OREGON TRAIL FINANCIAL CORP - 10-K Annual Report

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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934

For the Fiscal Year Ended March 31, 2002 OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

Commission File Number: 0-22953

OREGON TRAIL FINANCIAL CORP.
- ------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)

Oregon 91-1829481
- --------------------------------------------- -------------------------
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) I.D. Number)

2055 First Street, Baker City, Oregon 97814
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(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code: (541) 523-6327
-------------------------
Securities registered pursuant to Section
12(b) of the Act: None
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Securities registered pursuant to Section Common Stock, par
12(g) of the Act: value $.01 per share
-------------------------
(Title of Class)

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
--- ---

Indicate by check mark whether disclosure of delinquent filers pursuant
to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of the Registrant's knowledge, in definitive proxy or
other information statements incorporated by reference in Part III of this
Form 10-K or any amendments to this Form 10-K. YES X NO
--- ---

As of June 26, 2002, there were issued and outstanding 3,089,249 shares
of the Registrant's Common Stock. The Registrant's voting stock is traded
over-the-counter and is listed on the Nasdaq National Market under the symbol
"OTFC." The aggregate market value of the voting stock held by nonaffiliates
of the Registrant, based on the closing sales price of the Registrant's common
stock as quoted on the Nasdaq National Market on June 26, 2002 of $19.00, was
$56,219,917.

DOCUMENTS INCORPORATED BY REFERENCE

1. Portions of Registrant's Definitive Proxy Statement for the 2002
Annual Meeting of Shareholders (Part III).

OREGON TRAIL FINANCIAL CORP.
2002 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS

Page
----

PART I. 1
Item 1. Business ..................................................... 1
General............................................................ 1
Market Area........................................................ 1
Lending Activities................................................. 1
Investment Activities.............................................. 17
Deposit Activities and Other Sources of Funds...................... 19
Potential Adverse Impact of Changes in Interest Rates.............. 22
Regulation......................................................... 23
Taxation........................................................... 30
Competition........................................................ 31
Subsidiary Activities.............................................. 32
Personnel.......................................................... 32
Item 2. Properties................................................... 33
Item 3. Legal Proceedings............................................ 34
Item 4. Submission of Matters to a Vote of Security Holders.......... 35
PART II. 35
Item 5. Market for the Registrant's Common Equity
and Related Shareholder Matters..................................... 35
Item 6. Selected Financial Data...................................... 36
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations................................. 38
Forward-Looking Statements........................................ 38
Critical Accounting Policies...................................... 38
General........................................................... 38
Comparison of Financial Condition at March 31, 2002 and
March 31, 2001................................................. 39
Comparison of Operating Results for Years Ended March 31,
2002 and 2001.................................................. 39
Comparison of Operating Results for Years Ended March 31,
2001 and 2000.................................................. 41
Average Balances, Interest and Average Yields/Cost................ 43
Rate/Volume Analysis.............................................. 44
Market Risk and Asset and Liability Management.................... 44
Liquidity and Capital Resources................................... 46
Effect of Inflation and Changing Prices........................... 47
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.. 47
Item 8. Financial Statements and Supplementary Data.................. 47
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosures................................ 79
PART III. 79
Item 10. Directors and Executive Officers of the Registrant.......... 79
Item 11. Executive Compensation...................................... 79
Item 12. Security Ownership of Certain Beneficial Owners
and Management...................................................... 79
Item 13. Certain Relationships and Related Transactions.............. 80
PART IV. 80
Item 14. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K................................................. 80

PART I

Item 1. Business
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General

Oregon Trail Financial Corp. ("Company"), an Oregon corporation, was
organized on June 9, 1997 for the purpose of becoming the holding company for
Pioneer Bank, A Federal Savings Bank ("Bank") upon the Bank's conversion from
a federal mutual to a federal stock savings bank ("Conversion"). The
Conversion was completed on October 3, 1997. At March 31, 2002, the Company
had total assets of $398.4 million, total deposits of $256.1 million and
shareholders' equity of $52.8 million. All references to the Company herein
include the Bank where applicable.

The Bank was organized in 1901. The Bank is regulated by the Office of
Thrift Supervision ("OTS") and its deposits are insured up to applicable
limits under the Savings Association Insurance Fund ("SAIF") of the Federal
Deposit Insurance Corporation ("FDIC"). The Bank also is a member of the
Federal Home Loan Bank ("FHLB") System.

The Bank is a community oriented financial institution whose principal
business is attracting retail deposits from the general public and using these
funds to originate one- to- four family residential mortgage loans and
consumer loans within its primary market area. The Bank also actively
originates home equity and second mortgage loans. Beginning in 1996, the Bank
began supplementing its traditional lending activities with commercial
business loans, agricultural loans, and the purchase of dealer-originated
automobile contracts.

In addition to its lending activities, the Bank invests excess liquidity
in short to long term U.S. Government and government agency securities and
mortgage-backed and related securities issued by U.S. Government agencies.
Investment securities and mortgage-backed and related securities constituted
23.2% of total assets at March 31, 2002. See "-- Investment Activities."

Market Area

The Bank's primary market area encompasses those regions surrounding its
offices in Baker, Grant, Harney, Malheur, Union, Wallowa, Wheeler and Umatilla
Counties in Oregon and Payette and Washington Counties in Idaho. The Bank's
home office is located in Baker City, Oregon with branches in Ontario, John
Day, Burns, Enterprise, La Grande, Island City, Vale, and Pendleton.

The principal industries of the market area are agriculture and timber
products. The Bank's market area is largely rural, with most of the farms and
ranches being relatively small and family owned. The local economies are also
dependent on retail trade with lumber, recreation and tourism providing
substantial contributions. Major employers in the market area include
Confederated Tribes of the Umatilla Indians, Eastern Oregon Correctional
Institute, Fleetwood Homes, St. Anthony's Hospital, U.S. Forest Service,
Bureau of Land Management, Snake River Correctional Institute, Oregon
Department of Transportation, Boise Cascade, Ore-Ida, Grande Ronde Hospital,
Holy Rosary Hospital, Powder River Correctional Facility, Treasure Valley
Community College, Eastern Oregon University, local school districts and local
government.

Lending Activities

General. The Bank's loan portfolio totaled $265.9 million at March 31,
2002, representing 66.7% of total assets at that date. The Bank concentrates
its lending activities within its primary market area. Historically, the
Bank's primary lending activity has been the origination of one- to- four
family residential mortgage loans. To a lesser extent, the Bank makes
mortgage loans for the purpose of constructing primarily single-family
residences.

1

As a result of management's desire to diversify its lending portfolio and
satisfy local demand for credit, the Bank has significantly increased its
origination of agricultural, indirect dealer and commercial business loans
since July 1996. During the fiscal year ended March 31, 2002, the Bank
purchased $39.3 million of commercial real estate loans. The properties
securing these loans are located in Washington and Oregon. Commercial
business and agricultural loans primarily include operating lines of credit
and term loans for fixed asset acquisitions.

The Bank has also been active in the origination of consumer loans, which
primarily consist of automobile loans and home equity loans, secured and
unsecured and, to a lesser extent, credit card loans, home improvement loans,
mobile home loans and loans secured by savings deposits. More recently, the
Bank has expanded its purchase of dealer-originated contracts to include those
secured by automobiles, motorcycles, all terrain and recreational vehicles,
including travel trailers. During the fiscal year ended March 31, 2002, the
Bank purchased $1.6 million of dealer originated contracts secured by
recreational vehicles, campers, boats, snowmobiles, and all-terrain-vehicles.

2

Loan Portfolio Analysis. The following table sets forth the composition of the Bank's loan portfolio
at the dates indicated. The Bank had no concentration of loans exceeding 10% of total gross loans other than
as presented below.

At March 31,
---------------------------------------------------------------------------------------
2002 2001 2000 1999 1998
--------------- --------------- --------------- --------------- ---------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ ------- ------ -------
(Dollars in thousands)

Mortgage Loans:
One-to-four-
family........... $122,950 45.60% $137,354 53.97% $127,589 57.13% $109,089 58.00% $100,740 64.65%
Multi-family...... 10,799 4.00 2,459 0.97 2,989 1.34 2,810 1.49 1,194 0.77
Commercial........ 36,397 13.50 18,235 7.17 14,808 6.63 13,703 7.29 7,906 5.07
Agricultural...... 3,505 1.30 3,548 1.39 2,420 1.08 2,240 1.19 725 0.47
Construction...... 1,255 0.47 1,399 0.55 3,648 1.63 2,825 1.50 1,616 1.04
Land.............. 34 0.01 124 0.05 158 0.07 330 0.17 297 0.19
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total mortgage
loans........... 174,940 64.88 163,119 64.10 151,612 67.88 130,997 69.64 112,478 72.18
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Consumer Loans:
Home equity and
second mortgage.. 14,039 5.21 15,890 6.24 14,983 6.71 16,262 8.65 19,231 12.34
Credit card....... 1,174 0.43 1,093 0.43 1,026 0.46 949 0.50 854 0.55
Automobile(1)..... 28,147 10.44 26,501 10.41 21,547 9.65 11,843 6.30 5,719 3.67
Loans secured by
deposit accounts. 502 0.19 528 0.21 452 0.20 416 0.22 648 0.42
Unsecured......... 6,066 2.25 4,909 1.93 3,414 1.53 2,836 1.50 2,047 1.31
Other............. 4,443 1.64 3,992 1.57 3,190 1.43 2,985 1.59 4,623 2.97
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total consumer
loans........... 54,371 20.16 52,913 20.79 44,612 19.98 35,291 18.76 33,122 21.26
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Commercial business
loans............. 24,152 8.96 22,396 8.80 13,853 6.20 12,031 6.40 5,968 3.83
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------

Agricultural loans. 16,185 6.00 16,054 6.31 13,275 5.94 9,781 5.20 4,254 3.19
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total loans..... 269,648 100.00% 254,482 100.00% 223,352 100.00% 188,100 100.00% 155,822 100.00%
====== ====== ====== ====== ======
Less:
Undisbursed por-
tion of loans
in process....... -- -- -- -- 102
Net deferred loan
fees............. 1,505 1,487 1,365 1,125 1,035
Allowance for
loan losses...... 2,280 2,098 1,396 1,228 847
-------- -------- -------- -------- --------
Total loans re-
ceivable, net.. $265,863 $250,897 $220,591 $185,747 $153,838
======== ======== ======== ======== ========

- -----------
(1) Includes dealer-originated automobile contracts of $24.3 million, $13.6 million and $17.4 million at
March 31, 2002, 2001 and 2000, respectively.

