UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

þ		Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

For the quarterly period ended March 31, 2008

o		Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

FIRST BUSINESS FINANCIAL SERVICES, INC.

(Exact name of registrant as specified in its charter)

Wisconsin		39-1576570
(State or jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
401 Charmany Drive Madison, WI		53719
(Address of Principal Executive Offices)		(Zip Code)

(608) 238-8008

Telephone number

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

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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o               Accelerated filer o                         Non-accelerated filer o                         Smaller reporting company þ

                                        (Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o                      No þ

The number of shares outstanding of the registrant’s sole class of common stock, par value $0.01 per share, on April 21, 2008 was 2,511,958 shares.

 

 

FIRST BUSINESS FINANCIAL SERVICES, INC.
INDEX – FORM 10-Q

		Page
PART I. FINANCIAL
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets as of March 31, 2008 and December 31, 2007			1
Consolidated Statements of Income for the Three Months Ended March 31, 2008 and 2007			2
Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income for the Three Months Ended March 31, 2008 and 2007			3
Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2008 and 2007			4
Notes to Unaudited Consolidated Financial Statements			5
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			13
Item 3. Quantitative and Qualitative Disclosures about Market Risk			24
Item 4T. Controls and Procedures			24
PART II. OTHER INFORMATION
Item 1. Legal Proceedings			25
Item 1A. Risk Factors			25
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			25
Item 3. Defaults upon Senior Securities			25
Item 4. Submission of Matters to a Vote of Security Holders			25
Item 5. Other information			25
Item 6. Exhibits			25
SIGNATURES			26
Certification of the CEO
Certification of the Senior Vice President and Chief Financial Officer
Section 1350 Certifications

PART I. Financial Information

Item 1. Financial Statements

First Business Financial Services, Inc.

Consolidated Balance Sheets

		(Unaudited)
		March 31,				December 31,
		2008				2007
		(In Thousands, Except Share Data)
Assets
Cash and due from banks		$	15,734			$	17,421
Short-term investments			170				203
Cash and cash equivalents			15,904				17,624
Securities available-for-sale, at fair value			100,071				97,378
Loans and leases receivable, net of allowance for loan and lease losses of $10,188 and $9,854, respectively			811,747				771,633
Leasehold improvements and equipment, net			1,561				1,546
Cash surrender value of bank-owned life insurance			14,934				14,757
Investment in Federal Home Loan Bank stock, at cost			2,367				2,367
Goodwill and other intangibles			2,780				2,787
Accrued interest receivable and other assets			9,095				10,346
Total assets		$	958,459			$	918,438
Liabilities and Stockholders’ Equity
Deposits		$	829,375			$	776,060
Federal Home Loan Bank and other borrowings			65,209				81,986
Accrued interest payable and other liabilities			13,072				11,840
Total liabilities			907,656				869,886
Commitments and contingencies
Stockholders’ equity:
Preferred stock, $10 par value, 10,000 Series A shares and 10,000 Series B shares authorized, none issued or outstanding Common stock, $0.01 par value, 8,000,000 shares authorized, 2,580,349 and 2,576,849 shares issued, 2,512,157 and 2,509,213 outstanding in 2008 and 2007, respectively			26				26
Additional paid-in capital			23,604				23,462
Retained earnings			27,430				26,836
Accumulated other comprehensive income (loss)			1,126				(399	)
Treasury stock (68,192 and 67,636 shares in 2008 and 2007, respectively), at cost			(1,383	)			(1,373	)
Total stockholders’ equity			50,803				48,552
Total liabilities and stockholders’ equity		$	958,459			$	918,438

See accompanying Notes to Unaudited Consolidated Financial Statements.

First Business Financial Services, Inc.

Consolidated Statements of Income (Unaudited)

		For the Three Months Ended,
		March 31,
		2008				2007
		(In Thousands, Except Share Data)
Interest income:
Loans and leases		$	13,995			$	12,693
Securities income, taxable			1,116				1,086
Short-term investments			42				37
Total interest income			15,153				13,816
Interest expense:
Deposits			8,026				7,584
Notes payable and other borrowings			1,065				851
Total interest expense			9,091				8,435
Net interest income			6,062				5,381
Provision for loan and lease losses			553				576
Net interest income after provision for loan and lease losses			5,509				4,805
Non-interest income:
Trust and investment services fee income			482				391
Service charges on deposits			210				180
Increase in cash surrender value of bank-owned life insurance			177				163
Loan fees			136				143
Credit, merchant and debit card fees			45				51
Other			37				74
Total non-interest income			1,087				1,002
Non-interest expense:
Compensation			3,359				2,910
Occupancy			330				262
Equipment			156				122
Data processing			274				244
Marketing			263				280
Professional fees			375				455
Other			584				603
Total non-interest expense			5,341				4,876
Income before income tax expense			1,255				931
Income tax expense			485				332
Net income		$	770			$	599
Earnings per share:
Basic		$	0.32			$	0.24
Diluted			0.32				0.24
Dividends declared per share			0.07				0.065

See accompanying Notes to Unaudited Consolidated Financial Statements.

First Business Financial Services, Inc.

Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income (Unaudited)

														Accumulated
						Additional								other
						paid-in				Retained				comprehensive				Treasury
		Common stock				capital				earnings				loss				stock				Total
		(In Thousands, Except Share Data)
Balance at December 31, 2006		$	25			$	23,029			$	24,237			$	(1,005	)		$	(530	)		$	45,756
Comprehensive income:
Net income			—				—				599				—				—				599
Unrealized securities gains arising during the period			—				—				—				589				—				589
Income tax effect			—				—				—				(204	)			—				(204	)
Comprehensive income																							984
Share-based compensation – restricted shares			—				69				—				—				—				69
Cash dividends ($0.065 per share)			—				—				(162	)			—				—				(162	)
Treasury stock purchased (417 shares)			—				—				—				—				(9	)			(9	)
Balance at March 31, 2007		$	25			$	23,098			$	24,674			$	(620	)		$	(539	)		$	46,638

														Accumulated
						Additional								other
		Common				paid-in				Retained				comprehensive				Treasury
		stock				capital				earnings				income (loss)				stock				Total
		(In Thousands, Except Share Data)
Balance at December 31, 2007		$	26			$	23,462			$	26,836			$	(399	)		$	(1,373	)		$	48,552
Comprehensive income:
Net income			—				—				770				—				—				770
Unrealized securities gains arising during the period			—				—				—				2,329				—				2,329
Unrealized derivative losses arising during the period			—				—				—				(5	)			—				(5	)
Reclassification adjustment for realized losses on derivatives			—				—				—				3				—				3
Income tax effect			—				—				—				(802	)			—				(802	)
Comprehensive income																							2,295
Share-based compensation – restricted shares			—				142				—				—				—				142
Cash dividends ($0.07 per share)			—				—				(176	)			—				—				(176	)
Treasury stock purchased (556 shares)			—				—				—				—				(10	)			(10	)
Balance at March 31, 2008		$	26			$	23,604			$	27,430			$	1,126			$	(1,383	)		$	50,803

See accompanying Notes to Unaudited Consolidated Financial Statements.

First Business Financial Services, Inc.

Consolidated Statements of Cash Flows (Unaudited)

		For the Three Months Ended
		March 31,
		2008				2007
		(In Thousands)
Operating activities
Net income		$	770			$	599
Adjustments to reconcile net income to net cash provided by operating activities:
Deferred income taxes, net			(222	)			(569	)
Provision for loan and lease losses			553				576
Depreciation, amortization and accretion, net			131				120
Share-based compensation			142				69
Increase in cash surrender value of bank-owned life insurance			(177	)			(163	)
Origination of loans originated for sale			(501	)			(308	)
Sale of loans originated for sale			502				—
Gain on sale of loans originated for sale			(1	)			—
Loss on sale of foreclosed property			5				—
Decrease (increase) in accrued interest receivable and other assets			95				(650	)
Increase in accrued interest payable and other liabilities			1,218				1,863
Net cash provided by operating activities			2,515				1,537
Investing activities
Proceeds from maturities of available-for-sale securities			7,600				4,850
Purchases of available-for-sale securities			(7,961	)			—
Proceeds from sale of foreclosed property			655				—
Net increase in loans and leases			(40,667	)			(17,469	)
Purchases of leasehold improvements and equipment, net			(227	)			(144	)
Net cash used in investing activities			(40,600	)			(12,763	)
Financing activities
Net increase in deposits			53,315				52,857
Net decrease in FHLB line of credit			—				(17,049	)
Repayment of FHLB advances			(6,002	)			(2	)
Net decrease in short-term borrowed funds			(10,775	)			(25,912	)
Cash dividends paid			(163	)			(162	)
Purchase of treasury stock			(10	)			(9	)
Net cash provided by financing activities			36,365				9,723
Net decrease in cash and cash equivalents			(1,720	)			(1,503	)
Cash and cash equivalents at the beginning of the period			17,624				19,461
Cash and cash equivalents at the end of the period		$	15,904			$	17,958
Supplementary cash flow information
Interest paid on deposits and borrowings		$	7,563			$	7,455
Income taxes paid			10				5
Transfer to other real estate owned			—				664

See accompanying Notes to Unaudited Consolidated Financial Statements.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – Principles of Consolidation.

The unaudited consolidated financial statements include the accounts and results of First Business Financial Services, Inc. (FBFS or the Corporation), and its wholly-owned subsidiaries, First Business Bank, and First Business Bank – Milwaukee. All significant intercompany balances and transactions have been eliminated in consolidation.

Note 2 – Basis of Presentation.

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. The Corporation has not changed its significant accounting and reporting policies from those disclosed in the Corporation’s Form 10-K for the year ended December 31, 2007 with the exception of the partial adoption of Statement of Financial Accounting Standard (SFAS) No. 157, Fair Value Measurements (SFAS No. 157). Refer to Note 3 — Recent Accounting Pronouncements for the impacts of the partial adoption of this standard. There have been no significant changes in the methods or assumptions used in accounting policies requiring material estimates and assumptions.

