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PACIFIC FINANCIAL CORP - Quarter Report: 2007 June (Form 10-Q)



 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

 
(Mark One)
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
  For the quarterly period ended June 30, 2007
   
OR
   
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
For the transition period from ____________ to ____________
   
Commission File Number  000-29829
 

PACIFIC FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)

 
Washington   91-1815009
(State or other jurisdiction of
incorporation or organization)
  (IRS Employer Identification No.)
     
1101 S. Boone Street
Aberdeen, Washington 98520-5244
(360) 533-8870

(Address, including zip code, and telephone number,
including area code, of Registrant’s principal executive offices)
 

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

Yes  x    No  o

            Indicate by check mark whether the registrant is a large accelerated filer, accelerated filer or non-accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

            Large accelerated filer o               Accelerated Filer x              Non-accelerated filer o

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

            The number of shares of the issuer’s common stock, par value $1.00 per share, outstanding as of July 31, 2007, was 6,567,493 shares.

 




TABLE OF CONTENTS
 
PART I FINANCIAL INFORMATION   3  
         
ITEM 1. FINANCIAL STATEMENTS   3  
   
  CONDENSED CONSOLIDATED BALANCE SHEETS
JUNE 30, 2007 AND DECEMBER 31, 2006
  3  
   
  CONDENSED CONSOLIDATED STATEMENTS OF INCOME
THREE AND SIX MONTHS ENDED JUNE 30, 2007 AND 2006
  4  
   
  CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 2007 AND 2006
  5  
   
  CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’
EQUITY SIX MONTHS ENDED JUNE 30, 2007 AND 2006
  6  
         
  NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS   7  
   
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
  13  
   
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK
  21  
         
ITEM 4. CONTROLS AND PROCEDURES   21  
         
PART II OTHER INFORMATION   22  
         
ITEM 1. LEGAL PROCEEDINGS   22  
         
ITEM 1A. RISK FACTORS   22  
   
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND
USE OF PROCEEDS
  22  
         
ITEM 3. DEFAULTS UPON SENIOR SECURITIES   22  
         
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS   22  
         
ITEM 5. OTHER INFORMATION   22  
         
ITEM 6. EXHIBITS   22  
         
  SIGNATURES   22  



PART I – FINANCIAL INFORMATION
ITEM 1 – FINANCIAL STATEMENTS
 
PACIFIC FINANCIAL CORPORATION
Condensed Consolidated Balance Sheets
June 30, 2007 and December 31, 2007
(Dollars in thousands) (Unaudited)
 
June 30, 2007   December 31, 2006  
  
Assets            
   Cash and due from banks $ 16,562   $ 14,964  
   Interest bearing balances with banks   369     5,479  
   Federal funds sold   11,365     20,345  
   Investment securities available for sale   36,656     36,608  
   Investment securities held-to-maturity   5,117     6,104  
   Federal Home Loan Bank stock, at cost   1,858     1,858  
   Loans held for sale   19,055     14,368  
  
   Loans   439,482     424,801  
   Allowance for credit losses   4,475     4,033  
 
 
 
   Loans, net   435,007     420,768  
  
   Premises and equipment   13,914     11,537  
   Accrued interest receivable   3,379     3,006  
   Cash surrender value of life insurance   9,868     9,714  
   Goodwill   11,282     11,282  
   Other intangible assets   1,799     1,871  
   Other assets   3,601     4,480  
 
 
 
  
Total assets $ 569,832   $ 562,384  
 
 
 
  
Liabilities and Shareholders’ Equity            
   Deposits:            
     Non-interest bearing $ 92,870   $ 91,657  
     Interest-bearing   376,072     375,184  
 
 
 
   Total deposits   468,942     466,841  
  
   Accrued interest payable   1,273     1,415  
   Secured borrowings   1,446     1,906  
   Short-term borrowings   7,500      
   Long-term borrowings   21,500     21,500  
   Junior subordinated debentures   13,403     13,403  
   Other liabilities   3,080     8,335  
 
 
 
   Total liabilities   517,144     513,400  
  
Commitments and Contingencies (Note 6)            
  
Shareholders’ Equity            
   Common Stock (par value $1); 25,000,000 shares authorized;
     6,581,445 shares issued and outstanding at June 30, 2007 and
     6,524,407 at December 31, 2006
  6,581     6,524  
   Additional paid-in capital   26,875     26,047  
   Retained earnings   19,831     16,731  
   Accumulated other comprehensive loss   (599 )   (318 )
 
 
 
   Total shareholders’ equity   52,688     48,984  
 
 
 
  
Total liabilities and shareholders’ equity $ 569,832   $ 562,384  
 
 
 
 
See notes to condensed consolidated financial statements.

3



PACIFIC FINANCIAL CORPORATION
Condensed Consolidated Statements of Income
Three and six months ended June 30, 2007 and 2006
(Dollars in thousands, except per share data)
(Unaudited)

 
Three Months Ended
June 30,
  Six Months Ended
June 30,
 
2007   2006   2007   2006  
  
Interest and dividend income                        
Loans $ 9,813   $ 8,287   $ 19,087   $ 15,978  
Investment securities and FHLB dividends   504     377     971     737  
Deposits with banks and federal funds sold   29     99     99     174  
 
 
 
 
 
Total interest and dividend income   10,346     8,763     20,157     16,889  
 
 
 
 
 
  
Interest Expense                        
Deposits   3,364     2,465     6,645     4,588  
Other borrowings   669     399     1,194     769  
 
 
 
 
 
Total interest expense   4,033     2,864     7,839     5,357  
 
 
 
 
 
  
Net Interest Income   6,313     5,899     12,318     11,532  
Provision for credit losses   105         362      
 
 
 
 
 
Net interest income after provision for
   credit losses
  6,208     5,899     11,956     11,532  
 
 
 
 
 
  
Non-interest Income                        
Service charges on deposits   373     380     732     756  
Gain on sales of loans   530     506     955     886  
Loss on sale of investments available for sale           (20 )    
Gain on sale of foreclosed real estate       5         5  
Gain (loss) on sale of premises and equipment   (13 )       (18 )   2  
Other operating income   259     198     446     386  
 