3

One- to- Four Family Real Estate Lending. Historically, the Bank has
concentrated its lending activities on the origination of loans secured by
first mortgages on existing one- to- four family residences located in its
primary market area. At March 31, 2002, $123.0 million, or 45.6%, of the
Bank's total loan portfolio, consisted of such loans, with an average loan
balance of $64,000.

Generally, the Bank's fixed-rate one- to- four family mortgage loans have
maturities of 15 to 30 years and are fully amortizing with monthly payments
sufficient to repay the total amount of the loan with interest by the end of
the loan term. Generally, they are originated under terms, conditions and
documentation which permit them to be sold to private investors. The Bank's
fixed-rate loans customarily include "due on sale" clauses, which give the
Bank the right to declare a loan immediately due and payable in the event the
borrower sells or otherwise disposes of the real property subject to the
mortgage and the loan is not paid.

At March 31, 2002, $101.1 million, or 37.5%, of the total loans before
net items were fixed rate one- to- four family loans and $21.9 million, or
8.1%, were adjustable rate mortgage loans ("ARM loans"). The Bank recently
began offering an ARM product for its portfolio with an interest rate that is
fixed for three years then adjusts annually based on the one year Treasury
constant maturity index. The Bank's ARMs are typically based on a 30-year
amortization schedule. The Bank's current ARM loans do not provide for
negative amortization and generally provide for annual and lifetime interest
rate adjustment limits of 2.0% and 6.0%, respectively.

At March 31, 2002, $12.9 million, or 58.4% of the Bank's total ARM loans
had interest rates that adjusted annually based on the Eleventh District Cost
of Funds Index ("COFI"). The COFI is a lagging index which, together with the
periodic and overall interest rate caps, may cause the yield on such loans to
adjust more slowly than the cost of interest-bearing liabilities especially in
a rapidly rising rate environment. In November 1995, the Bank discontinued
using the COFI index and began using the one year Treasury constant maturity
index.

Borrower demand for ARM loans versus fixed-rate mortgage loans is a
function of the level of interest rates, the expectations of changes in the
level of interest rates and the difference between the initial interest rates
and fees charged for each type of loan. The relative amount of fixed-rate
mortgage loans and ARM loans that can be originated at any time is largely
determined by the demand for each in a competitive environment.

The retention of ARM loans in the Bank's loan portfolio helps reduce the
Bank's exposure to changes in interest rates. There are, however,
unquantifiable credit risks resulting from the potential of increased costs
due to changed rates to be paid by the customer. It is possible that during
periods of rising interest rates the risk of default on ARM loans may increase
as a result of repricing and the increased payments required by the borrower.
In addition, although ARM loans allow the Bank to increase the sensitivity of
its asset base to changes in the interest rates, the extent of this interest
sensitivity is limited by the annual and lifetime interest rate adjustment
limits. Because of these considerations, the Bank has no assurance that
yields on ARM loans will be sufficient to offset increases in the Bank's cost
of funds. The Bank believes these risks, which have not had a material
adverse effect on the Bank to date, generally are less than the risks
associated with holding fixed-rate loans in the portfolio during a rising
interest rate environment.

The Bank requires title insurance insuring the status of its lien on all
loans where real estate is the primary source of security. The Bank also
requires the maintenance of fire and casualty insurance (and, if appropriate,
flood insurance).

The Bank's one- to- four family residential mortgage loans typically do
not exceed 80% of the lower of cost or appraised value of the security
property. Pursuant to underwriting guidelines adopted by the Bank's Board of
Directors, the Bank can lend up to 97% of the lower of cost or appraised value
of the property securing a one- to- four family residential loan; however, the
Bank obtains private mortgage insurance that insures the Bank on those loans
that exceed 80% of the appraised value of the security property.

4

Agricultural Lending. Agriculture is a major industry in the Bank's
market area. Subject to market conditions, the Bank intends to continue to
emphasize agricultural loans. In 1996, the Bank began originating a
significant number of loans to finance agricultural needs. This includes
collateral secured agricultural loans for the purchase of farmland and
equipment. At March 31, 2002, agricultural loans amounted to $19.7 million,
or 7.3%, of the total loan portfolio; $3.5 million of these loans were secured
by real estate. The Bank has sought to limit its agricultural lending to
borrowers with a strong capital base, sufficient management depth, proven
ability to operate through agricultural business cycles, reliable cash flow
and a willingness to provide the Bank with the necessary financial reporting.

Agricultural operating loans are made to finance operating expenses over
the course of a growing season with such loans being typically made in amounts
of $500,000 or less. However, the Bank's largest agricultural operating loan
had an original commitment of $2.2 million (with $1.5 million outstanding at
March 31, 2002) which was provided to finance a farming operation that grows
mint, grain, and potatoes. This loan was performing in accordance with its
terms at March 31, 2002. Agricultural operating loans generally are made as a
percentage of the borrower's anticipated income to support budgeted operating
expenses. These loans generally are secured by a blanket lien on all crops,
livestock, equipment, accounts and products and proceeds thereof. The
variables that effect income during the year are yields and market prices.
Consideration is given to projected yields and commodity prices. The interest
rate is normally adjusted monthly based on the prime rate as published in The
Wall Street Journal, plus a negotiated margin of up to 2%. Because such loans
are made to finance annual operations and expenses, they are written on a
one-year review and renewable basis. The renewal is dependent upon prior
year's performance and the forthcoming year's projections as well as overall
financial strength of the borrower. The Bank carefully monitors these loans
and prepares monthly variance reports on income and expenses. To meet the
seasonal operating needs, borrowers may qualify for single payment notes,
revolving lines of credit and/or non-revolving lines of credit.

In underwriting agricultural operating loans, the Bank considers the cash
flow of the borrower based upon the expected income stream as well as the
value of collateral used to secure the loan. Collateral generally consists of
cattle or cash crops produced by the farm, such as grains, grass seed, peas,
sugar beets, mint, onions, potatoes, corn and alfalfa. In addition to
considering cash flow and obtaining a blanket security interest in the farm's
cash crop, the Bank may also collateralize an operating loan with the
equipment, breeding stock, real estate, and federal agricultural program
payments to the borrower.

The Bank also originates loans to finance the purchase of farm equipment
and will continue to pursue this type of lending in the future. Loans to
purchase farm equipment are made for terms of up to seven years. In funding
this need, the Bank uses both fixed and adjustable rate notes, depending on
the maturity requested.

Agricultural real estate loans primarily are secured by first liens on
farmland and improvements thereon located in the Bank's market area, to
service the needs of the Bank's existing customers. The largest such loan
totaled $866,000 and was performing in accordance with its terms at March 31,
2002. Loans are generally written in amounts up to 50% to 75% of the tax
assessed or appraised value of the property at terms ranging from 10 to 20
years. Such loans have interest rates that generally adjust at least every
five years based upon the current five year Treasury Constant or The Wall
Street Journal prime, plus a negotiated margin. In originating an
agricultural real estate loan, the Bank considers the debt service coverage of
the borrower's cash flow, the appraised value of the underlying property, the
experience and knowledge of the borrower, and the borrower's past performance
with the Bank and/or market area.

Payments on an agricultural real estate loan depend, to a large degree,
on the results of operation of the related entity. The repayment is also
subject to both economic and weather conditions as well as market prices for
agricultural products, which can be highly volatile at times. Such loans are
not made to start up businesses but are generally reserved for profitable
operators with substantial equity and proven history. At March 31, 2002,
agricultural real estate loans totaled $3.5 million, or 1.3%, of the loan
portfolio.

5

Among the greatest and more common risks to agricultural lending can be
weather conditions and disease. This risk can be mitigated through
multi-peril crop insurance. The lack of water has the potential to decrease
yields and increase energy costs for the Bank's borrowers. Commodity prices
also present a risk which may be reduced by the use of set price contracts.
Required beginning and projected operating margins provide for reasonable
reserves to offset unexpected yield and price deficiencies. The Bank also
takes into consideration management succession, life insurance and business
continuation plans. The Bank is an approved Farm Service Agency ("FSA")
lender and at March 31, 2002 had one FSA guaranteed loan with an outstanding
balance of $44,000.

Construction Lending. The Bank also offers construction loans to
qualified borrowers for construction of single-family residences in the Bank's
primary market area. Typically, the Bank limits its construction lending to a
local builder for the construction of a single-family dwelling where a
permanent purchase commitment has been obtained or individuals are building
their primary residences. On a limited basis, the Bank lends to contractors
for housing construction where the house is not presold. The ability of a
developer to sell developed lots or completed dwelling units will depend on,
among other things, demand, pricing, availability of comparable properties and
economic conditions. Construction loans generally have a six-month term with
only interest being paid during the term of the loan, and convert at the end
of six months to permanent financing and are underwritten in accordance with
the same standards as the Bank's mortgages on existing properties.
Construction loans generally have a maximum loan-to-value ratio of 80%.
Borrowers must satisfy all credit requirements which would apply to the Bank's
permanent mortgage loan financing for the subject property.

Construction financing generally is considered to involve a higher degree
of risk of loss than long-term financing on improved, occupied real estate.
Risk of loss on a construction loan is dependent largely upon the accuracy of
the initial estimate of the property's value at completion of construction or
development and the estimated cost (including interest) of construction.
During the construction phase, a number of factors could result in delays and
cost overruns. If the estimate of construction costs proves to be inaccurate,
the borrower may be required to fund the cost overruns. The Bank has sought
to minimize this risk by limiting construction lending to qualified borrowers
in the Bank's market area and by limiting the aggregate amount of outstanding
construction loans. At March 31, 2002, construction loans amounted to $1.3
million, or 0.5%, of the loan portfolio.

Multi-Family and Commercial Real Estate Lending. The multi-family
residential loan portfolio consists primarily of loans secured by apartment
buildings and the commercial real estate loan portfolio includes loans to
finance the construction or acquisition of small office buildings and retail
stores. The largest such loan totaled $2.8 million and was performing
according to its terms at March 31, 2002. At March 31, 2002, the Bank had
$10.8 million of multi-family residential and $36.4 million of commercial real
estate loans, which amounted to 4.0% and 13.5%, respectively, of the total
loan portfolio at such date. Multi-family and commercial real estate loans
are generally underwritten with loan-to-value ratios of up to 75% of the
lesser of the appraised value or the purchase price of the property. Such
loans generally are granted on 15 to 20 year terms on an adjustable rate with
established floors. On fixed rate loans, terms generally do not exceed ten
years.