In the opinion of management, all adjustments (consisting of normal recurring accruals) necessary for a fair presentation of the unaudited consolidated financial statements have been included. The results of operations for the three month period ended March 31, 2008 are not necessarily indicative of results that may be expected for any other interim period or the entire fiscal year ending December 31, 2008. Certain amounts in prior periods have been reclassified to conform to the current presentation.

Note 3 – Recent Accounting Pronouncements.

Fair Value Disclosures. Effective January 1, 2008, the Corporation partially adopted SFAS 157, which provides a framework for measuring fair value. Fair value is defined as the price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. The partial adoption of this standard only resulted in additional disclosure requirements and had no financial statement impact. Delayed application of this statement is permitted for nonfinancial assets and nonfinancial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually), until fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. The Corporation has not applied the provisions of SFAS 157 for goodwill and long-lived assets measured for fair value for impairment assessment under Statement 144, Accounting for the Impairment or Disposal of Long-Lived Assets including other real estate owned.

Refer to Note 10 – Fair Value Disclosure (SFAS 157 Disclosure) of the unaudited consolidated financial statements for further information regarding the fair value of the Corporation’s financial instruments.

Fair Value Option for Financial Assets and Financial Liabilities. Effective January 1, 2008, the Corporation adopted SFAS No. 159, The Fair Value Option for Financial Assets and Liabilities – Including an Amendment of SFAS No. 115 (SFAS No. 159). This standard permits an entity to choose to measure many financial instruments and certain other items at fair value. Most of the provisions in SFAS No. 159 are elective; however, the amendment to SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities, applies to all entities with available-for-sale and trading securities.

The fair value option established by SFAS No. 159 permits the Corporation to choose to measure eligible items at fair value at specified election dates. The Corporation will report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. The fair value option: (a) may be applied instrument by instrument, with a few exceptions, such as investments

otherwise accounted for by the equity method; (b) is irrevocable (unless a new election date occurs); and (c) is applied only to entire instruments and not to portions of instruments. In connection with the adoption of this standard, the Corporation did not elect any additional financial instruments to be recorded at fair value.

Derivative Instruments and Hedging Activities. In March 2008, the Financial Accounting Standards Board issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities – an Amendment of Statement No. 133 (SFAS No. 161). SFAS No. 161 enhances disclosure requirements about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance and cash flows. This statement is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The Corporation is currently evaluating the impact of adoption of this accounting standard.

Note 4 – Share-Based Compensation.

The Corporation adopted an equity incentive plan in 1993 as amended in 1995, an equity incentive plan in 2001 and the 2006 Equity Incentive Plan (the Plans). The Plans are administered by the Compensation Committee of the Board of Directors of FBFS and provide for the grant of equity ownership opportunities through incentive stock options, nonqualified stock options (stock options) and restricted stock (unvested shares). 151,778 shares are available for future grants under the Plans as of March 31, 2008. Shares covered by awards that expire, terminate or lapse will again be available for the grant of awards under the Plans. The Corporation may issue new shares and shares from treasury for shares delivered under the Plans.

Stock Options

The Corporation may grant stock options to senior executives and other employees under the Plans. Options generally have an exercise price that is equal to the fair value of the common shares on the date the option is granted. Options granted under the Plans are subject to graded vesting, generally ranging from four to eight years, and have a contractual term of 10 years. For any new awards issued, compensation expense is recognized over the requisite service period for the entire award on a straight-line basis. The Corporation has not granted any stock options since the Corporation met the definition of a public entity nor has it modified, repurchased or cancelled any stock options during that period. Therefore, no stock-based compensation was recognized in the consolidated statement of income for the three months ended March 31, 2008 and 2007, except with respect to restricted stock awards. The Corporation expects that a majority of the outstanding stock options will fully vest. Stock option activity for the three months ended March 31, 2008 was as follows:

										Weighted
										Average
										Remaining
						Weighted				Contractual
		Options				Average Price				Life (Years)
Outstanding at December 31, 2007			159,540			$	22.10				5.65
Granted			—				—
Exercised			—				—
Forfeited			(1,625	)			25.00
Outstanding at March 31, 2008			157,915				22.08				5.40
Options exercisable at March 31, 2008			142,637

Restricted Shares

Under the 2001 and 2006 Equity Incentive Plans, the Corporation may grant restricted shares to plan participants, subject to forfeiture upon the occurrence of certain events until dates specified in the participant’s award agreement. While the restricted shares are subject to forfeiture, the participant may exercise full voting rights and will receive all dividends and other distributions paid with respect to the restricted shares. The restricted shares granted under this plan are subject to graded vesting. Compensation expense is recognized over the requisite service period of four years for the entire award on a straight-line basis. Upon vesting of restricted stock awards, the benefits of tax deductions in excess of recognized compensation expense is recognized as a financing cash flow activity. For the three months ended March 31, 2008 and 2007, restricted share awards vested on a date at which the market price was lower than the market value on the date of grant; therefore, there is no excess tax benefit reflected in the consolidated statements of cash flows for the period. Restricted share activity for the three months ended March 31, 2008 was as follows:

						Weighted
		Number of				Average
		Restricted				Grant-Date
		Shares				Fair Value
Nonvested balance as of December 31, 2007			91,379			$	21.16
Granted			3,500				17.42
Vested			(8,323	)			22.78
Forfeited			—				—
Nonvested balance as of March 31, 2008			86,556				20.85

As of March 31, 2008, there was approximately $1.5 million of deferred compensation expense included in additional paid-in capital in the consolidated balance sheet related to unvested shares which the Corporation expects to recognize over four years. As of March 31, 2008, there were no restricted shares vested and not delivered. For the three months ended March 31, 2008 and 2007, share-based compensation expense included in the consolidated statements of income totaled approximately $142,000 and $69,000, respectively.

