General

Capital Bank Corporation (the “Company”) is a financial holding company incorporated under the laws of North Carolina on August 10, 1998. The Company’s primary function is to serve as the holding company for its wholly-owned subsidiaries, Capital Bank and Capital Bank Investment Services, Inc. In addition, the Company has interest in three trusts, Capital Bank Statutory Trust I, II and III (hereinafter collectively referred to as the “Trusts”). These Trusts are not consolidated with the financial statements of the Company pursuant to the provisions of FASB Interpretation No. 46R, “Consolidation of Variable Interest Entities” (“FIN 46R”). Capital Bank (the “Bank”) was incorporated under the laws of the State of North Carolina on May 30, 1997, and commenced operations as a state-chartered banking corporation on June 20, 1997. The Bank is not a member of the Federal Reserve System (“Federal Reserve”) and has no subsidiaries. Capital Bank Investment Services, Inc. currently has no operations, but remains a subsidiary of the Company.

As of December 31, 2006, the Company had assets of approximately $1.4 billion, gross loans outstanding of approximately $1.0 billion and deposits of approximately $1.1 billion. The Company’s corporate office is located at 333 Fayetteville Street, Suite 700, Raleigh, North Carolina 27601, and its telephone number is (919) 645-6400. In addition to the corporate office, the Company has 26 branch offices in North Carolina: five branch offices in Raleigh, four in Burlington, three in Sanford, three in Asheville, two in Cary, two in Graham, one in Siler City, one in Oxford, one in Wake Forest, one in Greensboro, one in Hickory, one in Mebane and one in Pittsboro.

On January 3, 2006, the Company consummated its previously announced merger with 1st State Bancorp, Inc. (“1st State Bancorp”). As a result of the merger, and the subsequent merger of 1st State Bank, a subsidiary of 1st State Bancorp, with and into the Bank, the Bank is the sole manager-member of First Capital Services Company, LLC (“FCSC”), which had previously operated as 1st State Bank’s full service investment company. FCSC ceased operations following the merger, but remains a subsidiary of the Bank.

 

Capital Bank is a community bank engaged in the general commercial banking business in Wake, Granville, Lee, Chatham, Alamance, Guilford, Buncombe, and Catawba Counties of North Carolina. Wake County has a diversified economic base, comprised primarily of services, retail trade, government and manufacturing and includes the City of Raleigh, the state capital. Granville, Lee and Chatham counties are significant centers for various industries, including agriculture, manufacturing, lumber and tobacco. Alamance and Guilford counties have a diversified economic base, comprised primarily of manufacturing, agriculture, retail and wholesale trade, government, services and utilities. Catawba County, which includes the town of Hickory, is a regional center for manufacturing and wholesale trade. The economic base of the city of Asheville, in Buncombe County, is comprised primarily of services, medical, tourism and manufacturing industries.

The Bank offers a full range of banking services, including the following: checking accounts; savings accounts; NOW accounts; money market accounts; certificates of deposit; loans for real estate, construction, businesses, agriculture, personal uses, home improvement and automobiles; equity lines of credit; credit loans; consumer loans; credit cards; individual retirement accounts; safe deposit boxes; bank money orders; internet banking; electronic funds transfer services including wire transfers; traveler’s checks; and free notary services to all Bank customers. In addition, the Bank provides automated teller machine access to its customers for cash withdrawals through nationwide ATM networks. The Bank offers noninsured investment products and services through its financial services division, through a partnership with Capital Investment Companies, a leading Raleigh, North Carolina based broker-dealer that is unaffiliated with the Company. At present, the Bank does not provide the services of a trust department.

The Trusts were formed for the sole purpose of issuing trust preferred securities. The proceeds from such issuances were loaned to the Company in exchange for the subordinated debentures, which are the sole assets of the Trusts. The Company’s obligation under the subordinated debentures constitutes a full and unconditional guarantee by the Company of the Trust’s obligations under the trust preferred securities. The Trusts have no operations other than those that are incidental to the issuance of the trust preferred securities (see Part II  – Item 8. Financial Statements and Supplementary Data, Notes to Consolidated Financial Statements  – Note 11. Subordinated Debentures).

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INDEX

Lending Activities and Deposits

Loan Types and Lending Policies . The Company originates a variety of loans, including loans secured by real estate, loans for construction, loans for commercial purposes and loans to individuals for personal and household purposes. A significant portion of the loan portfolio is related to real estate. During 2006, there were no large concentrations of credit to any particular industry. The economic trends of the area served by the Company are influenced by the significant industries within the region. Consistent with the Company’s emphasis on being a community-oriented financial institution, virtually all the Company’s business activity is with customers located in and around counties in which the Company has banking offices. The ultimate collectibility of the Company’s loan portfolio is susceptible to changes in the market conditions of these geographic regions.

The Company uses a centralized risk management process to ensure uniform credit underwriting that adheres to the Bank’s loan policy as approved annually by the Board of Directors. Lending policies are reviewed on a regular basis to confirm that the Company is prudent in setting its underwriting criteria. Credit risk is managed through a number of methods including loan grading of commercial loans, committee approval of larger loans, and class and purpose coding of loans. Management believes that early detection of potential credit problems through regular contact with the Company’s clients, coupled with consistent reviews of the borrowers’ financial condition, are important factors in overall credit risk management. The amounts and types of loans outstanding for the past five years ended December 31 are shown on the following table:

 
 
2006
 
2005
 
2004
 
2003
 
2002
 
(Dollars in thousands)
 
Amount
 
% of Total
 
Amount
 
% of Total
 
Amount
 
% of Total
 
Amount
 
% of Total
 
Amount
 
% of Total
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial
 
$
593,666
 
 
59
%
$
430,625
 
 
64
%
$
439,328
 
 
67
%
$
406,052
 
 
65
%
$
366,300
 
 
61
%
Construction
 
 
250,308
 
 
25
%
 
131,941
 
 
20
%
 
103,896
 
 
16
%
 
82,030
 
 
13
%
 
77,364
 
 
13
%
Consumer
 
 
30,806
 
 
3
%
 
19,022
 
 
3
%
 
23,732
 
 
4
%
 
29,164
 
 
5
%
 
38,222
 
 
6
%
Home equity lines
 
 
83,231
 
 
8
%
 
65,566
 
 
10
%
 
61,924
 
 
9
%
 
58,430
 
 
9
%
 
45,935
 
 
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