Multi-family residential and commercial real estate lending entails
significant additional risks as compared with single-family residential
property lending. Multi-family residential and commercial real estate loans
typically involve large loan balances to single borrowers or groups of related
borrowers. The payment experience on such loans typically is dependent on the
successful operation of the real estate project. These risks can be
significantly impacted by supply and demand conditions in the market for
office, retail and residential space, and, as such, may be subject to a
greater extent to adverse conditions in the economy generally. To minimize
risk, the Bank generally obtains personal guarantees and annual financial
statements of the principals of the partnership or corporation. The Bank
reviews all significant commercial real estate loans on an annual basis to
ensure that the loan meets current underwriting standards. In addition, the
Bank underwrites commercial real estate loans at a rate of interest
significantly above that carried on the loan at the time of origination to
evaluate the borrower's ability to meet principal and interest payments on the
loan in the event of upward adjustments to the interest rate on the loan.

6

Consumer and Other Lending. The Bank originates a variety of consumer
loans. Such loans generally have shorter terms to maturity and higher
interest rates than mortgage loans. At March 31, 2002, the Bank's consumer
loans totaled approximately $54.4 million, or 20.2%, of the Bank's total
loans. The Bank's consumer loans consist primarily of home improvement and
equity loans, automobile loans, boat and recreational vehicle loans, unsecured
loans, credit card loans and deposit account loans.

The Bank offers open-ended "preferred" lines of credit on either a
secured or unsecured basis. Secured lines of credit are generally secured by
a second mortgage on the borrower's primary residence. Secured lines of
credit have an interest rate that is one to two percentage points above the
prime lending rate, as published in The Wall Street Journal, while the rate on
unsecured lines is three to four percentage points above this prime lending
rate. In both cases, the rate adjusts monthly. The majority of the approved
lines of credit at March 31, 2002 were equal to or less than $25,000. The
Bank requires repayment of at least 2% of the unpaid principal balance
monthly. At March 31, 2002, approved lines of credit totaled $21.5 million,
of which $10.3 million was outstanding.

The Bank offers closed-end, fixed-rate home equity loans that are made on
the security of one-to-four family residences. Loans normally do not exceed
80% of the appraised or tax assessed value of the residence, less the
outstanding principal of the first mortgage, and have terms of up to 15 years
requiring monthly payments of principal and interest. At March 31, 2002,
fixed rate home equity loans and second mortgage loans amounted to $9.3
million, or 3.4%, of total loans.

At March 31, 2002, the Bank's automobile loan portfolio amounted to $28.1
million, or 51.8%, of consumer loans and 10.4% of total loans at such date.
Since January 1997, a substantial portion of the Bank's automobile loans have
been originated indirectly by a network of approximately 28 automobile
dealers, most located in the Bank's market area and adjacent markets in Oregon
and Idaho. Indirect automobile loans accounted for approximately 42.6% of the
Bank's total consumer loan originations during the year ended March 31, 2002.
The applications for such loans are taken by employees of the dealer, the
loans are written on the dealer's contract pursuant to the Bank's underwriting
standards using the dealer's loan documents with terms substantially similar
to the Bank's. All indirect loans must be approved by specific loan officers
of the Bank who have experience with this type of lending. The automobile
dealers are paid a premium by the Bank. This premium is amortized over the
life of the loan. In addition to indirect automobile lending, the Bank also
originates automobile loans directly.

The maximum term for the Bank's automobile loans is 72 months with the
amount financed based upon a percent of purchase price. The Bank generally
requires all borrowers to maintain automobile insurance, including collision,
fire and theft, with a maximum allowable deductible and with the Bank listed
as loss payee.

At March 31, 2002, unsecured consumer loans amounted to $6.1 million, or
2.3%, of total loans. These loans are made for a maximum of 36 months or less
with fixed rates of interest and are offered primarily to existing customers
of the Bank to mitigate the additional risk of the unsecured status.

Since December 1992, the Bank has offered credit card loans through its
participation as a VISA card issuer. The Bank does not actively solicit
credit card business beyond its customer base and market area and has not
engaged in mailing of pre-approved credit cards. The rate currently charged
by the Bank on its credit card loans is the prime rate, as published in The
Wall Street Journal, plus 3% to 7%, and the Bank is permitted to change the
interest rate quarterly. Processing of bills and payments is contracted to an
outside servicer. At March 31, 2002, the Bank had a commitment to fund an
aggregate of $9.6 million of credit card loans, which represented the
aggregate credit limit on credit cards, and had $1.2 million of credit card
loans outstanding, representing 0.4% of its total loan portfolio. The Bank
intends to continue credit card lending and estimates that at current levels
of credit card loans, it makes a small monthly profit net of service expenses
and write-offs.

Consumer loans potentially have a greater risk than do residential
mortgage loans, particularly in the case of loans that are unsecured or
secured by rapidly depreciating assets such as automobiles and other vehicles.
In such cases, any repossessed collateral for a defaulted consumer loan may
not provide an adequate source of repayment of the

7

outstanding loan balance as a result of the greater likelihood of damage, loss
or depreciation. The remaining deficiency often does not warrant further
substantial collection efforts against the borrower beyond obtaining a
deficiency judgment. In addition, consumer loan collections are dependent on
the borrower's continuing financial stability, and thus are more likely to be
adversely affected by job loss, divorce, illness or personal bankruptcy.
Furthermore, the application of various federal and state laws, including
federal and state bankruptcy and insolvency laws, may limit the amount that
can be recovered on such loans. At March 31, 2002, the Bank had $246,000 in
consumer loans accounted for on a nonaccrual basis.

Commercial Business Lending. The Bank originates commercial business
loans to small and medium sized businesses in its primary market area.
Commercial business loans are generally made to finance fixed asset
acquisitions, and for short-term working capital. Such loans are generally
secured by equipment, accounts receivable and inventory, although commercial
business loans are sometimes granted on an unsecured basis. Generally, loans
to finance short-term working capital are made for one year or less with
interest rates adjusted monthly at a rate equal to the prime rate, as
published in The Wall Street Journal, plus a margin of up to 3%. Loans to
finance the purchase of equipment are made for terms generally seven years or
less at either a fixed or adjustable rate. At March 31, 2002, the commercial
business loans amounted to $24.2 million, or 9.0%, of the total loan
portfolio.

At March 31, 2002, the largest outstanding commercial business loan was a
$1.7 million operating line of credit to a manufacturing company with a
balance of $1.3 million. Such loan was performing according to its terms at
March 31, 2002.

The Bank is an approved Small Business Administration ("SBA") lender and
at March 31, 2002, had two SBA loans that totaled $248,000. The Bank also
entered into an agreement with the Oregon Economic Development Department
("OEDD") to provide loan guarantees on small business loans. As of March 31,
2002, the Bank had two OEDD loans that totaled $464,000. The Bank intends to
continue to originate loans to local businesses within its primary market area
using these programs, subject to market conditions.

The Bank generally underwrites its commercial business loans on the basis
of the borrower's cash flow and ability to service the debt from earnings
rather than on the basis of underlying collateral value. The Bank seeks to
structure such loans to have more than one source of repayment. The borrower
is required to provide the Bank with sufficient information to allow the Bank
to make its lending determination. In most instances, this information
consists of at least three years of financial statements, tax returns, a
statement of projected cash flows, current financial information on any
guarantor and any additional information on the collateral. Generally, for
loans with maturities exceeding two years and balances exceeding $250,000, the
Bank requires that borrowers and guarantors provide updated financial
information at least annually.

The Bank's commercial business loans may be structured as term loans or
as lines of credit. Commercial business term loans are generally made to
finance the purchase of fixed assets and have maturities of seven years or
less. Commercial business lines of credit are typically made for the purpose
of providing working capital and are usually approved with a term of between
six months and one year.

Commercial business loans are often larger and may involve greater risk
than other types of lending. Because payments on such loans are often
dependent on successful operation of the business involved, repayment of such
loans may be subject to adverse conditions in the economy. The Bank seeks to
minimize these risks through its underwriting guidelines, which require that
the loan be supported by adequate cash flow of the borrower, profitability of
the business, collateral, and personal guarantees of the individuals in the
business. In addition, the Bank limits this type of lending to its market
area and to borrowers with which it has prior experience or who are otherwise
well known to the Bank.

Maturity of Loan Portfolio. The following table sets forth certain
information at March 31, 2002, regarding the dollar amount of loans maturing
in the Bank's portfolio based on their contractual terms to maturity, but does
not include scheduled payments or potential prepayments. Demand loans, loans
having no stated schedule of repayments

8

and no stated maturity, and overdrafts are reported as becoming due within one
year. Loan balances do not include undisbursed loan proceeds, unearned
discounts, unearned income and allowance for loan losses.

After After
One Year 3 Years
Within Through Through Over
One Year 3 Years 5 Years Five Years Total
-------- ------- ------- ---------- -----
(In thousands)

Mortgage loans:
One- to- four family.... $ 79 $ 465 $ 822 $121,584 $122,950
Multi-family............ -- 2,104 2,645 6,050 10,799
Commercial.............. 128 920 747 34,602 36,397
Agricultural............ -- -- 73 3,432 3,505
Construction............ -- -- -- 1,255 1,255
Land.................... 2 -- 5 27 34

Consumer loans:
Home equity and second
mortgage............... 251 523 908 12,357 14,039
Automobile.............. 284 5,228 16,656 5,979 28,147
Credit card............. 26 79 117 952 1,174
Loans secured by
deposit accounts....... 151 60 279 12 502
Unsecured............... 474 365 318 4,909 6,066
Other................... 82 330 1,099 2,932 4,443

Commercial business
loans................... 6,503 2,034 6,555 9,060 24,152
Agricultural loans....... 10,026 1,623 2,443 2,093 16,185
------- ------- ------- -------- --------
Total.................. $18,006 $13,731 $32,667 $205,244 $269,648
======= ======= ======= ======== ========

The following table sets forth the dollar amount of all loans due after
March 31, 2003, which have fixed interest rates and have floating or
adjustable interest rates.

