values of nonperforming loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable.

Bank Owned Life Insurance (BOLI)

The carrying amount approximates fair value.

Note 5 – Fair Value Measurements (continued)

Deposits

Fair values disclosed for demand deposits (e.g., interest and noninterest checking, savings, and money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). Fair values for fixed rate certificates of deposit are estimated using discounted cash flow analyses that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits.

FHLB borrowings

The fair value of FHLB borrowings is estimated using discounted cash flow analysis based on the rates currently offered for borrowings of similar remaining maturities and collateral requirements.

Short-term borrowings

The carrying amounts of federal funds purchased, borrowings under repurchase agreements, and other short-term borrowings maturing within ninety days approximate fair value.

Capital notes

Fair values of capital notes are based on market prices for debt securities having similar maturity and interest rate characteristics.

Accrued interest

The carrying amounts of accrued interest approximate fair value.

Off-balance sheet credit-related instruments

Fair values for off-balance sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. Fair value of off-balance sheet credit-related instruments were deemed to be immaterial at June 30, 2012 and December 31, 2011 and therefore are not included in the table below.

Note 5 – Fair Value Measurements (continued)

The estimated fair values, and related carrying or notional amounts, of Financial’s financial instruments are as follows (in thousands):


			Fair Value Measurements at June 30, 2012 using
			Quoted
			Prices
			in Active		Significant
			Markets for		Other		Significant
			Identical		Observable		Unobservable
	Carrying		Assets		Inputs		Inputs
	Amounts		(Level 1)		(Level 2)		(Level 3)		Balance
Assets
Cash and due from banks	$	18,924	$	18,924	$	—	$	—	$	18,924
Federal funds sold		8,362		8,362		—		—		8,362
Securities
Available-for-sale		55,674		—		55,674		—		55,674
Held-to-maturity		3,087		—		3,437		—		3,437
Loans, net		319,216		—		326,005		3,171		329,176
Loans held for sale		1,164		—		1,164		—		1,164
Interest receivable		1,502		—		1,502		—		1,502
BOLI		8,773		—		8,773		—		8,773

Liabilities
Deposits	$	384,589	$	—	$	386,397	$	—	$	386,397
FHLB borrowings		10,000		—		9,774		—		9,774
Capital notes		9,627		—		9,409		—		9,409
Interest payable		107		—		107		—		107

Note 5 – Fair Value Measurements (continued)


			Fair Value Measurements at December 31, 2011 using
			Quoted
			Prices
			in Active		Significant
			Markets for		Other		Significant
			Identical		Observable		Unobservable
	Carrying		Assets		Inputs		Inputs
	Amounts		(Level 1)		(Level 2)		(Level 3)		Balance
Assets
Cash and due from banks	$	17,678	$	17,678	$	—	$	—	$	17,678
Federal funds sold		5,662		5,662		—		—		5,662
Securities
Available-for-sale		48,338		—		48,338		—		48,338
Held-to-maturity		8,133		—		8,533		—		8,533
Loans, net		318,754		—		320,658		7,945		328,603
Loans held for sale		434		—		434		—		434
Interest receivable		1,583		—		1,583		—		1,583
BOLI		8,609		—		8,609		—		8,609

Liabilities
Deposits	$	374,234	$	—	$	375,544	$	—	$	375,544
FHLB borrowings		10,000		—		9,752		—		9,752
Repurchase agreements		8,379		—		8,392		—		8,392
Capital notes		7,000		—		6,826		—		6,826
Interest payable		111		—		111		—		111

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 Bank’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Bank’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments 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.

Fair value estimates are based on existing on-balance-sheet and off-balance-sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets that are not considered financial assets include deferred income taxes and bank premises and equipment; a significant liability that is not considered a financial liability is accrued post-retirement benefits. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.

Financial assumes interest rate risk (the risk that general interest rate levels will change) as a result of its normal operations. As a result, the fair values of Financial’s financial instruments will change when interest rate levels change, and that change may be either favorable or unfavorable to the Bank. Management attempts to match maturities of assets and liabilities to the extent believed necessary to minimize interest

Note 5 – Fair Value Measurements (continued)

rate risk. However, borrowers with fixed rate obligations are less likely to prepay in a rising rate environment and more likely to prepay in a falling rate environment. Conversely, depositors who are receiving fixed rates are more likely to withdraw funds before maturity in a rising rate environment and less likely to do so in a falling rate environment.

Management monitors rates and maturities of assets and liabilities and attempts to minimize interest rate risk by adjusting terms of new loans and deposits and by investing in securities with terms that mitigate the Bank’s overall interest rate risk.

Note 6 – Capital Notes

In connection with a private placement of unregistered debt securities, Financial issued capital notes in the amount $7,000,000 (the “Notes”) in 2009. The Notes bore interest at the rate of 6% per year with interest payable quarterly in arrears. During the three months ended March 31, 2012, Financial made a final interest payment on the Notes totaling $105,000. No principal payments were due until the Notes matured on April 1, 2012. Financial paid the Notes in full on or about this date with proceeds from the 2012 Offering described below.

Financial currently is conducting a private placement of unregistered debt securities (the “2012 Offering”) pursuant to which Financial is authorized to issue up to $12,000,000 in principal of notes (the “2012 Notes”). As of June 30, 2012, Financial had issued 2012 Notes in the amount $9,627,000. The 2012 Notes bear interest at the rate of 6% per year with interest payable quarterly in arrears. The first quarterly interest payment on the 2012 Notes was due on July 1, 2012 and paid on or about June 29, 2012. No principal payments are due until the Notes mature on April 1, 2017 unless the Notes are called in full or in part after April 1, 2013.

On the maturity date or a call date, the principal and all accrued but unpaid interest on the Notes will be due and payable. Although Financial is authorized to sell up to $12,000,000 in 2012 Notes, Financial has determined that it will close the 2012 Offering at such time as it has sold $10,000,000 in principal of 2012 Notes, or it terminates the offering, or, whichever occurs first.

Note 7—Investments

The following tables summarize the Bank’s holdings for both securities held-to-maturity and securities available-for-sale as of June 30, 2012 and December 31, 2011 (amounts in thousands):


	June 30, 2012
	Amortized Costs		Gross Unrealized					Fair Value
	Amortized Costs		Gains		(Losses)			Fair Value
Held-to-Maturity
US agency obligations	$	3,087	$	350	$	—		$	3,437

Available-for-Sale
US agency obligations	$	27,172	$	404	$	(10	)	$	27,566
Mortgage-backed securities		2,860		—		(61	)		2,799
Municipals		22,063		559		(11	)		22,611
Other		2,678		27		(7	)		2,698

	$	54,773	$	990	$	(89	)	$	55,674


	December 31, 2011
	Amortized Costs		Gross Unrealized					Fair Value
	Amortized Costs		Gains		(Losses)			Fair Value
Held-to-Maturity
US agency obligations	$	8,133	$	400	$	—		$	8,533

Available-for-Sale
US agency obligations	$	25,416	$	117	$	(48	)	$	25,485
Mortgage-backed securities		3,938		5		(4	)		3,939
Municipals		19,062		241		(389	)		18,914

	$	48,416	$	363	$	(441	)	$	48,338

Note 7 – Investments (continued)

The following tables show the gross unrealized losses and fair value of the Bank’s investments with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at June 30, 2012 and December 31, 2011 (amounts in thousands):


	Less than 12 months				More than 12 months				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
June 30, 2012	Value		Losses		Value		Losses		Value		Losses
Description of securities
U.S. agency obligations	$	4,045	$	10	$	—	$	—	$	4,045	$	10
Mortgage-backed securities		2,799		61		—		—		2,799		61
Municipals		1,728		11		—		—		1,728		11
Other (corporates)		1,647		7		—		—		1,647		7

Total	$	10,219	$	89	$	—	$	—	$	10,219	$	89


	Less than 12 months				More than 12 months				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
December 31, 2011	Value		Losses		Value		Losses		Value		Losses
Description of securities
U.S. agency obligations	$	13,593	$	48	$	—	$	—	$	13,593	$	48
Mortgage-backed securities		985		4		—		—		985		4
Municipals		12,852		389		—		—		12,852		389

Total	$	27,430	$	441	$	—	$	—	$	27,430	$	441

Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and may do so more frequently when economic or market concerns warrant such evaluation. Consideration is given to (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) the intent of Financial, if any, to sell the security; (4) whether Financial more likely than not will be required to sell the security before recovering its cost; and (5) whether Financial does not expect to recover the security’s entire amortized cost basis (even if Financial does not intend to sell the security).

At June 30, 2012, the Company did not consider the unrealized losses as other-than-temporary losses due to the nature of the securities involved. As of June 30, 2012, the Bank owned 9 securities that were being evaluated for other than temporary impairment. Two of these securities were S&P rated AAA and 7 were S&P rated AA. As of June 30, 2012, 5 of these securities were obligations of government sponsored entities, 2 were municipal issues and 2 were issued by publicly traded US corporations.

Based on the analysis performed by management as mandated by the Bank’s investment policy, management believes the default risk to be minimal. Because the Bank expects to recover the entire amortized cost basis, no declines currently are deemed to be other-than-temporary.