 
 
 
 
Total non-interest income   1,149     1,089     2,095     2,035  
 
 
 
 
 
  
Non-interest Expense                        
Salaries and employee benefits   2,959     2,619     5,918     5,150  
Occupancy and equipment   633     622     1,214     1,153  
Other   1,592     1,225     2,872     2,477  
 
 
 
 
 
Total non-interest expense   5,184     4,466     10,004     8,780  
 
 
 
 
 
  
Income before income taxes   2,173     2,522     4,047     4,787  
Provision for income taxes   607     777     947     1,452  
 
 
 
 
 
  
Net Income $ 1,566   $ 1,745   $ 3,100   $ 3,335  
 
 
 
 
 
  
Comprehensive Income $ 1,234   $ 1,593   $ 2,819   $ 3,105  
  
Earnings per common share:                        
   Basic $ 0.24   $ 0.27   $ 0.47   $ 0.51  
   Diluted   0.23     0.27     0.46     0.51  
Weighted Average shares outstanding:                        
   Basic   6,576,276     6,480,362     6,567,493     6,479,281  
   Diluted   6,677,144     6,577,400     6,674,309     6,576,123  
 
 
See notes to condensed consolidated financial statements.

4



PACIFIC FINANCIAL CORPORATION

Condensed Consolidated Statements of Cash Flows
Six months ended June 30, 2007 and 2006
(Dollars in thousands)
(Unaudited)

 
2007   2006  
  
OPERATING ACTIVITIES                
Net income $ 3,100   $ 3,335  
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
           
   Provision for credit losses   362      
   Depreciation and amortization   690     630  
   Origination of loans held for sale   (69,888 )   (46,325 )
   Proceeds of loans held for sale   66,142     47,852  
   Gain on sales of loans   (955 )   (886 )
   Loss on sale of investments available for sale   20      
   Gain on sale of foreclosed real estate       (5 )
   (Gain) loss on sale of premises and equipment   18     (2 )
   Increase in accrued interest receivable   (373 )   (168 )
   Increase (decrease) in accrued interest payable   (142 )   318  
   Other   443     (1,818 )
 
 
 
  
   Net cash provided by (used in) operating activities   (583 )   2,931  
  
INVESTING ACTIVITIES            
   Net (increase) decrease in federal funds sold   8,980     (6,920 )
   Net (increase) decrease in interest bearing balances with banks   5,110     (1 )
   Purchase of securities available for sale   (3,420 )   (2,511 )
   Proceeds from maturities of investments held to maturity   159     192  
   Proceeds from sales of securities available for sale   805      
   Proceeds from maturities of securities available for sale   2,925     1,210  
    Proceeds from sales of SBA loan pools   301      
   Net increase in loans   (14,881 )   (14,382 )
   Proceeds from sales of foreclosed real estate       20  
   Additions to premises and equipment   (3,030 )   (1,759 )
   Proceeds from sales of premises and equipment   190     4  
   Deposit assumption and transfer       (1,268 )
 
 
 
  
   Net cash used in investing activities   (2,861 )   (25,415 )
  
FINANCING ACTIVITIES            
   Net increase in deposits   2,101     29,894  
   Net increase (decrease) in short-term borrowings   7,500     (3,985 )
   Net decrease in secured borrowings   (460 )   (214 )
   Proceeds from issuance of long-term borrowings       2,000  
   Repayments of long-term borrowings       (4,000 )
   Proceeds from junior subordinated debentures       8,248  
   Issuance of common stock   794     243  
   Payment of cash dividends   (4,893 )   (4,719 )
 
 
 
  
   Net cash provided by financing activities   5,042     27,467  
  
   Net increase in cash and due from banks   1,598     4,983  
Cash and due from Banks            
   Beginning of period   14,964     11,223  
  
   End of period $ 16,562      $ 16,206  
  
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION
           
   Cash payments for:            
     Interest $ 7,981   $ 4,964  
     Income Taxes   885     1,132  
  
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING
ACTIVITIES
           
   Change in fair value of securities available for sale, net of tax $ (281 ) $ (230 )
   Transfer of securities held to maturity to available for sale   825      
             
See notes to condensed consolidated financial statements.

5



PACIFIC FINANCIAL CORPORATION
Condensed Consolidated Statements of Shareholders’ Equity
Six months ended June 30, 2007 and 2006
(Dollars in thousands)
(Unaudited)

 
Common Stock   Additional
Paid-in
Capital
  Retained
Earnings
  Accumulated
Other
Comprehensive
Loss
  Total  
  
Balance January 1, 2006 $ 6,464   $ 25,386   $ 15,073     ($ 323 ) $ 46,600  
  
Other comprehensive income:
   Net income               3,335           3,335  
   Change in fair value of securities
      available for sale, net
                    (230 )   (230 )
   Comprehensive income                           3,105  
  
Issuance of common stock   16     227                 243  
Stock compensation expense         10                 10  
 
 
 
 
 
 
Balance June 30, 2006 $ 6,480   $ 25,623   $ 18,408     ($ 553 ) $ 49,958  
 
 
 
 
 
 
  
Balance January 1, 2007 $ 6,524   $ 26,047   $ 16,731     ($ 318 ) $ 48,984  
  
Other comprehensive income:
   Net income               3,100           3,100  
   Change in fair value of securities
      available for sale, net
                    (281 )   (281 )
   Comprehensive income                           2,819  
  
Issuance of common stock   25     395                 420  
Stock options exercised   32     342                 374  
Stock compensation expense         43                 43  
Tax benefit from exercise of stock
     options
        48                 48  
 
 
 
 
 
 
Balance June 30, 2007 $ 6,581   $ 26,875   $ 19,831     ($ 599 ) $ 52,688  
 
 
 
 
 
 
 
See notes to condensed consolidated financial statements.