Fixed Floating or
Rates Adjustable Rates
----- ----------------
(In thousands)

Mortgage loans:
One- to- four family.............. $100,958 $ 21,913
Multi-family...................... 1,002 9,797
Commercial........................ 4,563 31,706
Agricultural...................... 39 3,466
Construction...................... 1,255 --
Land.............................. 32 --

Consumer loans:
Home equity and second mortgage... 8,689 5,099
Automobile........................ 27,863 --
Credit card....................... -- 1,148
Loans secured by deposit accounts. 351 --
Unsecured......................... 107 5,485
Other............................. 4,358 3
Commercial business loans......... 9,888 7,761
Agricultural loans................ 3,157 3,002
-------- --------
Total........................... $162,262 $ 89,380
======== ========

9

Scheduled contractual principal repayments of loans do not reflect the
actual life of such assets. The average life of a loan is substantially less
than its contractual term because of prepayments. In addition, due on sale
clauses on loans generally give the Bank the right to declare loans
immediately due and payable in the event, among other things, that the
borrower sells the real property subject to the mortgage and the loan is not
repaid. The average life of mortgage loans tends to increase, however, when
current mortgage loan market rates are substantially higher than rates on
existing mortgage loans and, conversely, decrease when rates on existing
mortgage loans are substantially higher than current mortgage loan market
rates. Furthermore, management believes that a significant number of the
Bank's residential mortgage loans are outstanding for a period less than their
contractual terms because of the transitory nature of many of the borrowers
who reside in its primary market area.

Loan Solicitation and Processing. The Bank's lending activities are
subject to the written, non-discriminatory, underwriting standards and loan
origination procedures established by the Bank's Board of Directors and
management. The customary sources of loan originations are realtors, walk-in
customers, referrals and existing customers. The Bank also advertises its
loan products by radio and newspaper. The Bank does not employ commissioned
loan originators.

Mortgage loan applications are initiated, underwritten and preliminarily
approved by loan officers before they are recommended for final review and
approval. Individual lending limits and credit approval limits are established
for branch and loan center personnel up to $350,000. Commercial lenders' and
administrative credit approval limits are established up to $750,000 depending
on position and lending knowledge. Loans to borrowers with an aggregate
borrowing relationship over $750,000 and up to $1.5 million requires approval
of either the President or Executive Vice President. Loans to borrowers with
an aggregate borrowing relationship in excess of $1.5 million and up to $2.5
million require the approval of the President and Executive Vice President.
Loans to borrowers with an aggregate borrowing relationship exceeding $2.5
million require approval by the President, Executive Vice President and two
board members.

Loan Originations, Sales and Purchases. Historically, the Bank's primary
lending activity has been the origination of one- to- four family residential
mortgage loans. In recent periods, the Bank has increased its origination of
consumer, commercial business and agricultural loans.

During the year ended March 31, 2002, the Bank began selling its
conforming loans along with the servicing of these loans. For the year ended
March 31, 2002, the Bank sold $13.1 million in fixed-rate one-to-four family
residential mortgage loans. At March 31, 2002, the Bank was not servicing any
loans for investors.

The Bank purchased $39.3 million of commercial real estate loans with
properties located in Washington and Idaho during the fiscal year 2002. The
balance of these loans at March 31, 2002 was $27.6 million and was performing
according to its terms.

The following table sets forth total loans originated, purchased, sold
and repaid during the periods indicated.

Year Ended March 31,
----------------------------------
2002 2001 2000
-------- -------- --------
(In thousands)
Loans originated:
Mortgage loans:
One- to- four family.........$ 26,446 $ 22,301 $ 30,112
Multi-family................. 450 -- 1,575
Commercial................... 6,921 4,543 3,101
Construction................. 265 1,092 6,697
Land......................... 1 11 26
Consumer..................... 18,739 14,170 13,293
Commercial business loans.... 33,907 28,778 18,076
Agricultural loans........... 35,378 32,888 28,519
-------- -------- --------
Total loans originated..... 122,107 103,783 101,399

(table continued on following page)

10

Year Ended March 31,
----------------------------------
2002 2001 2000
-------- -------- --------
(In thousands)

Loans purchased:
Dealer-originated automobile
contracts................... 15,095 14,499 14,533
Dealer-originated other
contracts................... 1,635 -- --
Commercial real estate....... 39,262 5,275 --
-------- -------- --------
Total loans purchased...... 55,992 19,774 14,533

Loans sold:
One-to-four family........... 13,086 -- --
Loan principal repayments.... 150,047 93,251 81,088
-------- -------- --------
Net increase in loans
receivable, net............. $ 14,966 $ 30,306 $ 34,844
======== ======== ========

Loan Commitments. The Bank issues commitments for loans and lines of
credit conditioned upon the occurrence of certain events. Such commitments
are made in writing on specified terms and conditions and are honored for up
to 40 days from approval, depending on the type of transaction. At March 31,
2002, the Bank had loan commitments of $44.2 million. See Note 17 of Notes to
Consolidated Financial Statements included in Item 8 of this Form 10-K.

Loan Fees. In addition to interest earned on loans, the Bank receives
income from fees in connection with loan originations, loan modification, late
payments and for miscellaneous service related to its loans. Income from
these activities varies from period to period depending upon the volume and
type of loans made and competitive conditions.

The Bank charges loan origination fees which are calculated as a minimum
fee or as a percentage of the amount borrowed. In accordance with applicable
accounting procedures, loan origination fees and discount points in excess of
loan origination costs are deferred and recognized over the contractual
remaining lives of the related loans on a level yield basis. Discounts and
premiums on loans purchased are accreted and amortized in the same manner.
The Bank recognized $215,000, $71,000 and $107,000 of deferred loan fees
during the years ended March 31, 2002, 2001 and 2000, respectively, in
connection with loan refinancings, payoffs, and ongoing amortization of
outstanding loans.

Nonperforming Assets and Delinquencies. Generally, the borrowers are
allowed to pay up to the 15th day following the due date before the Bank
initiates collection procedures. When a borrower fails to make a required
payment on a loan, the Bank attempts to cure the deficiency by contacting the
borrower and seeking the payment. Contacts are generally made 16 days after
the due date. In most cases, delinquencies are cured promptly. If a
delinquency continues, additional contact is made. The Bank prefers to work
with borrowers to resolve such problems, however, after the 90th day of
delinquency, foreclosure or other action is taken in an effort to minimize any
potential loss to the Bank.

When loans are contractually 90 days or more delinquent, they are placed
on nonaccrual status. Payments to such nonaccrual loans are applied to
principal when collection of the loan principal is doubtful. Loans are
reinstated to accrual status when current and collectibility of principal and
interest is no longer doubtful.

11

The following table sets forth information with respect to the Bank's
nonperforming assets and restructured loans at the dates indicated.

At March 31,
------------------------------------------------
2002 2001 2000 1999 1998
-------- -------- -------- -------- --------
(Dollars in thousands)
Loans accounted for on a
nonaccrual basis:
Mortgage loans:
One- to- four family.... $ 90 $ -- $ 131 $ 133 $ 258
Nonresidential property. -- 45 -- -- --
Consumer loans.......... 246 10 24 5 17
-------- -------- -------- -------- --------
Total................. 336 55 155 138 275

Foreclosed real estate..... -- 41 -- 37 --

Other repossessed assets... 58 22 8 -- 313
-------- -------- -------- -------- --------
Total nonperforming
assets.................. $ 394 $ 118 $ 163 $ 175 $ 588
======== ======== ======== ======== ========
Nonaccrual loans as a
percentage of loans
receivable, net........... 0.12% 0.02% 0.07% 0.07% 0.18%

Nonaccrual loans as a
percentage of total
assets.................... 0.08% 0.01% 0.04% 0.04% 0.10%

Nonperforming assets as a
percentage of total
assets.................... 0.10% 0.03% 0.04% 0.06% 0.22%

Loans receivable, net...... $265,863 $250,897 $220,591 $185,747 $153,838

Total assets............... $398,366 $388,881 $370,612 $313,473 $263,224

An additional $15,000 of interest income would have been recorded for the
year ended March 31, 2002, had nonaccruing loans been current in accordance
with their original terms.

Real Estate Acquired in Settlement of Loans. See Note 1 of Notes to
Consolidated Financial Statements included in Item 8 herein, regarding the
Bank's accounting for foreclosed real estate. At March 31, 2002, the Bank had
no foreclosed real estate.

Asset Classification. The OTS has adopted various regulations regarding
problem assets of savings institutions. The regulations require that each
insured institution review and classify its assets on a regular basis. In
addition, in connection with examinations of insured institutions, OTS
examiners have authority to identify problem assets and, if appropriate,
require them to be classified. There are four classifications for problem
assets: substandard, other loans especially mentioned, doubtful and loss.
Substandard assets have one or more defined weaknesses and are characterized
by the distinct possibility that the insured institution will sustain some
loss if the deficiencies are not corrected. Other loans especially mentioned
have potential weaknesses that deserve management's close attention. Loans in
this classification have a plan that is approved by the borrower and the Bank
that will return the credit to a pass classification. Loans in this category
are not adversely classified and do not expose the Bank to sufficient risk to
warrant adverse classification. Doubtful assets have the weaknesses of
substandard assets with the additional characteristic that the weaknesses make
collection or liquidation in full on the basis of currently existing facts,
conditions and values

12

questionable, and there is a high possibility of loss. An asset classified as
loss is considered uncollectible and of such little value that continuance as
an asset of the institution is not warranted. If an asset or portion thereof
is classified as loss, the insured institution establishes specific allowances
for loan losses for the full amount of the portion of the asset classified as
loss. All or a portion of general loan loss allowances established to cover
possible losses related to assets classified substandard or doubtful can be
included in determining an institution's regulatory capital, while specific
valuation allowances for loan losses generally do not qualify as regulatory
capital. Assets that do not currently expose the insured institution to
sufficient risk to warrant classification in one of the aforementioned
categories but possess weaknesses are designated "watch" and monitored by the
Bank.

The aggregate amounts of the Bank's classified and watch assets, and of
the Bank's general and specific loss allowances at the dates indicated, were
as follows:

At March 31,
--------------------------
2002 2001 2000
------- ------- -------
(In thousands)

Loss..................... $ -- $ -- $ --
Doubtful................. 2 -- --
Substandard assets....... 501 1,154 1,656
Other loans especially
mentioned.............. 930 1,607 --
Watch.................... 9,819 9,426 8,545

General loss allowances.. 2,280 2,098 1,396
Specific loss allowances. -- -- --

At March 31, 2002, doubtful assets consisted of one consumer/dealer loan
of $2,000.

At March 31, 2002, substandard assets consisted of four one- to- four
family mortgage loans of $196,000, 19 consumer/dealer loans of $154,000 and
two commercial/agricultural loans (two borrowers) of $151,000.

At March 31, 2002, other loans especially mentioned consisted of 11
commercial/agricultural loans (five borrowers) of $930,000.

At March 31, 2002, watch assets consisted of 10 one- to- four family
mortgage loans of $346,000, 12 consumer/dealer loans of $103,000 and 56
commercial/agricultural loans (32 borrowers) of $9.4 million.

Allowance for Loan Losses. The Bank has established a systematic
methodology for the determination of provisions for loan losses. The
methodology is set forth in a formal policy and takes into consideration the
need for an overall general valuation allowance as well as specific allowances
that are tied to individual loans.