Note 5 – Earnings Per Share.

Basic earnings per share for the three months ended March 31, 2008 and 2007 were determined by dividing net income for the respective periods by the weighted average number of shares of common stock outstanding. Diluted earnings per share were determined by dividing net income by the weighted average number of common shares outstanding plus the effect of dilutive securities. The effects of dilutive securities were determined using the treasury stock method. For the three month periods ended March 31, 2008 and 2007, average anti-dilutive employee stock options totaled 147,931 and 132,825, respectively.

		For the Three Months
		Ended March 31,
		2008				2007
Income available to common stockholders		$	769,627			$	598,632
Basic average shares			2,423,005				2,453,068
Dilutive effect of share-based awards			648				8,354
Dilutive average shares			2,423,653				2,461,422
Earnings per share:
Basic		$	0.32			$	0.24
Diluted		$	0.32			$	0.24

Note 6 – Securities.

The amortized cost and estimated fair values of securities available-for-sale were as follows:

		As of March 31, 2008
						Gross				Gross
		Amortized				unrealized				unrealized				Estimated
		cost				holding gains				holding losses				fair value
		(In Thousands)
Securities available-for-sale
Municipals		$	85			$	—			$	—			$	85
Collateralized mortgage obligations – government agencies			59,108				1,342				—				60,450
Collateralized mortgage obligations — government sponsored agencies			39,142				399				(5	)			39,536
		$	98,335			$	1,741			$	(5	)		$	100,071

		As of December 31, 2007
						Gross				Gross
		Amortized				unrealized				unrealized				Estimated
		cost				holding gains				holding losses				fair value
		(In Thousands)
U.S. Government corporations and agencies		$	1,500			$	—			$	(3	)		$	1,497
Municipals			85				—				—				85
Collateralized mortgage obligations – government agencies			52,755				282				(379	)			52,658
Collateralized mortgage obligations - government sponsored agencies			43,631				2				(495	)			43,138
		$	97,971			$	284			$	(877	)		$	97,378

The table below shows the Corporation’s gross unrealized losses and fair value of investments, aggregated by investment category and length of time that individual investments have been in a continuous unrealized loss position at March 31, 2008 and December 31, 2007. At March 31, 2008 and December 31, 2007, the Corporation had five and 87 securities that were in an unrealized loss position, respectively. Such securities have declined in value due to current interest rate environments and not credit quality and do not presently represent realized losses. The Corporation has the ability to and anticipates that these securities, which have been in a continuous loss position but are not other-than-temporarily impaired, will be kept in the portfolio until the unrealized loss is recovered. If held until maturity, it is anticipated that the investments will be realized with no loss. If the Corporation determines that any of the above securities are deemed other-than-temporarily impaired, the impairment loss will be recognized in the income statement.

A summary of unrealized loss information for available-for-sale securities, categorized by security type follows:

		As of March 31, 2008
		Less than 12 months								12 months or longer								Total
						Unrealized								Unrealized								Unrealized
		Fair value				losses				Fair value				losses				Fair value				losses
		(In Thousands)
Collateralized mortgage obligations – government sponsored agencies		$	998			$	4			$	260			$	1			$	1,258			$	5
		$	998			$	4			$	260			$	1			$	1,258			$	5

		As of December 31, 2007
		Less than 12 months								12 months or longer								Total
						Unrealized								Unrealized								Unrealized
		Fair value				losses				Fair value				losses				Fair value				losses
		(In Thousands)
U.S. Government corporations and agencies		$	—			$	—			$	1,497			$	3			$	1,497			$	3
Collateralized mortgage obligations – government agencies			13,054				374				579				5				13,633				379
Collateralized mortgage obligations - government sponsored agencies			6,463				66				35,317				429				41,780				495
		$	19,517			$	440			$	37,393			$	437			$	56,910			$	877

The Corporation has not sold any available-for-sale securities during the three months ended March 31, 2008 and 2007 and has therefore not realized any gains or losses on such transactions.

At March 31, 2008 and December 31, 2007, securities with a fair value of approximately $59.7 million and $62.5 million, respectively, were pledged to secure public deposits and Federal Home Loan Bank (FHLB) advances.

Note 7 – Loans, Leases and Allowance for Loan and Lease Losses.