6



PACIFIC FINANCIAL CORPORATION
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 1 – Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared by Pacific Financial Corporation (“Pacific” or the “Company”) in accordance with accounting principles generally accepted in the United States of America for interim financial information and with instructions to Form 10-Q. Accordingly, these financial statements do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the six months ended June 30, 2007, are not necessarily indicative of the results anticipated for the year ending December 31, 2007. Certain information and footnote disclosures included in the Company’s consolidated financial statements for the year ended December 31, 2006, have been condensed or omitted from this report. Accordingly, these statements should be read in conjunction with the financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006 (the “2006 10-K”).

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.

All dollar amounts in tables and in the text of these notes, except earnings per share and per share information, are stated in thousands.

Note 2 – Earnings per Share

The following table illustrates the computation of basic and diluted earnings per share.

 
Three Months Ended
June 30,
  Six Months Ended
June 30,
 
2007   2006   2007   2006  
  
Basic:                        
Net income $ 1,566,000   $ 1,745,000   $ 3,100,000   $ 3,335,000  
Weighted average shares
   outstanding
  6,576,276       6,480,362        6,567,493        6,479,281  
Basic earnings per share $ 0.24   $ 0.27   $ 0.47   $ 0.51  
  
Diluted:                        
Net income $ 1,566,000   $ 1,745,000   $ 3,100,000   $ 3,335,000  
Weighted average shares
   outstanding
  6,576,276     6,480,362     6,567,493     6,479,281  
Effect of dilutive stock options   100,868     97,038     106,816     96,842  
Weighted average shares
   outstanding assuming dilution
  6,677,144     6,577,400     6,674,309     6,576,123  
Diluted earnings per share $ 0.23   $ 0.27   $ 0.46   $ 0.51  

7



 

As of June 30, 2007 and 2006, there were 80,100 and 322,600 shares, respectively, subject to outstanding options to acquire common stock with exercise prices in excess of the current market value. These shares are not included in the table above, as exercise of these options would not be dilutive to shareholders.

Note 3 – Investment Securities

Investment securities consist principally of short and intermediate term debt instruments issued by the U.S. Treasury, other U.S. government agencies, state and local government units, and other corporations.

 
Securities Held to Maturity Amortized
Cost
  Unrealized
Gains
  Unrealized
Losses
  Fair
Value
 
  
June 30, 2007                        
U.S. Government Securities $ 848   $   $ 18   $ 830  
State and Municipal Securities   4,269     11     35     4,245  
 
 
 
 
 
  
      Total $ 5,117   $ 11   $ 53   $ 5,075  
 
 
 
 
 
  
December 31, 2006                
U.S. Government Securities $ 949   $   $ 6   $ 943  
State and Municipal Securities   5,155     38     35     5,158  
 
 
 
 
 
  
      Total $ 6,104   $ 38   $ 41   $ 6,101  
 
 
 
 
 
  
Securities Available for Sale                
  
June 30, 2007                
U.S. Government Securities $ 17,946   $ 21   $ 383   $ 17,584  
State and Municipal Securities   15,035     32     396     14,671  
Corporate Securities   1,541         46     1,495  
Mutual Funds   3,041         135     2,906  
 
 
 
 
 
  
      Total $ 37,563   $ 53   $ 960   $ 36,656  
 
 
 
 
 
  
December 31, 2006                
U.S. Government Securities $ 18,780   $ 49   $ 286   $ 18,543  
State and Municipal Securities   13,719     69     169     13,619  
Corporate Securities   1,550         38     1,512  
Mutual Funds   3,041         107     2,934  
 
 
 
 
 
  
      Total $ 37,090   $ 118   $ 600   $ 36,608  
 
 
 
 
 
 

For all the above investment securities, the unrealized losses are generally due to changes in interest rates and, as such, are considered to be temporary by management. The Company has the ability and intent to hold securities with a stated maturity until the value recovers. Based on management’s evaluation and intent, none of the unrealized losses are considered other-than-temporary. The Company regularly


8



reviews its investment portfolio to determine whether any of its securities are other-than-temporarily impaired. In addition to accounting and regulatory guidance, to determine whether a security is other-than-temporarily impaired, the Company considers the duration and amount of each unrealized loss, the financial condition of the issuer, and the prospects for a change in market or net asset value within a reasonable period of time. We also consider that the contractual cash flows of certain mortgage backed securities are guaranteed by an agency of the United States Government.

In 2007, the Bank transferred $825 in municipal bonds from held to maturity to available for sale as a result of significant deterioration in the credit quality of the bond issuer. The bonds were subsequently sold and the Bank realized a loss on the sale of $20.

Note 4 – Allowance for Credit Losses

 
Three Months
Ended
June 30,
  Six Months
Ended
June 30,
  Twelve Months
Ended
Ended December 31,
 
2007   2006   2007   2006   2006  
  
Balance at beginning of period $ 4,284   $ 5,202   $ 4,033   $ 5,296   $ 5,296  
  
Provision for credit losses   105         362         625  
  
Charge-offs   (35 )   (4 )   (48 )   (104 )   (1,945 )
Recoveries   121     35     128     41     57  
 
 
 
 
 
 
Net (charge-offs) recoveries   86     31     80     (63 )   (1,888 )
 
 
 
 
 
 
  
Balance at end of period $ 4,475   $ 5,233   $ 4,475   $ 5,233   $ 4,033  
 
 
 
 
 
 
 

Note 5 – Stock Based Compensation

Prior to January 1, 2006, the Company accounted for stock option plans under the recognition and measurement principles of Accounting Principles Bulletin (“APB”) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. No stock-based employee compensation cost was reflected in net income for previous awards, as all options granted under the plans had an exercise price equal to the market value of the underlying common stock on the date of grant.

Effective January 1, 2006, the Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 123R, Share-Based Payment, which requires measurement of compensation cost for all stock-based awards based on the grant date fair value and recognition of compensation cost over the service period of stock-based awards. The Company has adopted SFAS No. 123R using the modified prospective method, which provides for no restatement of prior periods and no cumulative adjustment to equity accounts. It also provides for expense recognition for both new and existing unvested stock-based awards. Stock-based compensation expense during the six months ended June 30, 2007 and 2006 was $42 and $10 ($28 and $7 net of tax), respectively. Future compensation expense for unvested awards outstanding as of June 30, 2007 is estimated to be $162 recognized over a weighted average period of 2.2 years. Cash received from the exercise of stock options during the six months ended June 30, 2007 and 2006 totaled $374 and $10, respectively.