In originating loans, the Bank recognizes that losses will be experienced
and that the risk of loss will vary with, among other things, the type of loan
being made, the creditworthiness of the borrower over the term of the loan,
general economic conditions and, in the case of a secured loan, the quality of
the security for the loan. The Bank increases its allowance for loan losses
by charging provisions for loan losses against the Bank's income.

Allowances for losses on specific problem loans and real estate owned are
charged to earnings when it is determined that the value of these loans and
properties, in the judgement of management, is impaired. In addition to
specific reserves, the Bank also maintains general provisions for loan losses
based on the evaluation of known and inherent risks in the loan portfolio,
including management's continuing analysis of the factors and trends
underlying the quality of the loan portfolio. These factors include changes
in the size and composition of the loan portfolio, actual loan loss
experience, current and anticipated economic conditions, detailed analysis of
individual loans for which full

13

collectibility may not be assured, and determination of the existence and
realizable value of the collateral and guarantees securing the loans. The
ultimate recovery of such loans is susceptible to future market factors beyond
the Bank's control, which may result in losses or recoveries differing
significantly from those provided in the consolidated financial statement. In
addition, various regulatory agencies, as an integral part of their
examination process, periodically review the Bank's valuation allowance on
loans and real estate owned. Generally, a provision for losses is charged
against income quarterly to maintain the allowance for loan losses.

The Company's methodology for calculating the necessary reserves for loan
losses requires the Company to reserve specific percentages of outstanding
loan balances with the percentages varying based upon the perceived risk of
the different loan types and loan classification within specific loan types.
The specific reserve percentages are based upon the various loans type's
historic performance, loss trends, industry norms and the general economic
environment. Additionally, the Company has unallocated reserves which keep
the Company's reserves in line with industry norms as well as the inherent
changes in the portfolio risk due to macroeconomic factors.

At March 31, 2002, the Bank had an allowance for loan losses of $2.3
million, which management believes is adequate to absorb losses inherent in
the portfolio. Although management is confident that the basis for making the
allowance is sound, future adjustments to the allowance for loan losses may be
necessary and results of operations could be significantly and adversely
affected if circumstances differ substantially from the assumptions used in
making the determinations. Furthermore, while the Bank believes it has
established its existing allowance for loan losses in accordance with
generally accepted accounting principles, there can be no assurance that
regulators, in reviewing the Bank's loan portfolio, will not request the Bank
to increase significantly its allowance for loan losses. In addition, because
future events affecting borrowers and collateral cannot be predicted with
certainty, there can be no assurance that the existing allowance for loan
losses is adequate or that substantial increases will not be necessary should
the quality of any loan deteriorate as a result of the factors discussed
above. Any material increase in the allowance for loan losses may adversely
affect the Bank's financial condition and results of operations.

14

The following table sets forth an analysis of the Bank's allowance for
loan losses for the periods indicated.

Year Ended March 31,
------------------------------------------------
2002 2001 2000 1999 1998
-------- -------- -------- -------- --------
(Dollars in thousands)
Allowance at beginning
of period................ $ 2,098 $ 1,396 $ 1,228 $ 847 $ 725
-------- -------- -------- -------- --------
Provision for loan losses. 481 794 178 483 138

Recoveries:
Mortgage loans:
One- to- four family.... -- 1 23 -- 4
Consumer loans:
Credit card............. 10 5 7 9 4
Other................... 32 13 2 4 25
-------- -------- -------- -------- --------
Total recoveries....... 42 19 32 13 33
-------- -------- -------- -------- --------
Charge-offs:
Mortgage loans:
One- to- four family.... -- -- -- 4 5
Consumer loans:
Credit card............. 31 99 37 82 36
Automobile.............. 199 11 1 15 8
Unsecured............... 47 1 -- -- --
Other................... 25 -- 4 14 -
-------- -------- -------- -------- --------
Commercial............. 3 - - - -
Agriculture............ 36 - - - --
-------- -------- -------- -------- --------
Total charge-offs...... 341 111 42 115 49
-------- -------- -------- -------- --------
Net charge-offs........ 299 92 10 102 16
-------- -------- -------- -------- --------
Allowance at end
of period............ $ 2,280 $ 2,098 $ 1,396 $ 1,228 $ 847
======== ======== ======== ======== ========
Allowance for loan
losses as a percentage
of total loans outstand-
ing at the end of
the period............... 0.85% 0.82% 0.63% 0.66% 0.55%

Net charge-offs as a
percentage of average
loans outstanding
during the period........ 0.11% 0.04% --% 0.06% 0.01%

Allowance for loan
losses as a percentage
of nonperforming loans
at end of period......... 678.21% 3814.55% 900.65% 889.86% 308.07%

15

The following table sets forth the breakdown of the allowance for loan losses by loan category at the
dates indicated. Management feels that the allowance can be allocated by category only on an approximate
basis. The allocation of the allowance to each category is not necessarily indicative of future losses and
does not restrict the use of the allowance to absorb losses in any other category.

At March 31,
-----------------------------------------------------------------------------------------
2002 2001 2000 1999 1998
---------------- ---------------- ---------------- ---------------- -----------------
Percent Percent Percent Percent Percent
of Loans of Loans of Loans of Loans of Loans
in in in in in
Category Category Category Category Category
to Total to Total to Total to Total to Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
(Dollars in thousands)

Mortgage loans:
One- to- four
family......... $ 313 46.08% $ 352 54.82% $ 338 24.21% $ 381 31.03% $ 329 66.65%
Non-mortgage
loans........... 792 19.54 625 20.04 355 25.43 265 21.58 236 20.29
Commercial busi-
ness and real
estate.......... 637 27.76 494 18.15 360 25.79 300 24.43 164 8.90
Agricultural
loans........... 260 6.00 331 6.35 314 22.49 250 20.36 87 3.19
Credit cards..... 82 0.43 76 0.43 26 1.86 29 2.36 26 0.55
Loans secured
by deposit
accounts........ 5 0.19 5 0.21 3 0.22 3 0.24 5 0.42
Unallocated...... 191 -- 215 -- -- -- -- -- -- --
------ ------ ------ ------ ------ ------ ------- ------ ------ -------
Total allowance
for loan
losses....... $2,280 100.00% $2,098 100.00% $1,396 100.00% $ 1,228 100.00% $ 847 100.00%
====== ====== ====== ====== ====== ====== ======= ====== ====== =======

16

Investment Activities

The Bank is permitted under federal law to invest in various types of
liquid assets, including U.S. Treasury obligations, securities of various
federal agencies and of state and municipal governments, deposits at the
FHLB-Seattle, certificates of deposit of federally insured institutions,
certain bankers' acceptances and federal funds. Subject to various
restrictions, the Bank may also invest a portion of its assets in commercial
paper and corporate debt securities. The Bank is required to maintain an
investment in FHLB stock. The Bank is also required under federal regulations
to maintain a minimum amount of liquid assets. See "REGULATION" herein and
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS -- Liquidity and Capital Resources" included in Item 7 of this Form
10-K.

Although the Bank generally purchases investment securities with excess
liquidity, during the years ended March 31, 2001 and 2000, the Bank engaged in
a leveraging strategy using funds borrowed from the Federal Home Loan Bank to
purchase investment securities. Total purchases amounted to $44.4 million,
$17.0 million and $38.0 million during the years ended March 31, 2002, 2001
and 2000, respectively, including $24.9 million in mortgage backed securities,
$4.0 million in U.S. Government and government agency securities and $15.0
million in collateralized mortgage obligations purchased in fiscal 2002.
Purchases were funded in fiscal 2002 by selling investment securities totaling
$28.7 million, and principal repayments of securities totaling $19.7 million.
Purchases were funded by selling investment securities totaling $37.8 million
for the year ended March 31, 2001. Purchases for the year ended March 31,
2000 were funded by borrowing an additional $26.5 million from the FHLB. The
Bank's investment securities purchases have generally been limited to U.S.
Government and government agency securities with contractual maturities of
between one and ten years and mortgage-backed and related securities issued by
the Federal National Mortgage Association ("FNMA"), Federal Home Loan Mortgage
Corporation ("FHLMC") and Government National Mortgage Association ("GNMA")
with maturities of up to 30 years. During the year ended March 31, 1999, the
Bank began purchasing AAA rated municipal bonds of various local Oregon
governmental units with maturities ranging from 10 to 19 years. Such
municipal bonds totaled $7.2 million at March 31, 2002.

At March 31, 2002, the Bank held securities classified as available-for-
sale under SFAS 115. There were no trading securities at March 31, 2002.
See Note 2 of Notes to Consolidated Financial Statements.

The Bank's investment policies generally limit investments to U.S.
Government and government agency securities, municipal bonds, certificates of
deposits, marketable corporate debt obligations, mortgage-backed and related
securities and certain types of mutual funds. The Bank's investment policy
does not permit engaging directly in hedging activities or purchasing high
risk mortgage derivative products or non-investment grade corporate bonds.
Investments are made based on certain considerations, which include the
interest rate, yield, settlement date and maturity of the investment, the
Bank's liquidity position, and anticipated cash needs and sources (which in
turn include outstanding commitments, upcoming maturities, estimated deposits
and anticipated loan amortization and repayments). The effect that the
proposed investment would have on the Bank's credit and interest rate risk and
risk-based capital is also considered.

At March 31, 2002, the Bank did not have any individual investment
(excluding U.S. government bonds) that had an aggregate book value in excess
of 10% of the Company's shareholders' equity at that date.

17

The following table sets forth the amortized cost and fair value of the
Bank's debt and mortgage-backed and related securities, by accounting
classification and by type of security, at the dates indicated.

At March 31,
------------------------------------------------------
2002 2001 2000
---------------- ----------------- -----------------
Percent Percent Percent
Carrying of Carrying of Carrying of
Value(1) Total Value(1) Total Value(1) Total
------- ------ ------- ------ -------- ------
(Dollars in thousands)
Held to Maturity:
Mortgage-backed and
related securities... $ -- --% $ -- --% $ -- --%
------- ------ ------- ------ -------- ------
Total held to
maturity
securities......... -- -- -- -- -- --

Available for Sale:
U.S. Government agency
obligations.......... 10,825 11.71 16,828 17.36 28,145 23.06
Municipal securities.. 6,984 7.56 10,086 10.41 9,291 7.61
Mortgage-backed and
related securities... 74,100 80.18 70,010 72.23 84,615 69.33
Other................. 510 0.55 -- -- -- --
------- ------ ------- ------ -------- ------
Total available for
sale securities.... 92,419 100.00 96,924 100.00 122,051 100.00
------- ------ ------- ------ -------- ------
Total.................. $92,419 100.00% $96,924 100.00% $122,051 100.00%
======= ====== ======= ====== ======== ======

- ------------------
(1) The market value of the Bank's investment portfolio amounted to $92.4
million, $96.9 million and $122.1 million at March 31, 2002, 2001 and
2000, respectively. At March 31, 2002, the amortized cost of the
principal components of the Bank's investment securities portfolio was as
follows: U.S. Government securities, $18.4 million; mortgage-backed and
related securities, $73.4 million.