Loans and leases receivable consisted of the following:

		March 31,				December 31,
		2008				2007
		(In Thousands)
First mortgage loans:
Commercial real estate		$	366,715			$	336,153
Construction			89,871				90,545
Multi-family			41,792				41,821
1-4 family			50,575				48,437
			548,953				516,956
Commercial and industrial loans			222,421				213,786
Direct financing leases, net			28,517				29,383
Home equity loans			10,734				9,784
Credit card and other			11,539				11,725
			822,164				781,634
Less:
Allowance for loan and lease losses			10,188				9,854
Deferred loan fees			229				147
Loans and lease receivables, net		$	811,747			$	771,633

An analysis of the allowance for loan and lease losses is presented below:

		Three				Three
		Months Ended				Months Ended				Year Ended
		March 31,				March 31,				December 31,
		2008				2007				2007
		(In Thousands)
Allowance at beginning of period		$	9,854			$	8,296			$	8,296
Charge-offs:
Commercial real estate and other mortgage			(222	)			—				(571	)
Commercial			—				—				(778	)
Lease			—				—				(25	)
Consumer			—				—				—
Total charge-offs			(222	)			—				(1,374	)
Recoveries:
Commercial real estate and other mortgage			3				1				5
Commercial			—				23				23
Lease			—				—				—
Consumer			—				—				—
Total recoveries			3				24				28
Net (charge-offs) recoveries			(219	)			24				(1,346	)
Provision for loan and lease losses			553				576				2,904
Allowance at end of period		$	10,188			$	8,896			$	9,854
Allowance to gross loans and leases			1.24	%			1.34	%			1.26	%

Note 8 – Deposits.

Deposits consisted of the following:

		March 31, 2008								December 31, 2007
						Weighted								Weighted
		Balance				average rate				Balance				average rate
		(In Thousands)
Transaction accounts:
Demand deposits		$	49,310				0.00	%		$	47,124				0.00	%
Negotiable order of withdrawal (NOW) accounts			71,184				2.49				65,035				4.22
			120,494								112,159
Money market accounts			157,779				2.66				162,585				4.49
Certificates of deposit			551,102				4.99				501,316				5.00
		$	829,375							$	776,060

Note 9 – Borrowings.

Borrowings consisted of the following:

		March 31, 2008												December 31, 2007
						Weighted				Weighted								Weighted				Weighted
						average				average								average				average
		Balance				balance				rate				Balance				balance				rate
		(In Thousands)
Fed funds purchased and securities sold under agreements to repurchase		$	1,925			$	11,778				3.63	%		$	14,250			$	10,394				5.35	%
FHLB advances			28,524				36,793				4.76				34,526				25,776				4.87
Line of credit			3,760				2,814				5.40				2,210				2,556				7.20
Subordinated notes payable			31,000				31,000				6.22				31,000				23,630				7.73
Other			—				—				—				—				25				7.00
		$	65,209			$	82,385				5.17			$	81,986			$	62,381				6.13
Short-term borrowings		$	15,695											$	32,470
Long-term borrowings			49,514												49,516
		$	65,209											$	81,986

At March 31, 2008 and December 31, 2007, there were no securities sold under agreements to repurchase. During March 2008, the Corporation increased its line of credit to $10.5 million. The line of credit carries an interest rate of LIBOR plus 1.70% on the first $7.5 million and LIBOR plus 1.75% on the remaining $3.0 million.

Note 10 – Fair Value Disclosures (SFAS 157 Disclosure)

Effective January 1, 2008, the Corporation determines the fair market values of its financial instruments based on the fair value hierarchy established in SFAS No. 157, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value. The Corporation carries its available-for-sale securities and its interest rate swap that is designated as a cash flow hedge at fair value.

Level 1 inputs are unadjusted quoted prices in active markets for identical assets or liabilities that the Corporation has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included with Level 1 that are observable for the asset or liability either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 3 inputs are inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

Assets and liabilities measured at fair value on a recurring basis segregated by fair value hierarchy level are summarized below:

		Quoted Prices in				Significant
		Active Markets				Other				Significant
		for Identical				Observable				Unobservable
		Assets				Inputs				Inputs
		(Level 1)				(Level 2)				(Level 3)			Total
		(In Thousands)
Assets:
Securities available for sale		$		—		$	100,071			$	—		$	100,071
Liabilities:
Interest rate swap		$		—		$	11			$	—		$	11

Assets and liabilities measured at fair value on a nonrecurring basis segregated by fair value hierarchy during the period ended March 31, 2008 are summarized below:

Quoted

Prices in

Active

Significant

Markets for

Other

Significant

Balance at

Identical

Observable

Unobservable

Total

March 31,

Assets

Inputs

Inputs

Gains

2008

(Level 1)

(Level 2)

(Level 3)

(Losses)

(In Thousands)

Impaired loans

$

7,420

$

—

$

6,593

$

827

$

—

Impaired loans that are collateral dependent are written down to their fair value, less costs to sell, of $7.4 million through the establishment of specific reserves or by recording charge-offs when the carrying value exceeds the fair value. Valuation techniques consistent with the market approach, income approach, and/or cost approach were used to measure fair value and primarily included observable inputs for the individual impaired loans being evaluated such as recent sales of similar assets or observable market data for operational or carrying costs. In cases where such inputs were unobservable, the loan balance is reflected within the Level 3 hierarchy.