Note 8 – Business Segments

The Company has two reportable business segments: (i) a traditional full service community banking segment and, (ii) a mortgage loan origination business. The community banking business segment includes Bank of the James which provides loans, deposits, investments and insurance to retail and commercial customers throughout Region 2000. The mortgage segment provides a variety of mortgage loan products principally within Region 2000. Mortgage loans are originated and sold in the secondary market through purchase commitments from investors. Because of the pre-arranged purchase commitments, there is minimal risk to the Company.

Both of the Company’s reportable segments are service based. The mortgage business is a fee-based business while the Bank’s primary source of revenue is net interest income. The Bank also provides a referral network for the mortgage origination business. The mortgage business may also be in a position to refer its customers to the Bank for banking services when appropriate.

Note 8 – Business Segments (continued)

Information about reportable business segments and reconciliation of such information to the consolidated financial statements for six months ended June 30, 2012 and 2011 was as follows (dollars in thousands):

Business Segments


	Community
	Banking		Mortgage		Total
Three months ended June 30, 2012
Net interest income	$	3,836	$	—	$	3,836
Provision for loan losses		425		—		425

Net interest income after provision for loan losses		3,411		—		3,411
Noninterest income		554		289		843
Noninterest expenses		3,318		241		3,559

Income before income taxes		647		48		695
Income tax expense		193		16		209
Net income	$	454	$	32	$	486

Total assets	$	431,967	$	1,237	$	433,204

Six months ended June 30, 2012
Net interest income	$	7,702	$	—	$	7,702
Provision for loan losses		1,175		—		1,175

Net interest income after provision for loan losses		6,527		—		6,527
Noninterest income		999		515		1,514
Noninterest expenses		6,407		436		6,843

Income before income taxes		1,119		79		1,198
Income tax expense		325		27		352

Net income	$	794	$	52	$	846

Total assets	$	431,967	$	1,237	$	433,204

Three months ended June 30, 2011
Net interest income	$	3,806	$	—	$	3,806
Provision for loan losses		906		—		906

Net interest income after provision for loan losses		2,900		—		2,900
Noninterest income		515		243		758
Noninterest expenses		2,990		214		3,204

Income before income taxes		425		29		454
Income tax expense		125		10		135

Net income	$	300	$	19	$	319

Total assets	$	429,122	$	503	$	429,625

Six months ended June 30, 2011
Net interest income	$	7,513	$	—	$	7,513
Provision for loan losses		1,485		—		1,485

Net interest income after provision for loan losses		6,028		—		6,028
Noninterest income		901		529		1,430
Noninterest expenses		5,915		459		6,374

Income before income taxes		1,014		70		1,084
Income tax expense		306		24		330

Net income	$	708	$	46	$	754

Total assets	$	429,122	$	503	$	429,625

Note 9 – Loans, allowance for loan losses and OREO

Management has an established methodology used to determine the adequacy of the allowance for loan losses that assesses the risks and losses inherent in the loan portfolio. For purposes of determining the allowance for loan losses, the Bank has segmented certain loans in the portfolio by product type. Within these segments, the Bank has sub-segmented its portfolio by classes within the segments, based on the associated risks within these classes. The classifications set forth below do not correspond directly to the classifications set forth in the call report (Form FFIEC 041). Management has determined that the classifications set forth below are more appropriate for use in identifying and managing risk in the loan portfolio.


Loan Segments:		Loan Classes:

Commercial		Commercial and industrial loans

Commercial real estate		Commercial mortgages – owner occupied
		Commercial mortgages – non-owner occupied
		Commercial construction

Consumer		Consumer unsecured
		Consumer secured

Residential		Residential mortgages
		Residential consumer construction

A summary of loans, net is as follows (dollars in thousands):


	As of:
	June 30, 2012		December 31, 2011
Commercial	$	56,846	$	59,623
Commercial real estate		151,937		150,622
Consumer		71,283		72,488
Residential		44,843		41,633

Total loans		324,909		324,366

Less allowance for loan losses		5,693		5,612

Net loans	$	319,216	$	318,754

The Bank’s internal risk rating system is in place to grade commercial and commercial real estate loans. Category ratings are reviewed periodically by lenders and the credit review area of the Bank based on the borrower’s individual situation. Additionally, internal and external monitoring and review of credits are conducted on an annual basis.

Note 9 – Loans and allowance for loan losses and OREO (continued)

Below is a summary and definition of the Bank’s risk rating categories:


RATING 1		Excellent
RATING 2		Above Average
RATING 3		Satisfactory
RATING 4		Acceptable / Low Satisfactory
RATING 5		Monitor
RATING 6		Special Mention
RATING 7		Substandard
RATING 8		Doubtful
RATING 9		Loss

We segregate loans into the above categories based on the following criteria and we review the characteristics of each rating at least annually, generally during the first quarter. The characteristics of these ratings are as follows:

•

“Pass.” These are loans having risk ratings of 1 through 4. Pass loans are to persons or business entities with an acceptable financial condition, appropriate collateral margins, appropriate cash flow to service the existing loan, and an appropriate leverage ratio. The borrower has paid all obligations as agreed and it is expected that this type of payment history will continue. When necessary, acceptable personal guarantors support the loan.

•

“Monitor.” These are loans having a risk rating of 5. Monitor loans have currently acceptable risk but may have the potential for a specific defined weakness in the borrower’s operations and the borrower’s ability to generate positive cash flow on a sustained basis. The borrower’s recent payment history may currently or in the future be characterized by late payments. The Bank’s risk exposure is mitigated by collateral supporting the loan. The collateral is considered to be well-margined, well maintained, accessible and readily marketable.

•

“Special Mention.” These are loans having a risk rating of 6. Special Mention loans have weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the bank’s credit position at some future date. Special Mention loans are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification. These loans do warrant more than routine monitoring due to a weakness caused by adverse events.

•

“Substandard.” These are loans having a risk rating of 7. Substandard loans are considered to have specific and well-defined weaknesses that jeopardize the viability of the Bank’s credit extension. The payment history for the loan has been inconsistent and the expected or projected primary repayment source may be inadequate to service the loan. The estimated net liquidation value of the collateral pledged and/or ability of the personal guarantor(s) to pay the loan may not adequately protect the Bank. There is a distinct possibility that the Bank will sustain some loss if the deficiencies associated with the loan are not corrected in the near term. A substandard loan would not automatically meet our definition of impaired unless the loan is significantly past due and the borrower’s performance and financial condition provides evidence that it is probable that the Bank will be unable to collect all amounts due.

•

“Doubtful.” These are loans having a risk rating of 8. Doubtful rated loans have all the weaknesses inherent in a loan that is classified substandard but 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. The possibility of loss is extremely high.

Note 9 – Loans and allowance for loan losses and OREO (continued)

•

“Loss.” These are loans having a risk rating of 9. Loss rated loans are not considered collectible under normal circumstances and there is no realistic expectation for any future payment on the loan. Loss rated loans are fully charged off.

Financing Receivables on Non-Accrual Status

(dollars in thousands)


	As of
	June 30, 2012		December 31, 2011
Commercial	$	2,257	$	3,570
Commercial Real Estate:
Commercial Mortgages-Owner Occupied		909		1,610
Commercial Mortgages-Non-Owner Occupied		1,600		2,793
Commercial Construction		1,352		782
Consumer
Consumer Unsecured		—		—
Consumer Secured		133		415
Residential:
Residential Mortgages		939		1,205
Residential Consumer Construction		—		—

Totals	$	7,190	$	10,375

We also classify other real estate owned (OREO) as a nonperforming asset. OREO represents real property owned by the Bank either through purchase at foreclosure or received from the borrower through a deed in lieu of foreclosure. OREO decreased to $2,263,000 on June 30, 2012 from $3,253,000 on December 31, 2011. The following table represents the changes in OREO balance during the six months ended June 30, 2012.

OREO Changes

(dollars in thousands)


	Six months ended June 30, 2012
Balance at the beginning of the year (gross)	$	3,253
Transfers from loans		1,374
Capitalized costs		5
Charge-Offs		(200	)
Sales proceeds		(2,088	)
(Loss) on disposition		(81	)

Balance at the end of the period (gross)		2,263

Less valuation allowance		—

Balance at the end of the period (net)	$	2,263

Note 9 – Loans and allowance for loan losses and OREO (continued)


	Impaired Loans (dollars in thousands)
	For the Year Ended June 30, 2012
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
2012
With No Related Allowance Recorded:
Commercial	$	3,467	$	3,575	$	—	$	3,412	$	42
Commercial Real Estate
Commercial Mortgages-Owner Occupied		2,305		2,360		—		2,258		93
Commercial Mortgage Non-Owner Occupied		5,908		6,080		—		5,394		131
Commercial Construction		1,202		1,312		—		1,153		27
Consumer
Consumer Unsecured		—		—		—		—		—
Consumer Secured		133		364		—		213		5
Residential
Residential Mortgages		1,873		2,027		—		1,368		43
Residential Consumer Construction		—		—		—		—		—

With An Allowance Recorded:
Commercial	$	1,685	$	1,698	$	428	$	2,327	$	34
Commercial Real Estate
Commercial Mortgages-Owner Occupied		2,225		2,515		613		2,371		63
Commercial Mortgage Non-Owner Occupied		690		866		88		1,640		16
Commercial Construction		1,797		2,072		315		1,749		—
Consumer
Consumer Unsecured		1		1		1		1		—
Consumer Secured		856		858		486		899		5
Residential
Residential Mortgages		1,132		1,404		133		1,527		20
Residential Consumer Construction		—		—		—		—		—