The fair value of stock options granted during the six months ended June 30, 2007 and 2006 is determined using the Black-Scholes option pricing model based on assumptions noted in the following table.


9



Expected volatility is based on historical volatility of the Company’s common stock. The expected term of stock options granted is based on the simplified method, which is the simple average between contractual term and vesting period. The risk-free rate is based on the expected term of stock options and the applicable U.S. Treasury yield in effect at the time of grant.

 
Grant period ended   Expected
Life
  Risk Free
Interest Rate
  Expected
Volatility
  Dividend
Yield
  Average
Fair Value
 
  
June 30, 2007   6.5 years   5.02%   15.64%   4.64%     $2.01  
June 30, 2006   6.5 years   4.97%   16.53%   4.83%     $1.88  
 

A summary of stock option activity under the stock option plans as of June 30, 2007 and changes during the six months ended June 30, 2007 and 2006 are presented below:

 
June 30, 2007   Shares   Weighted
Average
Exercise Price
  Weighted
Average
Remaining
Contractual
Term ( Years)
  Aggregate
Intrinsic
Value
 
  
Outstanding beginning of period     699,729   $ 13.70              
Granted     44,750     16.17              
Exercised     (32,026 )   11.69              
Forfeited     (21,000 )   17.16              
Expired     (1,700 )   5.88              
   
 
             
Outstanding end of period     689,753   $ 13.87     5.3   $ 1,610  
   
 
             
  
Exercisable end of period     550,195   $ 13.65     4.7   $ 1,404  
  
June 30, 2006  
  
Outstanding beginning of period     687,674   $ 13.28              
Granted     57,000     15.13              
Exercised     (900 )   11.11              
Forfeited                      
   
 
             
Outstanding end of period     743,774   $ 13.43     6.5   $ 1,134  
   
 
             
  
Exercisable end of period     613,368   $ 13.33     6.4   $ 992  

10



A summary of the status of the Company’s nonvested options as of June 30, 2007 and 2006 and changes during the six months then ended are presented below:

 
  2007   2006  
 
 
 
Shares   Weighted Average Fair
Value
  Shares   Weighted Average Fair
Value
 
  
Non-vested beginning of period   129,206   $ 2.37     144,006   $ 2.00  
Granted   44,750     2.01     57,000     1.82  
Vested   (31,098 )   2.60     (70,600 )   1.23  
Forfeited   (3,300 )   2.53          
 
 
 
 
 
Non-vested end of period   139,558   $ 2.19     130,406   $ 2.36  
 
 
 
 
 
 

The total intrinsic value of stock options exercised during the six months ended June 30, 2007 and 2006 was $161 and $4, respectively.

Note 6 – Commitments and Contingencies

Because of the nature of its activities, the Company is subject to various pending and threatened legal actions which arise in the ordinary course of business. In the opinion of management, liabilities arising from these claims, if any, will not have a material effect on the results of operations or financial position of the Company.

Note 7 – Recent Accounting Pronouncements

In July 2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes (“FIN 48”) – an Interpretation of FASB Statement No. 109, Accounting for Income Taxes. FIN 48 prescribes a comprehensive model for how a company should recognize, measure, present, and disclose in its financial statements uncertain tax positions that it has taken or expects to take on a tax return. FIN 48 was effective as of the beginning of the Company’s 2007 fiscal year. The cumulative effect, if any, of applying FIN 48 is to be reported as an adjustment to the opening balance of retained earnings in the year of adoption. The adoption of FIN 48 on January 1, 2007 did not have a material effect on the Company’s consolidated financial statements.

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements, which establishes a framework for reporting fair value and expands disclosures about fair value measurements. SFAS No. 157 becomes effective beginning with our first quarter 2008 fiscal period. The Company is currently evaluating the impact of this standard on its consolidated financial statements.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, which is effective for fiscal years beginning after November 15, 2007. Early adoption is permitted as of the beginning of a fiscal year that begins on or before November 15, 2007, provided the entity also elects to apply the provisions of SFAS No. 157. SFAS No. 159 permits entities to choose to measure financial assets and liabilities at fair value. The election to measure a financial asset or liability at fair value can be made on an instrument-by-instrument basis and is irrevocable. The difference between carrying value and fair value at the election date is recorded as a transition adjustment to opening retained earnings. Subsequent changes in fair value are recognized in earnings. The Company did not early adopt SFAS No. 159, and is currently assessing the impact the adoption of the standard will have on its consolidated financial statements.


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Note 8 – Subsequent Event

Subsequent to June 30, 2007, the Company recorded a recovery of amounts previously charged-off equal to $444. The recovery resulted from the collection of the guaranteed portion of a loan that was guaranteed by the United States Department of Agriculture.


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

A Warning About Forward-Looking Information

                This document contains forward-looking statements that are subject to risks and uncertainties. These statements are based on the beliefs and assumptions of our management, and on information currently available to them. Forward-looking statements include the information concerning our possible future results of operations set forth under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and statements preceded by, followed by or that include the words “believes,” “expects,” “anticipates,” “intends,” “plans,” “estimates” or similar expressions.

                Any forward-looking statements in this document are subject to risks described in our 2006 10-K, as well as risks relating to, among other things, the following:

 
                  1.             competitive pressures among depository and other financial institutions that may impede our ability to attract and retain borrowers, depositors and other customers, retain key employees, and maintain our interest margins and fee income;
 
                  2.             changes in the interest rate environment that may reduce margins or decrease the value of our securities;
 
                  3.             our growth strategy which may not be successful if we fail to accurately assess market opportunities, anticipated capital requirements, or the quality of assets, or if we fail to adequately control expenses;
 
                  4.             general economic or business conditions, either nationally or in the regions in which we do business, may be less favorable than expected, resulting in, among other things, a deterioration in credit quality or a reduced demand for credit; and
 
                  5.             a lack of liquidity in the market for our common stock may make it difficult or impossible for you to liquidate your investment in our stock or lead to distortions in the market price of our stock.
 