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

General

You should read the following discussion together with the Corporation’s unaudited consolidated financial statements and related notes to unaudited consolidated financial statements, which are included elsewhere in this Report. The following discussion contains forward-looking statements that reflect plans, estimates and beliefs. When used in written documents or oral statements, the words “anticipate,” “believe,” “estimate,” “expect,” “objective” and similar expressions and verbs in the future tense are intended to identify forward-looking statements. The statements contained herein and such future statements involve or may involve certain assumptions, risks, and uncertainties, many of which are beyond the Corporation’s control, which could cause actual results to differ materially from those discussed in the forward-looking statements. The forward-looking statements included in this Report are only made as of the date of its filing, and the Corporation undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances.

Forward-looking statements may also be made by the Corporation from time to time in other reports and documents as well as oral presentations. In addition to the assumptions and other factors referenced specifically in connection with such statements, the following factors could impact the business and financial prospects of the Corporation: general economic conditions; legislative and regulatory initiatives; increased competition and other effects of deregulation and consolidation of the financial services industry; monetary and fiscal policies of the federal government; deposit flows; disintermediation; the cost and availability of funds; general market rates of interest; interest rates or investment returns on competing investments; demand for loan products; demand for financial services; changes in accounting policies or guidelines; general economic developments; acts of terrorism and developments in the war on terrorism; and changes in the quality or composition of loan and investment portfolios. See also Item 1A. Risk Factors in our Annual Report on Form 10-K and factors regarding future operations discussed below.

Unless otherwise indicated or unless the context requires otherwise, all references in this Report to “First Business Financial Services”, the “Corporation”, “FBFS”, “we”, “us”, “our”, or similar references mean First Business Financial Services, Inc. together with our subsidiaries. “First Business Bank” or “First Business Bank – Milwaukee” or the “Banks” are used to refer to our subsidiaries, First Business Bank and First Business Bank – Milwaukee, alone.

Overview

FBFS is a registered bank holding company incorporated under the laws of the State of Wisconsin and is engaged in the commercial banking business through its wholly-owned banking subsidiaries, First Business Bank and First Business Bank – Milwaukee. All of the operations of FBFS are conducted through its Banks and certain subsidiaries of First Business Bank. The Corporation operates as a business bank focusing on delivering a full line of commercial banking products and services tailored to meet the specific needs of small and medium sized businesses, business owners, executives, professionals and high net worth individuals. The Corporation does not utilize its locations to attract retail customers.

Results of Operations

General. Net income for the three months ended March 31, 2008 was $770,000, up 28.5% from $599,000 for the same time period in 2007. The principal factors contributing to this increase included an increase in net interest income of $681,000 caused by volume increases associated with organic growth of our Corporation through successful sales efforts of the expanded sales team and increased non-interest income of $85,000 primarily due to increased trust and investment service fee income. Negative factors offsetting the increase in net income include an additional $465,000 of non-interest expenses primarily due to increases in compensation expense. Both basic and diluted earnings per share for the three months ended March 31, 2008 increased to $0.32 from $0.24 for the same period in 2007. The increase is attributable to the increase in net income. The annualized returns on average assets and average return on

equity were 0.33% and 6.17%, respectively, for the three month period ended March 31, 2008 compared to 0.30% and 5.18%, respectively, for the same time period of 2007. The increase in return on assets and return on equity from the comparable period of the prior year is attributable to the increase in net income.

Top Line Revenue

Top line revenue is comprised of net interest income and non-interest income. This measurement is also commonly referred to as operating revenue. We use this measurement to monitor our revenue growth and as one third of the performance measurements used for our non-equity incentive plans. The growth in top line revenue exceeds our targeted growth of 10.0% over the prior year. Based on the current pipeline and investment made in the infrastructure of our Corporation in the prior year, we believe our target growth can be sustained through the remainder of the year. The components of top line revenue were as follows:

		For the Three Months Ended
						March 31,
		2008				2007				Change
		(In Thousands)
Net interest income		$	6,062			$	5,381				12.7	%
Non-interest income			1,087				1,002				8.4
Total top line revenue		$	7,149			$	6,383				12.0	%

Adjusted Net Income

Adjusted net income is comprised of our net income as presented under generally accepted accounting principles (GAAP) adjusted for the after tax effects of the provision for loan and lease losses and actual net charge-offs incurred during the year. We have experienced significant organic growth in our loan and lease portfolio. As a result of this organic growth and the need for additional provision for loan and leases required to support the increased inherent risk with a growing portfolio, we adjust our GAAP net income for the after tax effects of provision for loan and lease losses and related net charge-off activities to allow our management to better analyze the growth of our earnings including a comparison to our benchmark peers. Institutions with different loan and lease growth rates may not have comparable provisions for loan and lease loss amounts and net charge-off activity. We also use this measurement as one third of the performance measurements used for our non-equity incentive plan that covers substantially all employees within our Corporation. Our targeted growth in adjusted net income is 10% over the prior year. In our judgment, presenting net income excluding the after tax effects of the provision for loan and lease losses and actual net charge-offs allows investors to trend, analyze and benchmark our results of operations in a more meaningful manner. Adjusted net income is a non-GAAP financial measure that does not represent and should not be considered as an alternative to net income derived in accordance with GAAP. A reconciliation of net income to adjusted net income is as follows:

		For the Three Months Ended
		March 31,
		2008				2007				Change
		(In Thousands)
Net income, presented under US GAAP		$	770			$	599				40.1	%
Add back:
Provision for loan and lease losses, after tax			336				350				(24.0	)
Less:
Net charge-offs (recoveries), after tax			133				(15	)				*
Adjusted net income		$	973			$	964				0.93	%

Return on Equity

We view return on equity to be an important measurement to monitor profitability and we are focused on improving our return on equity throughout fiscal year 2008. To align our employees’ focus on profitability with a meaningful measure used by our shareholders, beginning in fiscal year 2008, return on equity is now one third of the performance measurements used for our non-equity incentive plan that covers substantially all employees within our Corporation. Our target return on equity for 2008 is 10.5%. Return on equity for the three months ended March 31, 2008 is 6.17% compared to 5.18% for the three months ended March 31, 2007.

Net Interest Income. Net interest income depends on the amounts of and yields on interest-earning assets as compared to the amounts of and rates on interest-bearing liabilities. Net interest income is sensitive to changes in market rates of interest and the asset/liability management procedures used by management in responding to such changes. The table below presents the change in net interest income resulting from change in the volume of interest-earning assets or interest-bearing liabilities and change in interest rates for the three months ended March 31, 2008 compared to the same period of 2007.

										Rate/
		Rate				Volume				Volume				Net
		(In Thousands)
Interest-Earning Assets
Commercial real estate and other mortgage loans		$	(652	)		$	1,691			$	(137	)		$	902
Commercial and industrial loans			(499	)			676				(80	)			97
Leases			(22	)			98				(5	)			71
Consumer loans			(11	)			304				(61	)			232
Total loans and leases receivable			(1,184	)			2,769				(283	)			1,302
Mortgage-related securities			34				3				—				37
Investment securities			(1	)			(6	)			—				(7	)
Other investments			(16	)			3				(3	)			(16	)
Fed funds sold and other			(3	)			38				(19	)			16
Short-term investments			(4	)			13				(4	)			5
Total net change in income on interest-earning assets			(1,174	)			2,820				(309	)			1,337
Interest-Bearing Liabilities
NOW accounts			(344	)			12				(6	)			(338	)
Money market			(929	)			(221	)			97				(1,053	)
Certificates – regular			203				1,231				59				1,493
Certificates – large			(45	)			424				(39	)			340
Total deposits			(1,115	)			1,446				111				442
FHLB advances			(2	)			185				(2	)			181
Other borrowings			(124	)			199				(42	)			33
Total net change in expense on interest-bearing liabilities			(1,241	)			1,830				67				656
Net change in net interest income		$	67			$	990			$	(376	)		$	681

Net interest income was $6.1 million for the three months ended March 31, 2008, up 12.7% from the same period in 2007. The yield on earning assets was 6.69% for the three months ended March 31, 2008 compared to 7.32% for the comparable period in 2007. The yield on interest-bearing liabilities was 4.36% and 4.89% for the three months ended March 31, 2008 and 2007, respectively. The improvement in net interest income was primarily attributable to favorable volume increases due to organic growth specifically in the commercial real estate and other mortgage loans portfolio and the commercial and industrial loans portfolio.

Interest income increased $1.3 million, or 9.7%, to $15.2 million for the three months ended March 31, 2008 compared to the same time period of the prior year primarily due to volume increases in the commercial real estate and other mortgage loans and commercial and industrial loans portfolios. Average loans and leases receivable increased 22.5%.

The average balance of the commercial real estate and other mortgage loan portfolio was $532.8 million with a weighted average yield of 6.71% for the three months ended March 31, 2008 compared to an average balance of $440.1 million with a weighted average yield of 7.30% for the same three months of the prior year. Yields on our commercial real estate and other mortgage loan portfolio decreased by 59 basis points. The majority of loans in this portfolio are fixed rate in nature and are minimally impacted during a volatile interest rate market. The remaining loans have floating rates that are indexed to Prime or LIBOR. The decline in the yield is attributable to the significant decline in the average LIBOR and Prime rates over the comparative periods. In addition, we added approximately $5.5 million of commercial real estate loans to our non-accrual list since March 2007. Foregone interest increased approximately $100,000 from the three months ended March 31, 2007 to the three months ended March 31, 2008.

The average balance of the commercial and industrial loan portfolio was $217.8 million with a weighted average yield of 7.93% for the three months ended March 31, 2008 compared to an average balance of $187.8 million with a weighted average yield of 9.00% for the same time period of the prior year. The yields on our commercial and industrial loan portfolio decreased 107 basis points from the same time period one year ago. As this portfolio of loans is primarily variable rate, this basis point decline is attributable to the 200 basis point decline in the average Prime rate for the comparative periods, offset by increased asset-based loans fees and reduced non-accrual loans in the commercial and industrial loan portfolio.