Totals:
Commercial	$	5,152	$	5,273	$	428	$	5,739	$	76
Commercial Real Estate
Commercial Mortgages-Owner Occupied		4,530		4,875		613		4,629		156
Commercial Mortgage Non-Owner Occupied		6,598		6,946		88		7,034		147
Commercial Construction		2,999		3,384		315		2,902		27
Consumer
Consumer Unsecured		1		1		1		1		—
Consumer Secured		989		1,222		486		1,112		10
Residential
Residential Mortgages		3,005		3,431		133		2,895		63
Residential Consumer Construction		—		—		—		—		—

	$	23,274	$	25,132	$	2,064	$	24,312	$	479

Note 9 – Loans and allowance for loan losses and OREO (continued)


	Impaired Loans (dollars in thousands)
	For the Year Ended December 31, 2011
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
2011
With No Related Allowance Recorded:
Commercial	$	3,357	$	3,570	$	—	$	8,978	$	118
Commercial Real Estate
Commercial Mortgages-Owner Occupied		2,211		3,108		—		2,457		124
Commercial Mortgage Non-Owner Occupied		4,880		5,170		—		5,418		227
Commercial Construction		1,103		1,103		—		984		38
Consumer
Consumer Unsecured		—		—		—		—		—
Consumer Secured		293		642		—		330		6
Residential
Residential Mortgages		862		1,007		—		633		15
Residential Consumer Construction		—		—		—		33		—

With An Allowance Recorded:
Commercial	$	2,968	$	3,052	$	440	$	2,170	$	106
Commercial Real Estate
Commercial Mortgages-Owner Occupied		2,516		2,686		555		3,815		137
Commercial Mortgage Non-Owner Occupied		2,590		3,129		228		1,858		117
Commercial Construction		1,700		1,964		275		2,454		42
Consumer
Consumer Unsecured		—		—		—		286		—
Consumer Secured		942		1,021		357		699		49
Residential
Residential Mortgages		1,922		2,180		128		1,847		89
Residential Consumer Construction		—		—		—		—		—

Totals:
Commercial	$	6,325	$	6,622	$	440	$	11,147	$	224
Commercial Real Estate
Commercial Mortgages-Owner Occupied		4,727		5,794		555		6,272		261
Commercial Mortgage Non-Owner Occupied		7,470		8,299		228		7,275		344
Commercial Construction		2,803		3,067		275		3,438		80
Consumer
Consumer Unsecured		—		—		—		286		—
Consumer Secured		1,235		1,663		357		1,029		55
Residential
Residential Mortgages		2,784		3,187		128		2,480		104
Residential Consumer Construction		—		—		—		33		—

	$	25,344	$	28,632	$	1,983	$	31,960	$	1,068

Note 9 – Loans and allowance for loan losses and OREO (continued)


	Allowance for Credit Losses and Recorded Investment in Financing Receivables (dollars in thousands) For the Six months Ended June 30, 2012
	Commercial			Commercial Real Estate			Consumer			Residential			Total
2012
Allowance for Credit Losses:
Beginning Balance	$	892		$	2,677		$	1,486		$	557		$	5,612
Charge-offs		(175	)		(631	)		(413	)		(12	)		(1,231	)
Recoveries		13			109			9			6			137
Provision		131			761			197			86			1,175

Ending Balance		861			2,916			1,279			637			5,693

Ending Balance: Individually evaluated for impairment	$	428		$	1,016		$	487		$	133		$	2,064

Ending Balance: Collectively evaluated for impairment		433			1,900			792			504			3,629

Totals:	$	861		$	2,916		$	1,279		$	637		$	5,693

Financing Receivables:

Ending Balance: Individually evaluated for impairment		5,152			14,127			990			3,005			23,274

Ending Balance: Collectively evaluated for impairment		51,694			137,810			70,293			41,838			301,635

Totals:	$	56,846		$	151,937		$	71,283		$	44,843		$	324,909

Note 9 – Loans and allowance for loan losses and OREO (continued)


	Allowance for Credit Losses and Recorded Investment in Financing Receivables (dollars in thousands)
	For the Year Ended December 31, 2011
	Commercial			Commercial Real Estate			Consumer			Residential			Total
2011
Allowance for Credit Losses:
Beginning Balance	$	473		$	2,897		$	1,207		$	890		$	5,467
Charge-offs		(702	)		(2,738	)		(817	)		(459	)		(4,716	)
Recoveries		16			3			31			4			54
Provision		1,105			2,515			1,065			122			4,807

Ending Balance		892			2,677			1,486			557			5,612

Ending Balance: Individually evaluated for impairment	$	440		$	1,058		$	357		$	128		$	1,983

Ending Balance: Collectively evaluated for impairment		452			1,619			1,129			429			3,629

Totals:	$	892		$	2,677		$	1,486		$	557		$	5,612

Financing Receivables:

Ending Balance: Individually evaluated for impairment		6,325			15,000			1,235			2,784			25,344

Ending Balance: Collectively evaluated for impairment		53,298			135,622			71,253			38,849			299,022

Totals:	$	59,623		$	150,622		$	72,488		$	41,633		$	324,366

Note 9 – Loans and allowance for loan losses and OREO (continued)


	Age Analysis of Past Due Financing Receivables as of June 30, 2012 (dollars in thousands)
	30-59 Days Past Due		60-89 Days Past Due		Greater than 90 Days		Total Past Due		Current		Total Financing Receivables		Recorded Investment > 90 Days & Accruing
2012
Commercial	$	550	$	167	$	2,257	$	2,974	$	53,872	$	56,846	$	—

Commercial Real Estate:
Commercial Mortgages-Owner Occupied		513		5		909		1,427		60,024		61,451		—
Commercial Mortgages-Non-Owner Occupied		1,450		8		299		1,757		78,996		80,753		—
Commercial Construction		492		638		279		1,409		8,324		9,733		—

Consumer:
Consumer Unsecured		286		—		—		286		2,977		3,263		—
Consumer Secured		282		32		133		447		67,573		68,020		—
Residential:
Residential Mortgages		207		130		809		1,146		38,729		39,875		—
Residential Consumer Construction		—		—		—		—		4,968		4,968		—

Total	$	3,780	$	980	$	4,686	$	9,446	$	315,463	$	324,909	$	—


	Age Analysis of Past Due Financing Receivables as of December 31, 2011 (dollars in thousands)
	30-59 Days Past Due		60-89 Days Past Due		Greater than 90 Days		Total Past Due		Current		Total Financing Receivables		Recorded Investment > 90 Days & Accruing
2011
Commercial	$	532	$	26	$	3,570	$	4,128	$	55,495	$	59,623	$	—

Commercial Real Estate:
Commercial Mortgages-Owner Occupied		2,614		130		1,610		4,354		56,400		60,754		—
Commercial Mortgages-Non-Owner Occupied		504		72		2,793		3,369		74,520		77,889		—
Commercial Construction		782		—		424		1,206		10,773		11,979		—
Consumer:
Consumer Unsecured		6		—		—		6		3,231		3,237		—
Consumer Secured		202		277		415		894		68,357		69,251		—
Residential:
Residential Mortgages		523		162		863		1,548		37,450		38,998		—
Residential Consumer Construction		—		—		—		—		2,635		2,635		—

Total	$	5,163	$	667	$	9,675	$	15,505	$	308,861	$	324,366	$	—

Note 9 – Loans and allowance for loan losses and OREO (continued)


	Credit Loss Disclosures Credit Quality Information - by Class June 30, 2012 (dollars in thousands)
	Pass		Monitor		Special Mention		Substandard		Doubtful		Totals
2012
Commercial	$	47,529	$	2,573	$	2,074	$	4,670	$	—	$	56,846
Commercial Real Estate:
Commercial Mortgages-Owner Occupied		49,184		3,447		4,290		4,410		120		61,451
Commercial Mortgages-Non-Owner Occupied		69,130		2,661		2,364		6,598		—		80,753
Commercial Construction		6,734		—		—		2,999		—		9,733
Consumer
Consumer Unsecured		3,262		—		—		1		—		3,263
Consumer Secured		64,556		1,594		903		967		—		68,020
Residential:
Residential Mortgages		35,848		603		419		3,005		—		39,875
Residential Consumer Construction		4,968		—		—		—		—		4,968

Totals	$	281,211	$	10,878	$	10,050	$	22,650	$	120	$	324,909


	Credit Loss Disclosures Credit Quality Information - by Class December 31, 2011 (dollars in thousands)
	Pass		Monitor		Special Mention		Substandard		Doubtful		Totals
2011
Commercial	$	47,021	$	3,978	$	2,901	$	5,723	$	—	$	59,623
Commercial Real Estate:
Commercial Mortgages-Owner Occupied		48,622		3,003		4,696		4,283		150		60,754
Commercial Mortgages-Non-Owner Occupied		63,934		3,326		3,159		7,470		—		77,889
Commercial Construction		9,000		176		—		2,803		—		11,979
Consumer
Consumer Unsecured		3,237		—		—		—		—		3,237
Consumer Secured		67,295		488		304		1,164		—		69,251
Residential:
Residential Mortgages		35,109		557		548		2,784		—		38,998
Residential Consumer Construction		2,635		—		—		—		—		2,635

Totals	$	276,853	$	11,528	$	11,608	$	24,227	$	150	$	324,366

Note 9 – Loans and allowance for loan losses and OREO (continued)

Troubled Debt Restructurings

There were no loan modifications during the three and six months ended June 30, 2012.