The following table sets forth the maturities and weighted average yields
of the debt and mortgage-backed and related securities in the Bank's
investment securities portfolio at March 31, 2002.

Less Than One to Five to Over Ten
One Year Five Years Ten Years Years
------------- ------------- ------------- -------------
Amount Yield Amount Yield Amount Yield Amount Yield Total
------ ----- ------ ----- ------ ----- ------ ----- -----
(Dollars in thousands)

Available for Sale:
U.S. Government
agency obligations.. $2,002 2.38% $1,986 3.03% $1,236 4.32% $13,095 5.28% $18,319
Mortgage-backed and
related securities.. 2 5.22 23 6.07 5,064 4.50 69,011 6.41 74,100
------ ------ ------ ------- -------
Total available for
sale securities... $2,004 $2,009 $6,300 $82,106 $92,419
====== ====== ====== ======= =======

18

Deposit Activities and Other Sources of Funds

General. Deposits are the major external source of funds for the Bank's
lending and other investment activities. In addition, the Bank also generates
funds internally from loan principal repayments and prepayments, and maturing
investment securities. Scheduled loan repayments are a relatively stable
source of funds, while deposit inflows and outflows and loan prepayments are
influenced significantly by general interest rates and money market
conditions. Borrowings from the FHLB-Seattle may be used on a short-term
basis to compensate for reductions in the availability of funds from other
sources. The Bank also has an overnight credit line with Key Bank amounting
to $15.0 million and a $50.0 million reverse repurchase credit line with
Merrill Lynch.

Deposit Accounts. A substantial number of the Bank's depositors reside
in Oregon. The Bank's deposit products include a broad selection of deposit
instruments, including NOW accounts, demand deposit accounts, money market
accounts, statement savings accounts and term certificate accounts. Deposit
account terms vary with the principal differences being the minimum deposit to
open, early withdrawal penalties and the interest rate. The Bank reviews its
deposit mix and pricing weekly. The Bank does not utilize brokered deposits,
nor has it aggressively sought jumbo certificates of deposit. The Bank also
offers business deposit accounts in connection with its community banking
activities.

The Bank believes it is competitive in the type of accounts and interest
rates it offers on its deposit products. The Bank does not seek to pay the
highest interest rates on deposits, but a competitive rate. The Bank
determines the rates paid based on a number of conditions, including rates
paid by competitors, rates on U.S. Treasury securities, rates offered on
various FHLB-Seattle lending programs, and the deposit growth rate the Bank is
seeking to achieve.

In the unlikely event the Bank is liquidated, depositors will be entitled
to full payment of their deposit accounts before any payments are made to the
Company as the sole stockholder of the Bank.

The following table sets forth information concerning the Bank's time
deposits and other interest-bearing deposits at March 31, 2002.

Weighted
Average Percentage
Interest Minimum of Total
Rate Term Category Amount Balance Deposits
---- ------------ -------------------------- ------- ------- --------
(In thousands,
except minimum balance)

N/A N/A Non-interest-bearing $21,878 $ 10 8.54%
0.50% N/A NOW accounts 35,803 10 13.98
1.75 N/A Money market accounts 60,685 1,000 23.70
1.41 N/A Statement savings accounts 18,371 5 7.17

Certificates of Deposit
-----------------------

5.55 3 to 5 years Fixed-term, fixed-rate 17,475 1,000 6.82
2.68 91 days Fixed-term, fixed-rate 11,998 1,000 4.69
2.28 182 days Fixed-term, fixed-rate 14,824 1,000 5.79
3.24 1 year Fixed-term, variable-rate 36,520 1,000 14.26
5.52 2-1/2 years Fixed-term, variable-rate 7,117 1,000 2.78
5.45 5 years Fixed-term, variable-rate 8,616 1,000 3.36
2.79 18 months Fixed-term, adjustable-rate 2,353 5 0.92
5.77 20 months Fixed-term, fixed-rate 9,449 1,000 3.70
4.27 varies Various term, fixed-rate 1,314 1,000 0.51
3.98 varies Jumbo certificates 9,675 96,000 3.78
-------- ------
TOTAL $256,078 100.00%
======== ======

19

The following table indicates the amount of the Bank's jumbo certificates
of deposit by time remaining until maturity as of March 31, 2002. Jumbo
certificates of deposit generally have principal amounts of $100,000 or more
and have negotiable interest rates.

Certificates
Maturity Period of Deposits
--------------------------------- ------------
(In thousands)

Three months or less............. $ 2,939
Over three through six months.... 2,100
Over six through twelve months... 3,713
Over twelve months............... 5,191
-------
Total.......................... $13,943
=======

Deposit Flow. The following table sets forth the balances (inclusive of
interest credited) and changes in dollar amounts of deposits in the various
types of accounts offered by the Bank between the dates indicated.

At March 31,
--------------------------------------------------------------------------
2002 2001 2000
-------------------------- --------------------------- ---------------
Percent Percent Percent
of Increase of Increase of
Amount Total (Decrease) Amount Total (Decrease) Amount Total
------ ----- ---------- ------ ----- ---------- ------ -----
(Dollars in thousands)

Non-interest-bearing......... $ 21,878 8.54% $ 2,200 $ 19,678 7.75% $ 4,717 $ 14,961 6.29%
NOW checking................. 35,803 13.98 (169) 35,972 14.17 (786) 36,758 15.46
Statement savings accounts... 18,371 7.17 2,120 16,251 6.40 (3,174) 19,425 8.17
Money market deposit......... 60,685 23.70 6,702 53,983 21.27 3,881 50,102 21.07
Fixed-rate certificates
which mature:
Within 1 year.............. 89,446 34.93 (5,058) 94,504 38.25 3,571 90,932 38.25
After 1 year, but
within 3 years........... 19,531 7.63 (5,837) 25,368 7.83 6,757 18,611 7.83
After 3 years, but
within 5 years........... 9,373 3.66 2,682 6,691 2.33 1,164 5,528 2.33
Certificates maturing
thereafter............... 991 0.39 (339) 1,330 0.53 (88) 1,418 0.60
-------- ------ ------- -------- ------ ------- -------- ------
Total................. $256,078 100.00% $ 2,301 $253,777 100.00% $16,042 $237,735 100.00%
======== ====== ======= ======== ====== ======= ======== ======

Time Deposits by Rates. The following table sets forth the amount of
time deposits in the Bank categorized by rates at the dates indicated.

At March 31,
-------------------------------
2002 2001 2000
-------- -------- --------
(In thousands)
1.00 - 1.99%............. $ 10,375 $ -- $ --
2.00 - 3.99%............. 53,067 -- --
4.00 - 4.99%............. 20,970 9,933 10,028
5.00 - 5.99%............. 16,677 38,223 81,566
6.00 - 6.99%............. 16,949 62,822 23,702
7.00% and over........... 1,303 16,915 1,193
-------- -------- --------
Total.................... $119,341 $127,893 $116,489
======== ======== ========

20

Deposit Activity. The following table sets forth the deposit activity of
the Bank for the periods indicated.

Year Ended March 31,
-------------------------------
2002 2001 2000
-------- -------- --------
(In thousands)

Beginning balance........... $253,777 $237,735 $199,589
-------- -------- --------
Net (withdrawals) deposits
before interest credited... (5,730) 5,752 29,645
Interest credited........... 8,031 10,290 8,501
-------- -------- --------

Net increase in deposits.... 2,301 16,042 38,146
-------- -------- --------

Ending balance.............. $256,078 $253,777 $237,735
======== ======== ========

Borrowings. The Bank utilizes advances from the FHLB-Seattle to
supplement its supply of investable funds and to meet deposit/withdrawal
requirements. The FHLB-Seattle functions as a central reserve bank providing
credit for savings associations and certain other member financial
institutions. As a member of the FHLB-Seattle, the Bank is required to own
capital stock in the FHLB-Seattle and is authorized to apply for advances on
the security of such stock and certain of its mortgage loans and other assets
(principally securities that are obligations of, or guaranteed by, the U.S.
Government) provided certain creditworthiness standards have been met.
Advances are made pursuant to several different credit programs, all of which
have their own interest rate guidelines and range of maturities. Depending on
the program, limitations on the amount of advances are based on the financial
condition of the member institution and the adequacy of collateral pledged to
secure the credit. The Bank is currently authorized to borrow from the FHLB
up to an amount equal to 30% of total assets. The Bank may increase the
amount of its FHLB advances if loan demand exceeds deposit growth.

During the year ended March 31, 2000, the Bank opened a $15.0 million
overnight line of credit with Key Bank and a $50.0 million reverse repurchase
agreement with Merrill Lynch. See Note 8 of Notes to Consolidated Financial
Statements included in Item 8 herein.

21

The following table sets forth certain information regarding borrowings
by the Bank at the end of and during the periods indicated:

At or For the
Year Ended March 31,
-------------------------------
2002 2001 2000
-------- -------- --------
(Dollars in thousands)

Maximum amount of borrowings outstanding
at any month end:
FHLB advances.......................... $109,600 $87,300 $76,750

Approximate average borrowings
outstanding with respect to:
Securities sold under agreements
to repurchase........................ -- -- 67
FHLB advances.......................... 84,989 75,871 60,418

Approximate weighted average rate paid on:
Securities sold under agreements
to repurchase........................ --% --% 5.97%
FHLB advances.......................... 5.33 6.34 5.37

Potential Adverse Impact of Changes in Interest Rates

The financial condition and results of operations of the Bank, and of
savings institutions in general, are significantly influenced by general
economic conditions, by the related monetary and fiscal policies of the
federal government, and by the regulations of the OTS, the FDIC and the Board
of Governors of the Federal Reserve System ("Federal Reserve"). Deposit flows
and the cost of funds are influenced by interest rates of competing
investments and general market rate conditions. Lending activities are
affected by the demand for mortgage financing and for consumer and other types
of loans, which in turn are affected by the interest rates at which such
financing may be offered and by other factors affecting the supply of housing
and the availability of funds.