Interest expense increased $656,000, or 7.8%, to $9.1 million for the three months ended March 31, 2008 compared to the same time period of 2007. The increase in interest expense was caused by increased average deposit liability balances needed to fund asset growth offset by the significant declines in the rates paid on the local deposits due to the falling interest rate environment, specifically the federal funds interest rate which we use to price our money market and NOW accounts. Shortfalls in attracting local deposits are supplemented with brokered deposits. Average deposit balances, including brokered deposits, were approximately $752.1 million at March 31, 2008 with a weighted average cost of 4.27% compared to an average balance of $634.0 million with a weighted average cost of funds of 4.78% for the same time period of 2007. During the first quarter of 2008, we exercised our call provision on $30 million of brokered certificates of deposit. These certificates had two years remaining before their scheduled maturity. At various points throughout the first quarter of 2008, we obtained newly issued brokered certificates of deposits with various maturities. The average cost of the newly issued certificates of deposits was 59 basis points lower than the average cost of the called certificates of deposits. As a result of calling these deposits, we expensed the remaining prepaid broker fee associated with these certificates and recorded approximately $150,000 of additional interest expense during the three months ended March 31, 2008. We expect to recoup the costs of the accelerated amortization with reduced interest expense by the end of 2008 and then recognize the full benefit of the 59 basis point reduction on $30 million of our brokered certificates throughout 2009. Interest rates on brokered deposits are fixed; however, purchases of brokered certificates are structured to match the repricing and maturity of the interest-earning asset portfolio.

Average borrowings were $82.4 million with a weighted average yield of 5.17% for the three months ended March 31, 2008 compared to $55.6 million at March 31, 2007 with a weighted average yield of 6.12% for the three months ended March 31, 2007. The decline in this yield is directly related to the overall decline of LIBOR interest rates during the comparative periods.

Net interest margin was 2.67% for the three months ended March 31, 2008 compared to 2.85% for the comparable time period of 2007. The decline in our net interest margin is attributable to several factors including the inclusion of the one-time accelerated amortization relating to the call of certain brokered certificates of deposits and increased non-accrual loans since March 2007 which continue to be included in the average balances for purposes of the yield calculations with no corresponding interest income recognized in our financial statements. Volatility in the interest rate market has had minimal impact on our margin due to market-based pricing of assets and liabilities as well as managing the composition and duration of our interest-bearing liabilities to limit the exposure to changing rates.

Average Interest-Earning Assets, Average Interest-Bearing Liabilities and Interest Rate Spread. The table below shows the Corporation’s average balances, interest, average rates, net interest margin and the spread between the combined average rates earned on interest-earning assets and average cost of interest-bearing liabilities for the periods indicated. The average balances are derived from average daily balances.

		For the Three Months Ended March 31,
		2008												2007
		Average								Average				Average								Average
		balance				Interest				yield/cost				balance				Interest				yield/cost
		(In Thousands)
Interest-Earning Assets
Commercial real estate and other mortgage loans(1)		$	532,771			$	8,934				6.71	%		$	440,127			$	8,032				7.30	%
Commercial and industrial loans(1)			217,807				4,320				7.93				187,758				4,223				9.00
Leases			28,740				456				6.36				22,900				385				6.72
Consumer loans			21,764				285				5.24				3,234				53				6.56
Total loans and leases receivable(1)			801,082				13,995				6.99				654,019				12,693				7.76
Mortgage-related securities(2)			96,255				1,107				4.60				95,963				1,070				4.46
Investment securities(2)			991				9				3.63				1,651				16				3.88
Federal Home Loan Bank stock			2,367				—				—				2,024				16				3.16
Fed funds sold and other			3,302				23				2.79				519				7				5.39
Short-term investments			2,480				19				3.06				1,266				14				4.42
Total interest-earning assets			906,477				15,153				6.69				755,442				13,816				7.32
Non-interest-earning assets			32,184												31,675
Total assets			938,661												787,117
Interest-Bearing Liabilities
NOW accounts			69,668				434				2.49				68,632				772				4.50
Money market			158,316				1,052				2.66				176,905				2,105				4.76
Certificates – regular			452,707				5,722				5.06				350,631				4,229				4.82
Certificates – large			71,420				818				4.58				37,832				478				5.05
Total deposits			752,111				8,026				4.27				634,000				7,584				4.78
FHLB advances			36,793				438				4.76				21,394				257				4.81
Other borrowings			45,592				627				5.50				34,166				594				6.95
Total interest-bearing liabilities			834,496				9,091				4.36				689,560				8,435				4.89
Non-interest-bearing liabilities			54,240												51,303
Total liabilities			888,736												740,863
Stockholders’ equity			49,925												46,254
Total liabilities and stockholders’ equity		$	938,661											$	787,117
Net interest income/interest rate spread						$	6,062				2.33	%						$	5,381				2.43	%
Net interest-earning assets		$	71,981											$	65,882
Net interest margin											2.67	%											2.85	%
Average interest-earning assets to average interest-bearing liabilities			108.63	%											109.55	%
Return on average assets			0.33												0.30
Return on average equity			6.17												5.18
Average equity to average assets			5.32												5.88
Non-interest expense to average assets			2.28												2.41