The following table describes Troubled Debt Restructurings made within the last twelve months that defaulted during the three and six months ended June 30, 2012.


	For the Three Months Ended June 30, 2012 (dollars in thousands)
Troubled Debt Restructurings That Subsequently Defaulted	Number of Contracts		Recorded Investment
Commercial		2	$	208


	For the Six Months Ended June 30, 2012 (dollars in thousands)
Troubled Debt Restructurings That Subsequently Defaulted	Number of Contracts		Recorded Investment
Commercial		4	$	798

Note 10 – Subsequent Events

In preparing these financial statements, Financial has evaluated events and transactions for potential recognition or disclosure through the date the financial statements were issued.

Note 11 – Recent accounting pronouncements

In April 2011, the FASB issued ASU 2011-03, “Transfers and Servicing (Topic 860) – Reconsideration of Effective Control for Repurchase Agreements.” The amendments in this ASU remove from the assessment of effective control (1) the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms, even in the event of default by the transferee and (2) the collateral maintenance implementation guidance related to that criterion. The amendments in this ASU are effective for the first interim or annual period beginning on or after December 15, 2011. The guidance should be applied prospectively to transactions or modifications of existing transactions that occur on or after the effective date. Early adoption is not permitted. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements.

In May 2011, the FASB issued ASU 2011-04, “Fair Value Measurement (Topic 820) – Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.” This ASU is the result of joint efforts by the FASB and International Accounting Standards Board (IASB) to develop a single, converged fair value framework on how (not when) to measure fair value and what disclosures to provide about fair value measurements. The ASU is largely consistent with existing fair value measurement principles in U.S. GAAP (Topic 820), with many of the amendments made to eliminate unnecessary wording differences between U.S. GAAP and International Financial Reporting Standards (IFRS). The amendments are effective for interim and annual periods beginning after December 15, 2011 with prospective application. Early application is not permitted. The Company has included the required disclosures in its consolidated financial statements.

Note 11 – Recent accounting pronouncements (continued)

In June 2011, the FASB issued ASU 2011-05, “Comprehensive Income (Topic 220) – Presentation of Comprehensive Income.” The objective of this ASU is to improve the comparability, consistency and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income by eliminating the option to present components of other comprehensive income as part of the statement of changes in stockholders’ equity. The amendments require that all non-owner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The single statement of comprehensive income should include the components of net income, a total for net income, the components of other comprehensive income, a total for other comprehensive income, and a total for comprehensive income. In the two-statement approach, the first statement should present total net income and its components followed consecutively by a second statement that should present all the components of other comprehensive income, a total for other comprehensive income, and a total for comprehensive income. The amendments do not change the items that must be reported in other comprehensive income, the option for an entity to present components of other comprehensive income either net of related tax effects or before related tax effects, or the calculation or reporting of earnings per share. The amendments in this ASU should be applied retrospectively. The amendments are effective for fiscal years and interim periods within those years beginning after December 15, 2011. Early adoption is permitted because compliance with the amendments is already permitted. The amendments do not require transition disclosures. The Company has included the required disclosures in its consolidated financial statements.

In September 2011, the FASB issued ASU 2011-08, “Intangible – Goodwill and Other (Topic 350) – Testing Goodwill for Impairment.” The amendments in this ASU permit an entity to first assess qualitative factors related to goodwill to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill test described in Topic 350. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. Under the amendments in this ASU, an entity is not required to calculate the fair value of a reporting unit unless the entity determines that it is more likely than not that its fair value is less than its carrying amount. The amendments in this ASU are effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. Early adoption is permitted, including for annual and interim goodwill impairment tests performed as of a date before September 15, 2011, if an entity’s financial statements for the most recent annual or interim period have not yet been issued. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements.

In December 2011, the FASB issued ASU 2011-11, “Balance Sheet (Topic 210) – Disclosures about Offsetting Assets and Liabilities.” This ASU requires entities to disclose both gross information and net information about both instruments and transactions eligible for offset in the balance sheet and instruments and transactions subject to an agreement similar to a master netting arrangement. An entity is required to apply the amendments for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. An entity should provide the disclosures required by those amendments retrospectively for all comparative periods presented. The Company does not expect the adoption of ASU 2011-11 to have a material impact on its consolidated financial statements.

In December 2011, the FASB issued ASU 2011-12, “Comprehensive Income (Topic 220) – Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05.” The amendments are being made to allow the Board time to redeliberate whether to present on the face of the financial statements the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income for all periods presented. While the Board is considering the operational concerns about the presentation requirements for reclassification adjustments and the needs of financial statement users for additional information about reclassification adjustments, entities should continue to report reclassifications out of accumulated other comprehensive income

Note 11 – Recent accounting pronouncements (continued)

consistent with the presentation requirements in effect before ASU 2011-05. All other requirements in ASU 2011-05 are not affected by ASU 2011-12, including the requirement to report comprehensive income either in a single continuous financial statement or in two separate but consecutive financial statements. Public entities should apply these requirements for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company has included the required disclosures in its consolidated financial statements.

Item 2. Management’s

Discussion and Analysis of Financial Condition and Results of Operations

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This report contains statements that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. The words “believe,” “estimate,” “expect,” “intend,” “anticipate,” “plan” and similar expressions and variations thereof identify certain of such forward-looking statements which speak only as of the dates on which they were made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. Readers are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those indicated in the forward-looking statements as a result of various factors. Factors that could cause actual results to differ from the results discussed in the forward-looking statements include, but are not limited to: economic conditions (both generally and more specifically in the markets in which we operate); competition for our customers from other providers of financial services; government legislation and regulation relating to the banking industry (which changes from time to time and over which we have no control) including but not limited to the Dodd-Frank Wall Street Reform and Consumer Protection Act; changes in the value of real estate securing loans made by the Bank; changes in interest rates; and material unforeseen changes in the liquidity, results of operations, or financial condition of our customers. Other risks, uncertainties and factors could cause our actual results to differ materially from those projected in any forward-looking statements we make.

GENERAL

Critical Accounting Policies

Bank of the James Financial Group, Inc.’s (“Financial”) financial statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). The financial information contained within our statements is, to a significant extent, based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. We use historical loss ratios as one factor in determining the inherent loss that may be present in our loan portfolio. Actual losses could differ significantly from the historical factors that we use in estimating risk. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of our transactions would be the same, the timing of events that would impact our transactions could change.

The allowance for loan losses is management’s estimate of the losses that may be sustained in our loan portfolio. The allowance is based on two basic principles of accounting: (i) ASC 450 “Contingencies”, which requires that losses be accrued when they are probable of occurring and are reasonably estimable and (ii) ASC 310 “Impairment of a Loan”, which requires that losses on impaired loans be accrued based on the differences between the value of collateral, present value of future cash flows or values that are observable in the secondary market and the loan balance. Guidelines for determining allowances for loan losses are also provided in the SEC Staff Accounting Bulletin No. 102 – “Selected Loan Loss Allowance Methodology and Documentation Issues” and the Federal Financial Institutions Examination Council’s interagency guidance, “Interagency Policy Statement on the Allowance for Loan and Lease Losses” (the “FFIEC Policy Statement”). See “Management Discussion and Analysis Results of Operations – Allowance for Loan Losses and Loan Loss Reserve” below for further discussion of the allowance for loan losses.

Overview

Financial is a bank holding company headquartered in Lynchburg, Virginia. Our primary business is retail banking which we conduct through our wholly-owned subsidiary, Bank of the James (which we refer to as the “Bank”). We conduct three other business activities, mortgage banking through the Bank’s Mortgage division (which we refer to as “Mortgage”), investment services through the Bank’s Investment division (which we refer to as “Investment”), and insurance activities through BOTJ Insurance, Inc., a subsidiary of the Bank, (which we refer to as “Insurance”).

The Bank is a Virginia banking corporation headquartered in Lynchburg, Virginia. The Bank was incorporated under the laws of the Commonwealth of Virginia as a state chartered bank in 1998 and began banking operations in July 1999. The Bank was organized to engage in general retail and commercial banking business. The Bank is a community-oriented financial institution that provides varied banking services to individuals, small and medium-sized businesses, and professional concerns in the Central Virginia, Region 2000 area, which encompasses the seven jurisdictions of the Town of Altavista, Amherst County, Appomattox County, the City of Bedford, Bedford County, Campbell County, and the City of Lynchburg. The Bank strives to provide its customers with products comparable to statewide regional banks located in its market area, while maintaining the prompt response time and level of service of a community bank. Management believes this operating strategy has particular appeal in the Bank’s market area.

The Bank’s principal office is located at 828 Main Street, Lynchburg, Virginia 24504 and its telephone number is (434) 846-2000. The Bank also maintains a website at www.bankofthejames.com.

Our operating results depend primarily upon the Bank’s net interest income, which is determined by the difference between (i) interest and dividend income on earning assets, which consist primarily of loans, investment securities and other investments, and (ii) interest expense on interest-bearing liabilities, which consist principally of deposits and other borrowings. The Bank’s net income also is affected by its provision for loan losses, as well as the level of its non-interest income, including loan fees and service charges, and its non-interest expenses, including salaries and employee benefits, occupancy expense, data processing expenses, Federal Deposit Insurance Corporation premiums, expense in complying with the Sarbanes-Oxley Act of 2002, miscellaneous other expenses, franchise taxes, and income taxes.