                Our management believes the forward-looking statements in this report are reasonable; however, you should not place undue reliance on them. Forward-looking statements are not guarantees of performance. They involve risks, uncertainties and assumptions. Many of the factors that will determine our future results and share value are beyond our ability to control or predict. We undertake no obligation to update forward-looking statements.


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Overview

The Company is a bank holding company headquartered in Aberdeen, Washington. The Company’s wholly-owned subsidiary, The Bank of the Pacific (the “Bank”), is a state chartered bank, also located in Washington. The Company also has two wholly-owned subsidiary trusts known as PFC Statutory Trust I and II (the “Trusts”) that were formed December 2005 and May 2006, respectively, in connection with the issuance of pooled trust preferred securities. The Company was incorporated in the state of Washington on February 12, 1997, pursuant to a holding company reorganization of the Bank.

The Company conducts its banking business through the Bank, which operates 18 branches located in communities in Grays Harbor, Pacific, Whatcom, Skagit and Wahkiakum counties in the state of Washington and one in Clatsop County, Oregon. In addition, the Bank has entered into construction contracts to relocate its Barkley and Ferndale, Washington branches to new facilities and has announced plans to open a new branch in Warrenton, Oregon in 2008.

The Bank provides loan and deposit services to customers who are predominantly small and middle-market businesses and middle-income individuals. The Bank is currently in the process of evaluating additional cash management products to include merchant remote deposit capture; implementation is expected in the 4th quarter of 2007. A business investment sweep account was rolled out during the 2nd quarter of 2007 with balances growing to $8 million as of June 30, 2007. While these products are expected to have a minor impact on revenue and expense in 2007, the Bank anticipates that the new products will enhance its ability to attract, grow and retain core deposit relationships.

Critical Accounting Policies

Critical accounting policies are discussed in the 2006 10-K under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operation – Critical Accounting Policies.” There have not been any material changes in our critical accounting policies and estimates relating to our allowance for credit losses as compared to that contained in the 2006 10-K.

Recent Accounting Pronouncements

Please see Note 7 of the Company’s Notes to Consolidated Financial Statements above for a discussion of recent accounting pronouncements and the likely effect on the Company.

Results of Operations

Net income.   For the three months ended June 30, 2007, Pacific’s net income was $1,566,000 compared to $1,745,000 for the same period in 2006. For the six months ended June 30, 2007, net income was $3,100,000 compared to $3,335,000 for the same period in 2006. The decrease in net income for the six month period resulted primarily from increases in the provision for credit losses and staffing and benefits expenses of $362,000 and $768,000, respectively, over the same period in 2006. These increases were only partially offset by a $69,000 increase in gains on sales of loans and $786,000 increase in net interest income as described below. Return on average equity for the quarters ended June 30, 2007 and 2006 was 12.2% and 13.9%, respectively.

Net interest income.  For the three and six months ended June 30, 2007, we experienced compression in our net interest margin when compared to the same period in 2006. This compression resulted from an increasing reliance on higher cost deposits and borrowings to fund loan growth. Net interest income for


14



the three and six months ended June 30, 2007 increased $414,000, or 7.02%, and $786,000, or 6.82%, respectively, compared to the same periods in 2006. The increase is primarily related to the increase in interest income as a result of greater average balances of interest earning assets. See the table below and the accompanying discussion for further information on interest income and expense. The net interest margin (net interest income divided by average earning assets) decreased to 4.87% for the six months ended June 30, 2007 from 5.08% for the same period last year. The decline in net interest margin is due primarily to an increase in the average cost of funds from 2.78% for the six months ended June 30, 2006 to 3.74% for the current six-month period.

The Federal Reserve Board heavily influences market interest rates, including deposit and loan rates offered by many financial institutions. The Company’s loan portfolio is significantly affected by changes in the prime interest rate, and similarly, our deposits are affected by changes in the federal funds rate. During the second quarter of 2007, the prime rate and federal funds rate remained unchanged at 8.25% and 5.25%, respectively.

The following table sets forth information with regard to average balances of interest earning assets and interest bearing liabilities and the resultant yields or cost, net interest income, and the net interest margin on a tax equivalent basis. Loans held for sale and non-accrual loans are included in total loans.

Six Months Ended June 30,

 
  2007   2006  
 
 
 
(dollars in thousands) Average
Balance
  Interest
Income
(Expense)
  Avg
Rate
  Average
Balance
  Interest
Income
(Expense)
  Avg
Rate
 
 
 
Interest Earning Assets                                    
     Loans (1) $ 457,373   $ 19,172 *   8.38 % $ 408,884   $ 16,014 *   7.83 %
     Taxable securities   25,643     624     4.87     20,970     416     3.97  
     Tax-exempt securities   17,377     526 *   6.05     16,029     485 *   6.05  
     Federal Home Loan Bank Stock   1,858             1,858          
     Interest earning balances with banks   3,910     99     5.06     7,360     174     4.73  
 
 
 
 
 
 
 
   
Total interest earning assets $ 506,161   $ 20,421     8.07 % $ 455,101   $ 17,089     7.51 %
   
    Cash and due from banks   11,959                 11,614              
    Bank premises and equipment (net)   12,439                 10,826              
    Other assets   28,692                 25,480              
    Allowance for credit losses   (4,278 )               (5,261 )            
 
         
         
   
Total assets $ 554,973               $ 497,760              
 
         
         
   
Interest Bearing Liabilities                                    
     Savings and interest bearing demand $ 189,673   $ (2,465 )   2.60 % $ 197,547   $ (2,093 )   2.12 %
     Time deposits   176,914     (4,180 )   4.73     131,821     (2,495 )   3.79  
 
 
 
 
 
 
 