The Bank's profitability is substantially dependent on its net interest
income, which is the difference between the interest income received from its
interest-earning assets and the interest expense incurred in connection with
its interest-bearing liabilities. When an institution's interest-bearing
liabilities exceed its interest-earning assets which mature within a given
period of time, material and prolonged increases in interest rates generally
would adversely affect net interest income, while material and prolonged
decreases in interest rates generally would have a favorable effect on net
interest income. Like most of the savings industry, the interest-earning
assets of the Bank have longer effective maturities than its deposits, which
largely mature or are subject to repricing within a shorter period of time.
As a result, a material and prolonged increase in interest rates generally
would adversely affect net interest income, while material and prolonged
decreases in interest rates generally would have a more favorable effect on
net interest income.

The mismatch between maturities and interest rate sensitivities of
balance sheet items results in interest rate risk. The extent of interest
rate risk to which the Bank is subject is monitored by management by modeling
the change in net portfolio value ("NPV") over a variety of interest rate
scenarios. NPV is the present value of expected cash flows from assets,
liabilities and off-balance sheet contracts. The calculation is intended to
illustrate the change in NPV that will occur in the event of an immediate
change in interest rates of at least 200 basis points with no effect given to
any steps which management might take to counter the effect of that interest
rate movement. At March 31, 2002, there was a $14.4 million, or 29.6%,
decrease in the Bank's NPV as a percent of the present value of assets,
assuming a 200 basis

22

point increase in interest rates. See "MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS -- Asset and Liability
Management and Interest Rate Risk" contained in Item 7 herein for a discussion
of the NPV methods of analyzing interest rate risk and for an illustration of
the effect of an increase in interest rates on the Bank's earnings.

Consequently, the Bank's net interest income could be adversely affected
during periods of rising interest rates. Further increases in market rates of
interest could have a material adverse effect on the Bank's net interest
income. See "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS -- Asset and Liability Management and Interest Rate
Risk." Furthermore, there has been increased scrutiny by the regulatory
agencies as to financial institutions levels of interest rate risk and Pioneer
Bank has been examined by the OTS since it increased its review of this area,
with a "satisfactory" rating.

Changes in interest rates can affect the amount of loans originated by an
institution, as well as the value of its loans and other interest-earning
assets and the resultant ability to realize gains on the sale of such assets.
Changes in interest rates also can result in disintermediation, which is the
flow of funds away from savings banks into direct investments, such as U.S.
Government and corporate securities, and other investment vehicles which,
because of the absence of federal insurance premiums and reserve requirements,
generally can pay higher rates of return than savings associations.

REGULATION

General

The Bank is subject to extensive regulation, examination and supervision
by the OTS as its chartering agency, and the FDIC, as the insurer of its
deposits. The activities of federal savings institutions are governed by the
Home Owners Loan Act and, in certain respects, the Federal Deposit Insurance
Act, and the regulations issued by the OTS and the FDIC to implement these
statutes. These laws and regulations delineate the nature and extent of the
activities in which federal savings associations may engage. Lending
activities and other investments must comply with various statutory and
regulatory capital requirements. In addition, the Bank's relationship with
its depositors and borrowers is also regulated to a great extent, especially
in such matters as the ownership of deposit accounts and the form and content
of the Bank's mortgage documents.

The Bank is required to file reports with the OTS and the FDIC concerning
its activities and financial condition in addition to obtaining regulatory
approvals prior to entering into certain transactions such as mergers with, or
acquisitions of, other financial institutions. There are periodic
examinations by the OTS and the FDIC to review the Bank's compliance with
various regulatory requirements. The regulatory structure also gives the
regulatory authorities extensive discretion in connection with their
supervisory and enforcement activities and examination policies, including
policies with respect to the classification of assets and the establishment of
adequate loan loss reserves for regulatory purposes. Any change in such
policies, whether by the OTS, the FDIC or Congress, could have a material
adverse impact on the Company, the Bank and their operations.

Federal Regulation of Savings Associations

Office of Thrift Supervision. The OTS is an office in the Department of
the Treasury subject to the general oversight of the Secretary of the
Treasury. The OTS has extensive authority over the operations of savings
associations. Among other functions, the OTS issues and enforces regulations
affecting federally insured savings associations and regularly examines these
institutions.

All savings associations are required to pay assessments to the OTS to
fund the agency's operations. The general assessments, paid on a semi-annual
basis, are determined based on the savings association's total assets,
including consolidated subsidiaries. The Bank's OTS assessment for the fiscal
year ended March 31, 2002 was $48,000.

23

Federal Home Loan Bank System. The FHLB System, consisting of 12 FHLBs,
is under the jurisdiction of the Federal Housing Finance Board ("FHFB"). The
designated duties of the FHFB are to supervise the FHLBs, to ensure that the
FHLBs carry out their housing finance mission, to ensure that the FHLBs remain
adequately capitalized and able to raise funds in the capital markets, and to
ensure that the FHLBs operate in a safe and sound manner.

The Bank, as a member of the FHLB-Seattle, is required to acquire and
hold shares of capital stock in the FHLB-Seattle in an amount equal to the
greater of (i) 1.0% of the aggregate outstanding principal amount of
residential mortgage loans, home purchase contracts and similar obligations at
the beginning of each year, or (ii) 1/20 of its advances (i.e., borrowings)
from the FHLB-Seattle. The Bank is in compliance with this requirement with an
investment in FHLB-Seattle stock of $6.3 million at March 31, 2002.

Among other benefits, the FHLB provides a central credit facility
primarily for member institutions. It is funded primarily from proceeds
derived from the sale of consolidated obligations of the FHLB System. It
makes advances to members in accordance with policies and procedures
established by the FHFB and the Board of Directors of the FHLB-Seattle.

The FHLBs are required to provide funds for the resolution of troubled
savings institutions and to contribute to affordable housing programs through
direct loans or interest subsidies on advances targeted for community
investment and low- and moderate-income housing projects. These contributions
have adversely affected the level of FHLB dividends paid in the past and could
do so in the future. These contributions also could have an adverse effect on
the value of FHLB stock in the future.

Federal Deposit Insurance Corporation. The FDIC is an independent
federal agency established originally to insure the deposits, up to prescribed
statutory limits, of federally insured banks and to preserve the safety and
soundness of the banking industry. The FDIC maintains two separate insurance
funds: the Bank Insurance Fund ("BIF") and the Savings Association Insurance
Fund ("SAIF"). The Bank's deposit accounts are insured by the FDIC under the
SAIF to the maximum extent permitted by law. As insurer of the Bank's
deposits, the FDIC has examination, supervisory and enforcement authority over
all savings associations.

As insurer, the FDIC imposes deposit insurance premiums and is authorized
to conduct examinations of and to require reporting by FDIC-insured
institutions. It also may prohibit any FDIC-insured institution from engaging
in any activity the FDIC determines by regulation or order to pose a serious
risk to the SAIF or the BIF. The FDIC also has the authority to initiate
enforcement actions against savings institutions, after giving the OTS an
opportunity to take such action, and may terminate the deposit insurance if it
determines that the institution has engaged in unsafe or unsound practices or
is in an unsafe or unsound condition.

The FDIC's deposit insurance premiums are assessed through a risk-based
system under which all insured depository institutions are placed into one of
nine categories and assessed insurance premiums based upon their level of
capital and supervisory evaluation. Under the system, institutions classified
as well capitalized (i.e., a core capital ratio of at least 5%, a ratio of
Tier 1, or core capital, to risk-weighted assets ("Tier 1 risk-based capital")
of at least 6% and a risk-based capital ratio of at least 10%) and considered
healthy pay the lowest premium while institutions that are less than
adequately capitalized (i.e., core or Tier 1 risk-based capital ratios of less
than 4% or a risk-based capital ratio of less than 8%) and considered of
substantial supervisory concern pay the highest premium. Risk classification
of all insured institutions is made by the FDIC for each semi-annual
assessment period.

The FDIC is authorized to increase assessment rates, on a semi-annual
basis, if it determines that the reserve ratio of the SAIF will be less than
the designated reserve ratio of 1.25% of SAIF insured deposits. In setting
these increased assessments, the FDIC must seek to restore the reserve ratio
to that designated reserve level, or such higher reserve ratio as established
by the FDIC. The FDIC may also impose special assessments on SAIF members to
repay amounts borrowed from the United States Treasury or for any other reason
deemed necessary by the FDIC.

24

The premium schedule for BIF and SAIF insured institutions ranged from 0
to 27 basis points. However, SAIF insured institutions and BIF insured
institutions are required to pay a Financing Corporation assessment in order
to fund the interest on bonds issued to resolve thrift failures in the 1980s.
This amount is currently equal to about 1.88 points for each $100 in domestic
deposits for SAIF and BIF insured institutions. These assessments, which may
be revised based upon the level of BIF and SAIF deposits, will continue until
the bonds mature in 2017 through 2019.

Under the Federal Deposit Insurance Act ("FDIA"), insurance of deposits
may be terminated by the FDIC upon a finding that the institution has engaged
in unsafe or unsound practices, is in an unsafe or unsound condition to
continue operations or has violated any applicable law, regulation, rule,
order or condition imposed by the FDIC or the OTS. Management of the Bank
does not know of any practice, condition or violation that might lead to
termination of deposit insurance.

Liquidity Requirements. Federal regulations require the Bank to maintain
sufficient liquidity to ensure its safe and sound operation. Liquid assets
include cash, cash equivalents consisting of short-term interest-earning
deposits, certain other time deposits, and other obligations generally having
remaining maturities of less than five years. Liquidity management is both a
daily and long-term responsibility of management. Monetary penalties may be
imposed for failure to meet liquidity requirements. The Bank has never been
subject to monetary penalties for failure to meet its liquidity requirements.

Prompt Corrective Action. The OTS is required to take certain supervisory
actions against undercapitalized savings associations, the severity of which
depends upon the institution's degree of undercapitalization. Generally, an
institution that has a ratio of total capital to risk-weighted assets of less
than 8%, a ratio of Tier I (core) capital to risk-weighted assets of less than
4%, or a ratio of core capital to total assets of less than 4% (3% or less for
institutions with the highest examination rating) is considered to be
"undercapitalized." An institution that has a total risk-based capital ratio
less than 6%, a Tier I capital ratio of less than 3% or a leverage ratio that
is less than 3% is considered to be "significantly undercapitalized" and an
institution that has a tangible capital to assets ratio equal to or less than
2% is deemed to be "critically undercapitalized." Subject to a narrow
exception, the OTS is required to appoint a receiver or conservator for a
savings institution that is "critically undercapitalized." OTS regulations
also require that a capital restoration plan be filed with the OTS within 45
days of the date a savings institution receives notice that it is
"undercapitalized," "significantly undercapitalized" or "critically
undercapitalized."