The Bank intends to enhance its profitability by increasing its market share in the Region 2000 area, providing additional services to its customers, and controlling costs.

The Bank now services its banking customers through the following nine full service branch locations in the Region 2000 area.

•

The main office located at 828 Main Street in Lynchburg (opened October 2004) (the “Main Street Office”),

•

A branch located at 615 Church Street in Lynchburg (opened July 1999) (the “Church Street Branch”),

•

A branch located at 5204 Fort Avenue in Lynchburg (opened November 2000) (the “Fort Avenue Branch”),

•

A branch located on South Amherst Highway in Amherst County (opened June 2002) (the “Madison Heights Branch”),

•

A branch located at 17000 Forest Road in Forest (opened February 2005) (the “Forest Branch”),

•

A branch located at 4935 Boonsboro Road, Suites C and D in Lynchburg (opened April 2006) (the “Boonsboro Branch”),

•

A branch located at 164 South Main Street, Amherst, Virginia (opened January 2007) (the “Amherst Branch”),

•

A branch located at 1405 Ole Dominion Boulevard in the City of Bedford, Virginia, located off of Independence Boulevard (opened October 2008) (the “Bedford Branch”), and

•

A branch located at 1110 Main Street, Altavista, Virginia (relocated from temporary branch in June 2009) (the “Altavista Branch”).

The Bank also has opened a limited-service branch located in the Westminster-Canterbury facilities located at 501 VES Road, Lynchburg, Virginia 24503.

In addition, the Bank, through its Mortgage division, originates residential mortgage loans through two offices—one located at the Forest Branch and the other located at 1152 Hendricks Store Road, Moneta, Virginia.

The Investment division operates primarily out of its office located at the Church Street Branch.

The Bank continuously evaluates areas located within Region 2000 to identify additional viable branch locations. Based on this ongoing evaluation, the Bank may acquire one or more additional suitable sites.

Subject to regulatory approval, the Bank anticipates opening additional branches during the next two fiscal years. Although numerous factors could influence the Bank’s expansion plans, the following discussion provides a general overview of the additional branch location that the Bank currently is considering.

Timberlake Road Area, Campbell County (Lynchburg), Virginia. As previously disclosed, the Bank has purchased certain real property located at the intersection of Turnpike and Timberlake Roads, Campbell County, Virginia. The Bank does not anticipate opening a branch at this location prior to 2013. The Bank has determined that the existing structure is not suitable for use as a bank branch.

Rustburg, Virginia. In March, 2011 the Bank purchased certain real property near the intersection of Routes 501 and 24 in Rustburg, Virginia. The structure on the property is being demolished and removed. The Bank does not anticipate opening a branch at this location prior to the first quarter of 2013. The Bank has installed an ATM in a local municipal building in order to establish a presence in this market until the branch has been established.

The Bank estimates that the cost of improvements, furniture, fixtures, and equipment necessary to upfit the property will be between $900,000 and $1,500,000 per location.

Although the Bank cannot predict with certainty the financial impact of each new branch, management generally anticipates that each new branch will become profitable within 12 to 18 months of operation.

Except as set forth herein, the Bank does not expect to purchase any significant property or equipment in the upcoming 12 months. Future branch openings are subject to regulatory approval.

OFF-BALANCE SHEET ARRANGEMENTS

The Bank is a party to various financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and standby letters of credit. Such commitments involve, to varying degrees, elements of credit risk and interest rate risk in excess of the amount recognized in the balance sheets and could impact the overall liquidity and capital resources to the extent customers accept and/or use these commitments.

The Bank’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. A summary of the Bank’s commitments is as follows:


	June 30, 2012 (in thousands)
Commitments to extend credit	$	55,724
Letters of Credit		1,719

Total	$	57,443

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Because many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on the Bank’s credit evaluation of the customer.

Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. Those letters of credit are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers. Collateral is required in instances that the Bank deems necessary.

SUMMARY OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion represents management’s discussion and analysis of the financial condition of Financial as of June 30, 2012 and December 31, 2011 and the results of operations of Financial for the three month and six month periods ended June 30, 2012 and 2011. This discussion should be read in conjunction with the financial statements included elsewhere herein.

All financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America.

Financial Condition Summary

June 30, 2012 as Compared to December 31, 2011

Total assets were $433,204,000 on June 30, 2012 compared with $427,436,000 at December 31, 2011, an increase of 1.34%. The increase in total assets is due primarily to an increase in Federal funds sold and securities available-for-sale resulting from an increase in deposits, as explained in the following paragraph.

Total deposits increased from $374,234,000 as of December 31, 2011 to $384,589,000 on June 30, 2012, an increase of 2.77%. This increase occurred because of the Bank’s increased efforts to obtain lower cost demand deposits and the Bank’s increased presence in the market.

Total loans increased to $324,909,000 on June 30, 2012 from $324,366,000 on December 31, 2011. Loans, net of unearned income and allowance, increased to $319,216,000 on June 30, 2012 from $318,754,000 on December 31, 2011, an increase of 0.14%. The following summarizes the position of the Bank’s loan portfolio as of the dates indicated by dollar amount and percentages (dollar amounts in thousands):


	June 30, 2012					December 31, 2011
	Amount		Percentage			Amount		Percentage
Commercial	$	56,846		17.50	%	$	59,623		18.39	%
Commercial Real Estate		151,937		46.76	%		150,622		46.43	%
Consumer		71,283		21.94	%		72,488		22.34	%
Residential		44,843		13.80	%		41,633		12.84	%

Total loans	$	324,909		100.00	%	$	324,366		100.00	%

Total nonperforming assets, which consist of non-accrual loans and other real estate owned (“OREO”) decreased to $9,453,000 on June 30, 2012 from $13,628,000 on December 31, 2011. This decrease was primarily due to a decrease in non-accrual (or nonperforming) loans. Non-accrual loans decreased 30.72% to $7,190,000 on June 30, 2012 from $10,375,000 on December 31, 2011. The decrease primarily resulted from the liquidation of real estate collateral associated with several relationships, including one large commercial relationship. The proceeds from the liquidations were used to curtail principal on a non-accrual loan. As discussed in more detail below under “Results of Operations—Allowance for Loan Losses”, management has provided for the anticipated losses on these loans in the loan loss reserve. If interest on non-accrual loans had been accrued, such interest on a cumulative basis would have approximated $864,000 and $1,233,000, as of June 30, 2012 and December 31, 2011, respectively. Loan payments received on non-accrual loans are first applied to principal. When a loan is placed on non-accrual status there are several negative implications. First, all interest accrued but unpaid at the time of the classification is reversed and deducted from the interest income totals for the Bank. Second, accruals of interest are discontinued until it becomes certain that both principal and interest can be repaid. Third, there may be actual losses that necessitate additional provisions for credit losses charged against earnings. These loans were included in the non-performing loan totals listed above.

OREO represents real property acquired by the Bank for debts previously contracted, including through foreclosure, deeds in lieu of foreclosure or repossession. On December 31, 2011, the Bank was carrying 18 OREO properties on its books at a value of $3,253,000. During the six months ended June 30, 2012, the Bank acquired 16 additional OREO properties and disposed of 20 OREO properties, and as of June 30, 2012 the Bank is carrying 14 OREO properties at a value of $2,263,000. The OREO properties are available for sale and are being actively marketed on the Bank’s website and through other means.

The Bank had loans in the amount of $187,000 at June 30, 2012 classified as performing Troubled Debt Restructurings (“TDRs”) as compared to $783,000 at December 31, 2011. This decrease was due entirely to the liquidation of collateral associated with one commercial relationship with the proceeds from the liquidation being used to pay off the TDR loans. None of these TDRs were included in non-accrual loans. These loans have had their original terms modified to facilitate payment by the borrower. The loans have been classified as TDRs primarily due to a change to interest only payments and the maturity of these modified loans is primarily less than one year.

Cash and cash equivalents increased to $27,286,000 on June 30, 2012 from $23,340,000 on December 31, 2011. Cash and cash equivalents consist of cash due from correspondents, cash in vault, and overnight investments (including federal funds sold). This increase is in large part due to an increase in deposits in excess of loans. The Bank invested a majority of the increase in deposits in fed funds. Cash and cash equivalents can vary due to routine fluctuations in deposits, including fluctuations in transactional accounts and professional settlement accounts, both of which are subject to fluctuations.

Securities held-to-maturity decreased to $3,087,000 on June 30, 2012 from $8,133,000 on December 31, 2011. During the six months ended June 30, 2012, the Bank received $5,000,000 in proceeds from maturities and calls of securities-held-to-maturity. Securities available-for-sale increased to $55,674,000 on June 30, 2012, from $48,338,000 December 31, 2011. During the six months ended June 30, 2012 the Bank received $10,488,000 in proceeds from maturities and/or calls of securities available-for-sale and $8,472,000 in proceeds from the sale of securities available-for-sale. The Bank purchased $25,400,000 in securities available-for sale during the same period. The increase from December 31, 2011 in securities available-for-sale was primarily due to the investment of funds received from an increase in deposit accounts.