     Total deposits   366,587     (6,645 )   3.63     329,368     (4,588 )   2.79  
   
     Short-term borrowings   9,868     (273 )   5.53     2,779     (74 )   5.33  
     Long-term borrowings   21,500     (410 )   3.81     24,467     (447 )   3.65  
     Secured borrowings   1,633     (58 )   7.10     1,944     (74 )   7.61  
     Junior subordinated debentures   13,403     (453 )   6.76     5,611     (174 )   6.20  
 
 
 
 
 
 
 
     Total borrowings   46,404     (1,194 )   5.15     34,801     (769 )   4.42  
   
Total interest-bearing liabilities $ 412,991   $ (7,839 )   3.80 % $ 364,169   $ (5,357 )   2.94 %
   
     Demand deposits   86,084                 82,249              
     Other liabilities   5,032                 3,249              
     Shareholders’ equity   50,866                 48,093              
 
         
         
   
Total liabilities and shareholders’ equity $ 554,973               $ 497,760              
 
         
         
   
Net interest income       $ 12,582 *             $ 11,732 *      
Net interest spread               4.97 %               5.16 %
Net interest margin               4.87 %               5.08 %
 

* Tax equivalent basis – 34% tax rate used

(1) Interest income on loans includes loan fees of $972 and $683 in 2007 and 2006, respectively.


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Interest and dividend income for the three and six months ended June 30, 2007 increased $1,583,000, or 18.06%, and $3,268,000, or 19.35%, respectively compared to the same periods in 2006. Growth in average loan balances and higher amortized loan fees contributed to increased net interest income. Loans averaged $457.4 million with an average yield of 8.38% for the six months ended June 30, 2007 compared to average loans of $408.9 million with an average yield of 7.83% for the same period in 2006.

Interest expense for the three and six months ended June 30, 2007 increased $1,169,000, or 40.82%, and $2,482,000 or 46.33%, respectively, compared to the same periods in 2006. The increase is primarily attributable to rate increases on interest-bearing deposits, additional expense related to $8 million in junior subordinated debentures issued in May 2006 and an increased volume of short-term borrowings (primarily wholesale repurchase agreements). The Company began utilizing wholesale repurchase agreements as an additional funding source in the first quarter of 2007. Average interest-bearing deposit balances for the six months ended June 30, 2007 and 2006 were $366.6 million and $329.4 million, respectively, with an average cost of 3.63% and 2.79%, respectively. Affected by a flat yield curve, net interest spread declined to 4.97% in the second quarter of 2007 from 5.16% in the second quarter of 2006.

Average secured borrowings for the six months ended June 30, 2007 and 2006 were $1,633,000 and $1,944,000, respectively. The secured borrowings represent borrowings collateralized by participation interests in loans originated by the Company. Average long and short term borrowings for the six months ended June 30, 2007 were $31,368,000 with an average cost of 4.35% compared to $27,246,000 with an average cost of 3.82% for the same period in 2006.

Provision and allowance for credit losses.  The allowance for credit losses reflects management’s current estimate of the amount required to absorb losses on existing loans and commitments to extend credit based on factors present as of the end of the period. Loans deemed uncollectible are charged against and reduce the allowance. Periodically, a provision for credit losses is charged to current expense. This provision acts to replenish the allowance for credit losses and to maintain the allowance at a level that management deems adequate.

There is no precise method of predicting specific credit losses or amounts that ultimately may be charged off. The determination that a loan may become uncollectible, in whole or in part, is a matter of judgment. Similarly, the adequacy of the allowance for credit losses is a matter of judgment that requires consideration of many factors, including (a) economic conditions and the effect on particular industries and specific borrowers; (b) a review of borrowers’ financial data, together with industry data, the competitive situation, the borrowers’ management capabilities and other factors; (c) a continuing evaluation of the loan portfolio, including monitoring by lending officers and staff credit personnel of all loans which are identified as being of less than acceptable quality; (d) an in-depth analysis, on a monthly basis, of all loans judged to present a possibility of loss (if, as a result of such monthly analysis, the loan is judged to be not fully collectible, the carrying value of the loan is reduced to that portion considered collectible); and (e) an evaluation of the underlying collateral for secured lending, including the use of independent appraisals of real estate properties securing loans. An analysis of the adequacy of the allowance is conducted by management quarterly and is reviewed by the board of directors. Based on this analysis, management considers the allowance for credit losses to be adequate at June 30, 2007.


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Periodic provisions for credit losses are made to maintain the allowance for credit losses at an appropriate level. The provisions are based on an analysis of various factors including historical loss experience based on volumes and types of loans, volumes and trends in delinquencies and non-accrual loans, trends in portfolio volume, results of internal and independent external credit reviews, and anticipated economic conditions. For additional information, please see the discussion under the heading “Critical Accounting Policy” in Item 7 of our 2006 10-K.

During the three and six months ended June 30, 2007, provision for credit losses totaled $105,000 and $362,000 compared to zero for the same periods in 2006. For the six months ended June 30, 2007, net recoveries were $86,000 compared to $80,000 for the same period in 2006. Net charge-offs for the twelve months ended December 31, 2006 were $1,881,000. The Bank recorded a single charge-off of $1,827,000 during the third quarter of 2006 that was attributable to one borrower. The ratio of net recoveries to average loans outstanding for the three months ended June 30, 2007 and 2006 was 0.02% and 0.01%, respectively, and 0.02% and (0.01)% for the six months ended June 30, 2007 and 2006, respectively.

At June 30, 2007, the allowance for credit losses was $4,475,000 compared to $4,033,000 at December 31, 2006, and $5,233,000 at June 30, 2006. The decrease from June 30, 2006 is attributable to the single charge-off mentioned above which was partially offset by the increased loan loss provision of $362,000 during the six months ended June 30, 2007. The ratio of the allowance for credit losses to total loans outstanding (including loans held for sale) was 0.98%, 0.92% and 1.24%, at June 30, 2007, December 31, 2006, and June 30, 2006, respectively.