Financial’s investment in Federal Home Loan Bank of Atlanta (FHLBA) stock totaled $1,109,000 at June 30, 2012 and $1,170,000 at December 31, 2011, a non-material decrease of $61,000. FHLBA stock is generally viewed as a long-term investment and because there is no market for the stock other than other Federal Home Loan Banks or member institutions, FHLBA stock is viewed as a restricted security. Therefore, when evaluating FHLBA stock for impairment, its value is based on the ultimate recoverability of the par value rather than by recognizing temporary declines in value.

Liquidity and Capital

At June 30, 2012, Financial, on a consolidated basis, had liquid assets of $82,960,000 in the form of cash, interest-bearing and noninterest-bearing deposits with banks, federal funds sold and available-for-sale investments. Management believes that liquid assets were adequate at June 30, 2012. Management anticipates that additional liquidity will be provided by the growth in deposit accounts and loan repayments at the Bank. In addition, the Bank has the ability to purchase federal funds on the open market and borrow from the Federal Reserve Bank’s discount window, if necessary.

Financial currently is conducting a private placement of unregistered debt securities (the “2012 Offering”) pursuant to which Financial is authorized to issue up to $12,000,000 in principal of notes (the “2012 Notes”). As of June 30, 2012, Financial had issued 2012 Notes in the amount $9,627,000. Although Financial is authorized to sell up to $12,000,000 in 2012 Notes, Financial has determined that it will close the 2012 Offering at such time as it has sold $10,000,000 in principal of 2012 Notes, or it terminates the offering, or, whichever occurs first.

The 2012 Notes will not be and have not been registered under the Securities Act of 1933 and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. The 2012 Notes will bear interest at the rate of 6% per year with interest payable quarterly in arrears. The first interest payment of $133,000 was due on July 1, 2012 and paid on or about June 29, 2012. The notes mature on April 1, 2017, but are subject to prepayment in whole or in part on or after April 1, 2013 at Financial’s sole discretion on 30 days written notice to the holders. Financial used $7,000,000 of the proceeds from the 2012 Offering to pay the 2009 Notes on their maturity.

Management is not aware of any trends, events or uncertainties that are reasonably likely to have a material negative impact on Financial’s short-term or long-term liquidity.

At June 30, 2012, the Bank had a leverage ratio of 8.04%, a Tier 1 risk-based capital ratio of 10.78% and a total risk-based capital ratio of 12.03%. As of June 30, 2012 and December 31, 2011 the Bank’s regulatory capital levels exceeded those established for well-capitalized institutions. The following table sets forth the minimum capital requirements and the Bank’s capital position as of June 30, 2012 and December 31, 2011:

Bank Level Only Capital Ratios


	June 30, 2012		December 31, 2011
Analysis of Capital (in 000’s)
Tier 1 Capital:
Common stock	$	3,742	$	3,742
Surplus		19,325		19,325
Retained earnings		11,449		10,394

Total Tier 1 capital	$	34,516	$	33,461

Tier 2 Capital:
Allowance for loan losses	$	4,024	$	3,991

Total Tier 2 Capital:	$	4,024	$	3,991

Total risk-based capital	$	38,540	$	37,452

Risk weighted assets	$	320,288	$	317,684

Average total assets	$	429,382	$	427,680


	Actual						Regulatory Benchmarks
	June 30, 2012			December 31, 2011			For Capital Adequacy Purposes			For Well Capitalized Purposes
Capital Ratios:
Tier 1 capital to average total assets ratio (leverage ratio)		8.04	%		7.82	%		4.00	%		5.00	%
Tier 1 risk based capital ratio		10.78	%		10.53	%		4.00	%		6.00	%
Total risk-based capital ratio		12.03	%		11.79	%		8.00	%		10.00	%

The above tables set forth the capital position and analysis for the Bank only. Because total assets on a consolidated basis are less than $500,000,000, Financial is not subject to the consolidated capital requirements imposed by the Bank Holding Company Act. Consequently, Financial does not calculate its financial ratios on a consolidated basis. If calculated, the capital ratios for the Company on a consolidated basis would no longer be comparable to the capital ratios of the Bank because the proceeds from the private placement of the 6% capital notes due on April 1, 2017 do not qualify as equity capital on a consolidated basis.

Results of Operations

Comparison of the Three and Six Months Ended June 30, 2012 and 2011

Earnings Summary

Financial had net income including all operating segments of $486,000 and $846,000 for the three and six months ended June 30, 2012 compared to $319,000 and $754,000 for the for the comparable periods in 2011. The basic and diluted earnings per common share for the three and six months ended June 30, 2012 were $0.15 and $0.25, compared to basic and diluted earnings per share of $0.10 and $0.23 for the three and six months ended June 30, 2011.

The increase in net income was due in large part to a decreased provision to the allowance for loan loss reserve as discussed in more detail below (See “Allowance for Loan Losses”), a decrease in interest expense, and an increase in non-interest income. The increase was partially offset by an increase in non-interest expense.

These operating results represent an annualized return on stockholders’ equity of 7.18% and 6.28% for the three and six months ended June 30, 2012, compared with 4.81% and 5.76% for the same periods in 2011. The Company had an annualized return on average assets for the three and six months ended June 30, 2012 of 0.45% and 0.40%, compared with 0.30% and 0.36% for three and six months ended June 30, 2011.

See Non-Interest Income below for mortgage business segment discussion.

Interest Income, Interest Expense, and Net Interest Income

Interest income decreased to $4,645,000 and $9,331,000 for the three and six months ended June 30, 2012 from $4,896,000 and $9,838,000 for the same periods in 2011, a decrease of 5.13% and 5.15%, respectively. Interest income decreased primarily because a) the average principal balance of the loan portfolio (net of allowance for loan losses) decreased as compared to the comparable periods in 2011; and b) the average rate received on earning assets decreased to 4.73% and 4.76% for the three and six months ended June 30, 2012 as compared with 4.95% and 5.03% for the comparable periods in 2011. The rate on total average earning assets decreased largely because of a decrease in market rates of interest. Although management cannot be certain, management expects that interest rates will remain near historic lows for the remainder of 2012 and may continue to negatively impact our interest income.

Interest expense decreased to $809,000 and $1,629,000 for the three and six months ended June 30, 2012 from $1,090,000 and $2,325,000 for the same periods in 2011, a decrease of 25.78% and 29.94%, respectively. This significant decrease in interest expense resulted in large part from a decrease in the rate paid on balances on deposits. The Bank’s average rate paid on deposits was 0.74% and 0.76% during the three and six month periods ended June 30, 2012 as compared to 1.09% and 1.19% for the same periods in 2011. This resulted from management’s efforts to minimize the Bank’s interest expense and maximize its net interest margin.

The fundamental source of the Bank’s revenue is net interest income, which is determined by the difference between (i) interest and dividend income on interest earning assets, which consist primarily of loans, investment securities and other investments, and (ii) interest expense on interest-bearing liabilities, which consist principally of deposits and other borrowings. Net interest income for the three and six months ended June 30, 2012 was $3,836,000 and $7,702,000 compared with $3,806,000 and $7,513,000 for the same periods in 2011. The increase in net interest income for the three and six months ended June 30, 2012 as compared with the comparable periods in 2011 was due the fact that the rate paid on deposit accounts has decreased from the comparable periods in 2011. The net interest margin was 3.91% and 3.95% for the three and six months ended June 30, 2012, up from 3.85% and 3.84% for the same periods a year ago.

Financial’s net interest margin analysis and average balance sheets are shown in Schedule I on page 48.

Non-Interest Income

Non-interest income is comprised primarily of fees and charges on transactional deposit accounts, mortgage loan origination fees, commissions on sales of investments and the Bank’s ownership interest in a title insurance agency. Non-interest income exclusive of gains on sales of securities increased to $714,000 and $1,344,000 for the three and six months ended June 30, 2012 from $589,000 and $1,230,000 for the three and six months ended June 30, 2011. This increase for the three and six months

ended June 30, 2012 as compared to the same periods last year was due primarily to increases in all categories of non-operating income, including increases in mortgage origination fees and service charges, fees, and commissions. Gains on sales of securities decreased to $129,000 and $170,000 for the three and six months ended June 30, 2012 as compared to $169,000 and $200,000 for the comparable periods in 2011.

The Bank, through the Mortgage division, originates both conforming and non-conforming consumer residential mortgage loans in the Region 2000 area. As part of the Bank’s overall risk management strategy, all of the loans originated and closed by the Mortgage division are presold to major national mortgage banking or financial institutions. The Mortgage division assumes no credit or interest rate risk on these mortgages.

Management anticipates that residential mortgage rates will remain near the current historic lows for the remainder of 2012. Management expects that low rates coupled with the Mortgage division’s reputation in Region 2000 will allow us to maintain revenue at the Mortgage division. Revenue from mortgage origination fees increased in the three month period ended June 30, 2012 as compared to the same period for 2011. Revenue from mortgage origination fees decreased in the six month period ended June 30, 2012 as compared to the same period for 2011. Management believes that regulatory pressure may result in a decreased number of competitors to the Mortgage division and this could result in an increase in market share.

Our Investment division provides brokerage services through an agreement with a third-party broker-dealer. Pursuant to this arrangement, the third party broker-dealer operates a service center adjacent to one of the branches of the Bank. The center is staffed by dual employees of the Bank and the broker-dealer. Investment receives commissions on transactions generated and in some cases ongoing management fees such as mutual fund 12b-1 fees. The Investment division’s financial impact on our consolidated revenue has been immaterial. Although management cannot predict the financial impact of Investment with certainty, management anticipates the Investment division’s impact on noninterest income will remain immaterial in 2012.