Non-performing assets and foreclosed real estate owned.  Non-performing assets totaled $802,000 at June 30, 2007. This represents 0.17% of total loans (including loans held for sale), compared to $7,711,000, or 1.76%, at December 31, 2006, and $6,716,000, or 1.59%, at June 30, 2006. Non-accrual loans totaled $802,000, $7,335,000 and $5,966,000 at June 30, 2007, December 31, 2006 and June 30, 2006, respectively. Non-accrual loans at December 31, 2006 and June 30, 2006 related primarily to one borrower involved in the forest products industry. These loans were partially guaranteed by the United States Department of Agriculture (“USDA”). The significant improvement in non-accrual loans outstanding from 2006 to 2007 resulted primarily from the collection of the guaranteed portion of these loans from the USDA. During the six months ended June 30, 2007, the Company received $3,360,000 from the USDA and another $2,547,000 from the liquidation of collateral for these loans, resulting in a recovery of $115,000 for amounts previously charged-off. Additionally, subsequent to June 30, 2007, the Company received an additional $444,000 under the USDA guarantee that was applied as a recovery. The ratio of allowance for credit losses to total loans outstanding (including loans held for sale) following this recovery was 1.07%.

 
ANALYSIS OF NON-PERFORMING ASSETS
  
June 30,
2007
  December 31,
2006
  June 30,
2006
 
 
(in thousands)                  
                   
Accruing loans past due 90 days or more $   $ 376   $ 728  
Non-accrual loans   802     7,335     5,966  
Foreclosed real estate           22  
 
 
 
 
                   
TOTAL $ 802   $ 7,711   $ 6,716  
 
 
 
 

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Non-interest income and expense.  Non-interest income for both the three and six months ended June 30, 2007 increased $60,000, compared to the same periods in 2006. Gain on sales of loans, the largest component of non-interest income, totaled $530,000 and $506,000 for the three months ended June 30, 2007 and 2006, respectively, and totaled $955,000 and $886,000 for the six months ended June 30, 2007 and 2006, respectively. The interest rate environment heavily influences revenue from mortgage banking activities. Management expects mortgage banking volume to be flat for the rest of 2007 and as long as long-term interest rates remain stable. The Company does not engage in sub-prime lending activities.

Additionally, during the three months ended June 30, 2007, the Company recorded other operating income of $44,000 from interest received from the Internal Revenue Service on an amended tax return for the 2003 and 2004 tax years.

Non-interest expense for the three and six months ended June 30, 2007 increased $718,000 and $1,224,000, respectively, compared to the same periods in 2006. Salaries and employee benefits expense for the six months ended June 30, 2007 increased $768,000 from the six months ended June 30, 2006 due to annual pay increases and hiring additional staff. Full time equivalent employees at June 30, 2007 were 218 compared to 196 at June 30, 2006. Occupancy and equipment expense for the six months ended June 30, 2007 increased $61,000 from the six months ended June 30, 2006. Other non-interest expense increased $395,000, including an expense of $115,000 relating to a settlement of an employment contract dispute in the first quarter of 2007.

Income taxes.  The federal income tax provision for the three and six months ended June 30, 2007 was $607,000 and $947,000, respectively, a decrease of $170,000 and $505,000 compared to the same periods in 2006. The effective tax rate for the three and six months ended June 30, 2007 was 27.9% and 23.4%, respectively. In 2007, the Company filed amended tax returns for the 2003 and 2004 tax years in order to capture a previously unrecognized net operating loss benefit from the BNW Bancorp Inc. acquisition. This resulted in a $215,000 favorable tax adjustment recorded during the first quarter.

Financial Condition  

Assets.   Total assets were $569,832,000 at June 30, 2007, an increase of $7,448,000, or 1.32%, over year-end 2006. Loans, including loans held for sale, were $458,537,000 at June 30, 2007, an increase of $19,368,000, or 4.41%, over year-end 2006. The increase in the portfolio was a result of the purchase of $22 million in loans that are fully guaranteed by U.S. government agencies. Of this amount, approximately $16 million are real estate loans, with the remaining $6 million being commercial loans. These loans are all variable rate loans, some of which include prepayment penalties. Excluding the purchase of loans previously mentioned, loan balances are down in 2007 due to softer loan demand.

Loans.  Interest and fees earned on our loan portfolio is our primary source of revenue. Loans represented 80% of total assets as of June 30, 2007, compared to 78% at December 31, 2006 and 81% at June 30, 2006. The majority of the Company’s loan portfolio is comprised of commercial and industrial loans and real estate loans. The commercial and industrial loans are a diverse group of loans to small, medium, and large businesses for purposes ranging from working capital needs to term financing of equipment. As shown in the table below, the Company emphasizes commercial real estate and construction and land development loans. This commercial real estate portfolio generally consists of a wide cross-section of retail, small office, warehouse, and industrial type properties. A substantial number of these properties are owner-occupied. Loan to value ratios for the Company’s commercial real estate loans generally do not exceed 80% and debt service ratios are generally 125% or better. While we have significant balances within this lending category, we believe that our lending policies and underwriting


18



standards are sufficient to minimize risk even if there were to be a downturn in the commercial real estate market. It is our strategic plan to continue to emphasize growth in commercial and small business loans. We believe this will be a key contributor to growing more low cost deposits. Additionally, we are currently in the process of automating our consumer loan approval procedures. We anticipate this system to expedite the loan approval process and reduce overhead, while increasing consumer loan balances.

Loan detail by category, including loans held for sale, as of June 30, 2007 and December 31, 2006 follows (in thousands):

 
  June 30,
2007
  December 31,
2006
 
  
Commercial and industrial $ 109,392   $ 108,614  
Agricultural   18,233     24,229  
Real estate mortgage   93,953     91,598  
Real estate construction   89,669     87,063  
Real estate commercial   138,139     117,608  
Installment   7,614     8,150  
Credit cards and other   2,133     2,508  
Less unearned income   (596 )   (601 )
 
 
 
Total Loans   458,537     439,169  
Allowance for credit losses   (4,475 )   (4,033 )
 
 
 
Net Loans $ 454,062   $ 435,136  
 
 
 
 

Deposits.  Total deposits were $468,942,000 at June 30, 2007, an increase of $2,101,000, or 0.45%, compared to December 31, 2006. Management expects our deposit balances to increase as we continue in 2007. This is consistent with the cyclical pattern of our deposits for our tourist heavy locations. Some of the deposit growth which occurred during the past several years is likely migrating to equity markets as consumer confidence has heightened in those markets. Competitive pressures from banks in our market areas with strained liquidity positions may also slow our deposit growth. In the long-term we anticipate continued growth in our core deposits through both the addition of new customers and our current client base. We have established a branch system to serve our consumer and business depositors. In addition, management’s strategy for funding asset growth is to make use of brokered and other wholesale deposits on an as-needed basis.