In the third quarter of 2008, we began providing insurance and annuity products to Bank customers and others, through the Bank’s Insurance subsidiary. The Bank has one full-time and one part-time employee that are dedicated to selling insurance products through Insurance. Insurance generates minimal revenue and its financial impact on our consolidated revenue has been immaterial. Management anticipates that Insurance’s impact on noninterest income will remain immaterial in 2012.

Non-Interest Expense

Non-interest expense for the three and six months ended June 30, 2012 increased to $3,559,000 and $6,843,000, or 11.08% and 7.36%, respectively, from $3,204,000 and $6,374,000 for the comparable periods in 2011. This increase in non-interest expense from the comparable period in 2011 can be attributed in large part to an increase in compensation expense, discussed in more detail in the following paragraph, and other real estate expenses. Other real estate expenses consist primarily of insurance, maintenance, real estate taxes, and other expenses related to property ownership.

Total personnel expense was $1,546,000 and $3,049,000 for the three and six month periods ended June 30, 2012 as compared to $1,391,000 and $2,818,000 for the same periods in 2011. Compensation for some employees of the Mortgage division and the Investment division is commission-based and therefore subject to fluctuation.

During the three months ended June 30, 2012, the FDIC premium expense increased to $144,000 from $141,000 for the three months ended June 30, 2011. During the six months ended June 30, 2012, the FDIC premium expense decreased to $288,000 from $370,000 for the three months ended June 30, 2011. FDIC assessment payments have decreased in large part because the FDIC changed the formula used to calculate the assessment in a way that favors banks whose liabilities consist primarily of deposits.

Allowance for Loan Losses

The allowance for loan losses represents an amount that, in our judgment, will be adequate to absorb any losses on existing loans that may become uncollectible. The provision for loan losses increases the allowance, and loans charged off, net of recoveries, reduce the allowance. The provision to the allowance for loan losses is charged to earnings to bring the total allowance to a level deemed appropriate by management and is based upon many factors, including calculations of specific impairment of certain loans, general economic conditions, actual and expected credit losses, loan performance measures, historical trends and specific conditions of the individual borrower. Based on the application of the loan loss calculation, the Bank provided $425,000 and $1,175,000 to the allowance for loan loss for the three and six months ended June 30, 2012 compared to a provision of $906,000 and $1,485,000 for the comparable periods in 2011.

The decrease in the loan loss provision for the three and six months ended June 30, 2012 as compared to the same periods in 2011 was due to the following factors:

• The Bank’s asset quality has improved as problem assets, including certain commercial development loans and residential speculative housing construction loans have decreased as the collateral for those loans has been liquidated. Management’s evaluation of these asset classes resulted in the decreased provision in the quarter ended June 30, 2012.

• In light of the current economic environment, management continues its ongoing assessment of specific impairment in the Bank’s loan portfolio. The analysis resulted in a decrease in the provision for the quarter ended June 30, 2012 as compared to the same quarter in 2011.

• General reserves related to consumer loans collectively evaluated for impairment have also decreased as a result of a decrease in historical charge-offs associated with this loan segment.

Management believes that the current allowance for loan loss of $5,693,000 (or 1.75% of total loans) at June 30, 2012, as compared to $5,612,000 (or 1.73% of total loans) as of December 31, 2011 remains adequate.

The following tables summarize the allowance activity for the periods indicated:


	Allowance for Credit Losses and Recorded Investment in Financing Receivables (dollars in thousands)
	For the Six months Ended June 30, 2012
	Commercial			Commercial Real Estate			Consumer			Residential			Total
	Commercial			Commercial Real Estate			Consumer			Residential			Total
2012
Allowance for Credit Losses:
Beginning Balance	$	892		$	2,677		$	1,486		$	557		$	5,612
Charge-offs		(175	)		(631	)		(413	)		(12	)		(1,231	)
Recoveries		13			109			9			6			137
Provision		131			761			197			86			1,175

Ending Balance		861			2,916			1,279			637			5,693
Ending Balance: Individually evaluated for impairment	$	428		$	1,016		$	487		$	133		$	2,064

Ending Balance: Collectively evaluated for impairment		433			1,900			792			504			3,629

Totals:	$	861		$	2,916		$	1,279		$	637		$	5,693

Financing Receivables:

Ending Balance: Individually evaluated for impairment		5,152			14,127			990			3,005			23,274

Ending Balance: Collectively evaluated for impairment		51,694			137,810			70,293			41,838			301,635

Totals:	$	56,846		$	151,937		$	71,283		$	44,843		$	324,909


	Allowance for Credit Losses and Recorded Investment in Financing Receivables (dollars in thousands)
	For the Year Ended December 31, 2011
	Commercial			Commercial Real Estate			Consumer			Residential			Total
	Commercial			Commercial Real Estate			Consumer			Residential			Total
2011
Allowance for Credit Losses:
Beginning Balance	$	473		$	2,897		$	1,207		$	890		$	5,467
Charge-offs		(702	)		(2,738	)		(817	)		(459	)		(4,716	)
Recoveries		16			3			31			4			54
Provision		1,105			2,515			1,065			122			4,807

Ending Balance		892			2,677			1,486			557			5,612
Ending Balance: Individually evaluated for impairment	$	440		$	1,058		$	357		$	128		$	1,983

Ending Balance: Collectively evaluated for impairment		452			1,619			1,129			429			3,629

Totals:	$	892		$	2,677		$	1,486		$	557		$	5,612

Financing Receivables:

Ending Balance: Individually evaluated for impairment		6,325			15,000			1,235			2,784			25,344

Ending Balance: Collectively evaluated for impairment		53,298			135,622			71,253			38,849			299,022

Totals:	$	59,623		$	150,622		$	72,488		$	41,633		$	324,336

The following sets forth the reconciliation of the allowance for loan loss:


	Three months ended June 30, (in thousands)						Six months ended June 30, (in thousands)
	2012			2011			2012			2011
Balance, beginning of period	$	6,006		$	5,318		$	5,612		$	5,467
Provision for loan losses		425			906			1,175			1,485
Loans charged off		(847	)		(1,266	)		(1,231	)		(2,005	)
Recoveries of loans charged off		109			12			137			23

Net Charge Offs		(738	)		(1,254	)		(1,094	)		(1,982	)

Balance, end of period	$	5,693		$	4,970		$	5,693		$	4,970

Below is a summary and definition of the Bank’s risk rating categories:


RATING 1		Excellent
RATING 2		Above Average
RATING 3		Satisfactory
RATING 4		Acceptable / Low Satisfactory
RATING 5		Monitor
RATING 6		Special Mention
RATING 7		Substandard
RATING 8		Doubtful
RATING 9		Loss

•

The increase in the balance in the allowance for loan loss reserve as of June 30, 2012 as compared to December 31, 2011 resulted from provisions being higher than the net charge-offs during the first six months of 2012. The loan loss reserve is determined as discussed above.

Net charge offs decreased to $738,000 and $1,094,000 for the three and six months ended June 30, 2012 from $1,254,000 and $1,982,000 for the same periods in 2011. Charged off loans, which are loans that management deems uncollectible, are written against the loan loss reserve and constitute a realized loss. While a charged off loan may subsequently be collected, such recoveries generally are realized over an extended period of time.

Income Taxes

For the three and six months ended June 30, 2012, Financial had an income tax expense of $209,000 and $352,000, respectively. This represents an effective tax rate of 30.10% and 29.90% for the respective periods.

Legislation

On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Reform Act”) was signed into law. The Dodd-Frank Reform Act represents a significant overhaul of many aspects of the regulation of the financial services industry, although many of its provisions (e.g., the interchange and trust preferred capital limitations) apply to companies that are significantly larger than Financial. The Dodd-Frank Reform Act directs applicable regulatory authorities to promulgate regulations implementing its provisions, and its effect on Financial and on the financial services industry as a whole will be clarified as those regulations are issued. Major elements of the Dodd-Frank Reform Act include:

•

A permanent increase in deposit insurance coverage to $250,000 per account, permanent unlimited deposit insurance on noninterest-bearing transaction accounts, and an increase in the minimum Deposit Insurance Fund reserve requirement for banks having consolidated assets in excess of $10 billion from 1.15% to 1.35%, with assessments to be based on assets as opposed to deposits.

•

New disclosure and other requirements relating to executive compensation and corporate governance.

•

Amendments to the Truth in Lending Act aimed at improving consumer protections with respect to mortgage originations, including originator compensation, minimum repayment standards, and prepayment considerations.

•

The establishment of the Financial Stability Oversight Council, which will be responsible for identifying and monitoring systemic risks posed by financial firms, activities, and practices.

•

The development of regulations to limit debit card interchange fees.

•

The future elimination of trust preferred securities as a permitted element of Tier 1 capital.

•

The creation of a special regime to allow for the orderly liquidation of systemically important financial companies, including the establishment of an orderly liquidation fund.

•

The development of regulations to address derivatives markets, including clearing and exchange trading requirements and a framework for regulating derivatives-market participants.

•

Enhanced supervision of credit rating agencies through the Office of Credit Ratings within the SEC.

•

Increased regulation of asset-backed securities, including a requirement that issuers of asset-backed securities retain at least 5% of the risk of the asset-backed securities.

•

The establishment of a Bureau of Consumer Financial Protection, within the Federal Reserve, to serve as a dedicated consumer-protection regulatory body.

•

On February 7, 2011, the FDIC issued a final rule redefining the assessment base as required by Dodd-Frank. The final rule adopted a separate risk-based assessment system for large insured depository institutions (institutions with greater than $10 billion in assets). The final rule applies to all insured depository institutions and is effective on April 1, 2011.

Financial continues to evaluate the potential impact of the Dodd-Frank Reform Act.

Schedule I

Net Interest Margin Analysis

Average Balance Sheets

For the Quarter Ended June 30, 2012 and 2011


	2012								2011
	Average Balance Sheet			Interest Income/ Expense		Average Rates Earned/ Paid			Average Balance Sheet			Interest Income/ Expense		Average Rates Earned/ Paid
ASSETS
Loans, including fees (1) (2)	$	320,588		$	4,170		5.22	%	$	325,460		$	4,382		5.40	%
Loans held for sale		878			8		3.65	%		202			2		3.97	%
Federal funds sold		10,497			6		0.23	%		12,203			8		0.26	%
Securities (3)		59,741			432		2.90	%		56,951			481		3.39	%
Federal agency equities		1,829			29		6.36	%		2,007			23		4.60	%
CBB equity		116			—		0.00	%		116			—		0.00	%

Total earning assets		393,649			4,645		4.73	%		396,939			4,896		4.95	%

Allowance for loan losses		(5,901	)							(5,325	)
Non-earning assets		44,499								37,700

Total assets	$	432,247							$	429,314

LIABILITIES AND STOCKHOLDERS’ EQUITY
Deposits
Demand interest bearing	$	81,765		$	65		0.32	%	$	63,851		$	90		0.57	%
Savings		153,241			144		0.38	%		180,879			374		0.83	%
Time deposits		92,196			392		1.71	%		83,125			428		2.07	%

Total interest bearing deposits		327,202			601		0.74	%		327,855			892		1.09	%

Other borrowed funds
Repurchase agreements		28			—		0.00	%		8,156			18		0.89	%
Other borrowings		10,000			75		3.01	%		10,000			75		3.01	%
Capital Notes		8,865			133		6.00	%		7,000			105		6.00	%

Total interest-bearing liabilities		346,095			809		0.94	%		353,011			1,090		1.24	%

Non-interest bearing deposits		57,593								49,198
Other liabilities		1,393								515

Total liabilities		405,081								402,724


Stockholders’ equity		27,166						26,590

Total liabilities and Stockholders’ equity	$	432,247					$	429,314

Net interest income			$	3,836					$	3,806

Net interest margin					3.91	%					3.85	%

Interest spread					3.79	%					3.71	%

(1)	Net deferred loan fees and costs are included in interest income.

(2)	Nonperforming loans are included in the average balances. However, interest income and yields calculated do not reflect any accrued interest associated with non-accrual loans.

(3)	The interest income and yields calculated on securities have been tax affected to reflect any tax exempt interest on municipal securities. Currently all municipals in the Bank’s portfolio are taxable.

Net Interest Margin Analysis

Average Balance Sheets

For the Six Months Ended June 30, 2012 and 2011


	2012								2011
	Average Balance Sheet			Interest Income/ Expense		Average Rates Earned/ Paid			Average Balance Sheet			Interest Income/ Expense		Average Rates Earned/ Paid
ASSETS
Loans, including fees (1) (2)	$	321,295		$	8,388		5.24	%	$	325,727		$	8,855		5.48	%
Loans held for sale		825			14		3.40	%		102			2		3.95	%
Federal funds sold		8,960			11		0.25	%		10,203			13		0.26	%
Securities (3)		60,379			889		2.95	%		56,422			942		3.37	%
Federal agency equities		1,845			29		3.15	%		2,036			26		2.58	%
CBB equity		116			—		0.00	%		116			—		0.00	%

Total earning assets		393,420			9,331		4.76	%		394,636			9,838		5.03	%

Allowance for loan losses		(5,825	)							(5,373	)
Non-earning assets		41,582								37,263

Total assets	$	429,177							$	426,526

LIABILITIES AND STOCKHOLDERS’ EQUITY
Deposits
Demand interest bearing	$	76,051		$	125		0.33	%	$	62,896		$	201		0.64	%
Savings		156,318			289		0.37	%		181,798			875		0.97	%
Time deposits		91,549			813		1.78	%		82,052			857		2.11	%

Total interest bearing deposits		323,918			1,227		0.76	%		326,746			1,933		1.19	%

Other borrowed funds
Repurchase agreements		3,294			15		0.91	%		7,684			34		0.89	%
Other borrowings		10,000			149		2.99	%		10,000			148		2.96	%
Capital Notes		7,950			238		6.00	%		7,000			210		6.00	%

Total interest-bearing liabilities		345,162			1,629		0.95	%		351,430			2,325		1.33	%

Non-interest bearing deposits		56,197								48,129
Other liabilities		821								590

Total liabilities		402,180								400,149

Stockholders’ equity		26,997								26,377


Total liabilities and Stockholders’ equity	$	429,177					$	426,526

Net interest income			$	7,702					$	7,513

Net interest margin					3.95	%					3.84	%

Interest spread					3.81	%					3.70	%

(1)	Net deferred loan fees and costs are included in interest income.

(2)	Nonperforming loans are included in the average balances. However, interest income and yields calculated do not reflect any accrued interest associated with non-accrual loans.

(3)	The interest income and yields calculated on securities have been tax affected to reflect any tax exempt interest on municipal securities. Currently all municipals in the Bank’s portfolio are taxable.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Not applicable

Item 4. Controls and Procedures

EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES

Financial’s management, including Financial’s principal executive officer and principal financial officer, have evaluated the effectiveness of the Company’s “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended, (the “Exchange Act”). Based upon their evaluation, the principal executive officer and principal financial officer concluded that, as of the end of the period covered by this report, Financial’s disclosure controls and procedures were effective for the purpose of ensuring that the information required to be disclosed in the reports that Financial files or submits under the Exchange Act with the Securities and Exchange Commission (the “SEC”) (1) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (2) is accumulated and communicated to the Company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure.

There have been no significant changes during the quarter ended June 30, 2012, in the Company’s internal controls over financial reporting (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934) or in other factors that could have significantly affected those controls subsequent to the date of our most recent evaluation of internal controls over financial reporting, including any corrective actions with regard to significant deficiencies and material weaknesses.

PART II – OTHER INFORMATION

Item 1. Legal Proceedings

The Company is not involved in any pending legal proceedings at this time, other than routine litigation incidental to its business.

Item 1A. Risk Factors

There have been no material changes from the risk factors disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011, as filed with the SEC on March 20, 2012.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Not applicable

Item 3. Defaults Upon Senior Securities

Not applicable

Item 4. Mine Safety Disclosures

Not applicable

Item 5. Other Information

Not applicable

Item 6. Exhibits

The following are filed as Exhibits to this Form 10-Q:


Exhibit No.		Description of Exhibit

31.1		Certification of Robert R. Chapman III Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, dated August 8, 2012

31.2		Certification of J. Todd Scruggs Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, dated August 8, 2012

32.1		Certification Pursuant To 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 Of The Sarbanes-Oxley Act Of 2002, dated August 8, 2012

101		The following materials from Bank of the James Financial Group, Inc.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2012, formatted in eXtensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheets (unaudited) as of June 30, 2012 and December 31, 2011; (ii) Consolidated Statements of Income (unaudited) for the Three and Six Months ended June 30, 2012 and 2011; (iii) Consolidated Statements of Comprehensive Income (unaudited) for the Three and Six Months ended June 30, 2012 and 2011 (iv) Consolidated Statements of Cash Flows (unaudited) for the Six Months ended June 30, 2012 and 2011 (v) Unaudited Consolidated Statements of Changes in Stockholders’ Equity for the Six Months ended June 30, 2012 and the Six Months Ended June 30, 2011; (vi) Notes to Unaudited Consolidated Financial Statements.*

Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files on Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

SIGNATURES

In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.


		BANK OF THE JAMES FINANCIAL GROUP, INC.

Date: August 8, 2012		By /S/ Robert R. Chapman III Robert R. Chapman III, President (Principal Executive Officer)

Date: August 8, 2012		By /S/ J. Todd Scruggs J. Todd Scruggs, Secretary and Treasurer (Principal Financial Officer and Principal Accounting Officer)

Index of Exhibits


Exhibit No.		Description of Exhibit

31.1		Certification of Robert R. Chapman III Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, dated August 8, 2012

31.2		Certification of J. Todd Scruggs Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, dated August 8, 2012

32.1		Certification Pursuant To 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 Of The Sarbanes-Oxley Act Of 2002, dated August 8, 2012

101		The following materials from Bank of the James Financial Group, Inc.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2012, formatted in eXtensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheets (unaudited) as of June 30, 2012 and December 31, 2011; (ii) Consolidated Statements of Income (unaudited) for the Three and Six Months ended June 30, 2012 and 2011; (iii) Consolidated Statements of Comprehensive Income (unaudited) for the Three and Six Months ended June 30, 2012 and 2011 (iv) Consolidated Statements of Cash Flows (unaudited) for the Six Months ended June 30, 2012 and 2011 (v) Unaudited Consolidated Statements of Changes in Stockholders’ Equity for the Six Months ended June 30, 2012 and the Six Months Ended June 30, 2011; (vi) Notes to Unaudited Consolidated Financial Statements.*