Liquidity.   Adequate liquidity is available to accommodate fluctuations in deposit levels, fund operations, provide for customer credit needs, and meet obligations and commitments on a timely basis. The Bank’s primary sources of funds are customer deposits, maturities of investment securities, sales of securities available for sale, loan sales, loan repayments, net income, and other borrowings. When necessary, liquidity can be increased by taking advances available from credit available to the Bank. The Bank maintains credit facilities with correspondent banks totaling $43,500,000, none of which were used at June 30, 2007. In addition, the Bank has a credit line with the Federal Home Loan Bank of Seattle for up to 20% of assets, of which $21,500,000 was used at June 30, 2007. For its funds, the Company relies on dividends from the Bank and proceeds from the issuance of trust preferred securities, both of which are used for various corporate purposes.

At June 30, 2007, two wholly-owned subsidiary grantor trusts established by the Company had issued and outstanding $13,403,000 of trust preferred securities. For additional information regarding trust preferred


19



securities, see the 2006 10-K under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Liquidity”.

Capital.   Total shareholders’ equity was $52,688,000 at June 30, 2007, an increase of $3,704,000, or 7.56%, compared to December 31, 2006. The Federal Reserve and the Federal Deposit Insurance Commission have established minimum guidelines that mandate risk-based capital requirements for bank holding companies and member banks. Under the guidelines, risk percentages are assigned to various categories of assets and off-balance sheet items to calculate a risk-adjusted capital ratio. Regulatory minimum risk-based capital guidelines require Tier 1 capital to risk-weighted assets of 4% and total capital to risk-weighted assets of 8%. The Company’s Tier 1 and Total Risk Based Capital ratios were 12.12% and 13.14%, respectively, at June 30, 2007 compared with 11.03% and 11.94%, respectively at December 31, 2006.

Additionally, to qualify as “well-capitalized”, the Bank must have a Tier 1 risk based capital ratio of at least 6%, total risk based capital of at least 10%, and a leverage ratio of a least 5%. The Bank qualified as “well-capitalized” at June 30, 2007.


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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest rate, credit, and operations risks are the most significant market risks that affect the Company’s performance. The Company relies on loan review, prudent loan underwriting standards, and an adequate allowance for possible credit losses to mitigate credit risk.

An asset/liability management simulation model is used to measure interest rate risk. The model produces regulatory oriented measurements of interest rate risk exposure. The model quantifies interest rate risk by simulating forecasted net interest income over a 12-month time period under various interest rate scenarios, as well as monitoring the change in the present value of equity under the same rate scenarios. The present value of equity is defined as the difference between the market value of assets less current liabilities. By measuring the change in the present value of equity under various rate scenarios, management is able to identify interest rate risk that may not be evident from changes in forecasted net interest income.

The Company is currently asset sensitive, meaning that interest earning assets mature or re-price more quickly than interest-bearing liabilities in a given period. Therefore, a significant increase in market rates of interest could improve net interest income. Conversely, a decreasing rate environment may adversely affect net interest income.

It should be noted that the simulation model does not take into account future management actions that could be undertaken should actual market rates change during the year. Also, the simulation model results are not exact measures of the Company’s actual interest rate risk. They are only indicators of rate risk exposure based on assumptions produced in a simplified modeling environment designed to heighten sensitivity to changes in interest rates. The rate risk exposure results of the simulation model typically are greater than the Company’s actual rate risk. That is due to the conservative modeling environment, which generally depicts a worst-case situation. Management has assessed the results of the simulation reports as of June 30, 2007 and believes that there has been no material change since December 31, 2006.

ITEM 4. CONTROLS AND PROCEDURES

The Company’s disclosure controls and procedures are designed to ensure that information the Company must disclose in its reports filed or submitted under the Securities Exchange Act of 1934 (“Exchange Act”) is recorded, processed, summarized, and reported on a timely basis. Our management has evaluated, with the participation and under the supervision of our chief executive officer (“CEO”) and chief financial officer (“CFO”), the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act) as of the end of the period covered by this report. Based on this evaluation, our CEO and CFO have concluded that, as of such date, the Company’s disclosure controls and procedures are effective in ensuring that information relating to the Company, including its consolidated subsidiaries, required to be disclosed in reports that it files under the Exchange Act is (1) recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms, and (2) accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosures.

No change in the Company’s internal control over financial reporting occurred during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.


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PART II – OTHER INFORMATION

 
ITEM 1. LEGAL PROCEEDINGS
   
Not applicable.
   
ITEM 1A. RISK FACTORS
   
There has been no material change from the risk factors previously reported in the 2006 10-K.
   
ITEM 2.              UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
   
None.  
   
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
   
None.  
   
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
   
Previously reported.
   
ITEM 5. OTHER INFORMATION
   
None.  
   
ITEM 6. EXHIBITS
   
See Exhibit Index immediately following signatures below.
 

SIGNATURES

                Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 
  PACIFIC FINANCIAL CORPORATION
   
   
DATED:  August 8, 2007  By:  /s/ Dennis A. Long
   
    Dennis A. Long
    Chief Executive Officer
     
     
  By:  /s/ Denise Portmann
   
    Denise Portmann
    Chief Financial Officer

22



EXHIBIT INDEX

 
EXHIBIT NO. EXHIBIT


31.1 Certification of CEO under Rule 13a – 14(a) of the Exchange Act.
31.2 Certification of CFO under Rule 13a – 14(a) of the Exchange Act.
32 Certification of CEO and CFO under 18 U.S.C. Section 1350.

23