At March 31, 2002, the Bank was categorized as "well capitalized" under
the prompt corrective action regulations of the OTS.

Standards for Safety and Soundness. The federal banking regulatory
agencies have prescribed, by regulation, standards for all insured depository
institutions relating to: (i) internal controls, information systems and
internal audit systems; (ii) loan documentation; (iii) credit underwriting;
(iv) interest rate risk exposure; (v) asset growth; (vi) asset quality; (vii)
earnings; and (viii) compensation, fees and benefits ("Guidelines"). The
Guidelines set forth the safety and soundness standards that the federal
banking agencies use to identify and address problems at insured depository
institutions before capital becomes impaired. If the OTS determines that the
Bank fails to meet any standard prescribed by the Guidelines, the OTS may
require the Bank to submit to it an acceptable plan to achieve compliance with
the standard. Management is aware of no conditions relating to these safety
and soundness standards which would require submission of a plan of
compliance.

Qualified Thrift Lender Test. All savings associations, including the
Bank, are required to meet a qualified thrift lender ("QTL") test to avoid
certain restrictions on their operations. This test requires a savings
association to have at least 65% of its portfolio assets (as defined by
regulation) in qualified thrift investments on a monthly average for nine out
of every 12 months on a rolling basis. As an alternative, the savings
association may maintain 60% of its assets in those assets specified in
Section 7701(a)(19) of the Internal Revenue Code ("Code"). Under either test,
such assets primarily consist of residential housing related loans and
investments. At March 31, 2002, the Bank met the test and its QTL percentage
was 81.4%.

25

Any savings association that fails to meet the QTL test must convert to a
national bank charter, unless it requalifies as a QTL and thereafter remains a
QTL. If an association does not requalify and converts to a national bank
charter, it must remain SAIF-insured until the FDIC permits it to transfer to
the BIF. If such an association has not yet requalified or converted to a
national bank, its new investments and activities are limited to those
permissible for both a savings association and a national bank, and it is
limited to national bank branching rights in its home state. In addition, the
association is immediately ineligible to receive any new FHLB borrowings and
is subject to national bank limits for payment of dividends. If such
association has not requalified or converted to a national bank within three
years after the failure, it must divest of all investments and cease all
activities not permissible for a national bank. In addition, it must repay
promptly any outstanding FHLB borrowings, which may result in prepayment
penalties. If any association that fails the QTL test is controlled by a
holding company, then within one year after the failure, the holding company
must register as a bank holding company and become subject to all restrictions
on bank holding companies. See "-- Savings and Loan Holding Company
Regulations."

Capital Requirements. Federally insured savings associations, such as the
Bank, are required to maintain a minimum level of regulatory capital. The OTS
has established capital standards, including a tangible capital requirement, a
leverage ratio (or core capital) requirement and a risk-based capital
requirement applicable to such savings associations.

The capital regulations require tangible capital of at least 1.5% of
adjusted total assets, as defined by regulation. At March 31, 2002, the Bank
had tangible capital of $40.3 million, or 10.2% of adjusted total assets,
which is approximately $34.4 million above the minimum requirement of 1.5% of
adjusted total assets in effect on that date.

The capital standards also require core capital equal to 4% of adjusted
total assets, depending on an institution's supervisory rating. Core capital
generally consists of tangible capital. At March 31, 2002, the Bank had core
capital equal to $40.3 million, or 10.2% of adjusted total assets, which is
$28.4 million above the minimum leverage ratio requirement of 3% as in effect
on that date.

The OTS risk-based requirement requires savings associations to have
total capital of at least 8% of risk-weighted assets. Total capital consists
of core capital, as defined above, and supplementary capital. Supplementary
capital consists of certain permanent and maturing capital instruments that do
not qualify as core capital and general valuation loan and lease loss
allowances up to a maximum of 1.25% of risk-weighted assets. Supplementary
capital may be used to satisfy the risk-based requirement only to the extent
of core capital.

In determining the amount of risk-weighted assets, all assets, including
certain off-balance sheet items, are multiplied by a risk weight, ranging from
0% to 100%, based on the risk inherent in the type of asset. For example, the
OTS has assigned a risk weight of 50% for prudently underwritten permanent
one- to- four family first lien mortgage loans not more than 90 days
delinquent and having a loan-to-value ratio of not more than 80% at
origination unless insured to such ratio by an insurer approved by FNMA or
FHLMC.

On March 31, 2002, the Bank had total risk-based capital of approximately
$42.6 million, including $40.3 million in core capital and $2.3 million in
qualifying supplementary capital, and risk-weighted assets of $261.7 million,
or total capital of 16.3% of risk-weighted assets. This amount was $21.6
million above the 8% requirement in effect on that date.

The OTS and the FDIC are authorized and, under certain circumstances
required, to take certain actions against savings associations that fail to
meet their capital requirements. The OTS is generally required to take action
to restrict the activities of an "undercapitalized association," which is an
institution with less than either a 4% core capital ratio, a 4% Tier 1
risked-based capital ratio or an 8% risk-based capital ratio. Any such
association must submit a capital restoration plan and until such plan is
approved by the OTS may not increase its assets, acquire another institution,
establish a branch or engage in any new activities, and generally may not make
capital distributions. The OTS is authorized to impose the additional
restrictions that are applicable to significantly undercapitalized
associations.

26

The OTS is also generally authorized to reclassify an association into a
lower capital category and impose the restrictions applicable to such category
if the institution is engaged in unsafe or unsound practices or is in an
unsafe or unsound condition.

The imposition by the OTS or the FDIC of any of these measures on the
Company or the Bank may have a substantial adverse effect on their operations
and profitability.

Limitations on Capital Distributions. The OTS regulations impose various
restrictions on savings associations with respect to their ability to make
distributions of capital, which include dividends, stock redemptions or
repurchases, cash-out mergers and other transactions charged to the capital
account.

Generally, savings institutions, such as the Bank, that before and after
the proposed distribution remain well-capitalized, may make capital
distributions during any calendar year equal to the greater of 100% of net
income for the year-to-date plus retained net income for the two preceding
years. However, an institution deemed to be in need of more than normal
supervision by the OTS may have its dividend authority restricted by the OTS.
The Bank may pay dividends in accordance with this general authority.

Savings institutions proposing to make any capital distribution need only
submit written notice to the OTS 30 days prior to such distribution. Savings
institutions that do not, or would not meet their current minimum capital
requirements following a proposed capital distribution, however, must obtain
OTS approval prior to making such distribution. The OTS may object to the
distribution during that 30-day period based on safety and soundness concerns.
See "-- Capital Requirements."

Loans to One Borrower. Federal law provides that savings institutions
are generally subject to the national bank limit on loans to one borrower. A
savings institution may not make a loan or extend credit to a single or
related group of borrowers in excess of 15% of its unimpaired capital and
surplus. An additional amount may be lent, equal to 10% of unimpaired capital
and surplus, if secured by specified readily-marketable collateral. At March
31, 2002, the Bank's limit on loans to one borrower was $7.9 million. At
March 31, 2002, the Bank's largest aggregate loan to one borrower was $3.8
million, which was performing according to its original terms.

Activities of Associations and Their Subsidiaries. When a savings
association establishes or acquires a subsidiary or elects to conduct any new
activity through a subsidiary that the association controls, the savings
association must notify the FDIC and the OTS 30 days in advance and provide
the information each agency may, by regulation, require. Savings associations
also must conduct the activities of subsidiaries in accordance with existing
regulations and orders.

The OTS may determine that the continuation by a savings association of
its ownership control of, or its relationship to, the subsidiary constitutes a
serious risk to the safety, soundness or stability of the association or is
inconsistent with sound banking practices or with the purposes of the FDIA.
Based upon that determination, the FDIC or the OTS has the authority to order
the savings association to divest itself of control of the subsidiary. The
FDIC also may determine by regulation or order that any specific activity
poses a serious threat to the SAIF. If so, it may require that no SAIF member
engage in that activity directly.

Transactions with Affiliates. Generally, transactions between a savings
association or its subsidiaries and its affiliates are required to be on terms
as favorable to the association as transactions with non-affiliates. In
addition, certain of these transactions, such as loans to an affiliate, are
restricted to a percentage of the association's capital. Affiliates of the
Bank include the Company and any company which is under common control with
the Bank. In addition, a savings association may not lend to any affiliate
engaged in activities not permissible for a bank holding company or acquire
the securities of most affiliates. The OTS has the discretion to treat
subsidiaries of savings associations as affiliates on a case by case basis.

27

Certain transactions with directors, officers or controlling persons are
also subject to conflict of interest regulations enforced by the OTS. These
conflict of interest regulations and other statutes also impose restrictions
on loans to such persons and their related interests. Among other things,
such loans must be made on terms substantially the same as for loans to
unaffiliated individuals.

Community Reinvestment Act. Under the federal Community Reinvestment Act
("CRA"), all federally-insured financial institutions have a continuing and
affirmative obligation consistent with safe and sound operations to help meet
all the credit needs of its delineated community. The CRA does not establish
specific lending requirements or programs nor does it limit an institution's
discretion to develop the types of products and services that it believes are
best suited to meet all the credit needs of its delineated community. The CRA
requires the federal banking agencies, in connection with regulatory
examinations, to assess an institution's record of meeting the credit needs of
its delineated community and to take such record into account in evaluating
regulatory applications to establish a new branch office that will accept
deposits, relocate an existing office, or merge or consolidate with, or
acquire the assets or assume the liabilities of, a federally regulated
financial institution, among others. The CRA requires public disclosure of an
institution's CRA rating. The Bank received a "satisfactory" rating as a
result of its latest evaluation.

Regulatory and Criminal Enforcement Provisions. The OTS has primary
enforcement responsibility over savings institutions and has the authority to
bring action against all "institution-affiliated parties," including
stockholders, and any attorneys, appraisers and accountants who knowingly or
recklessly participate in wrongful action likely to have an adverse effect on
an insured institution. Formal enforcement action may range from the issuance
of a capital directive or cease and desist order to removal of officers or
directors, receivership, conservatorship or termination of deposit insurance.
Civil penalties cover a wide range of violations and can amount to $27,500 per
day, or $1.1 million per day in especially egregious cases. Under the FDIA,
the FDIC has the authority to recommend to the Director of the OTS that
enforcement action be taken with respect to a particular savings institution.
If action is not taken by the Director, the FDIC has authority to take such
action under certain circumstances. Federal law also establishes criminal
penalties for certain violations.

Savings and Loan Holding Company Regulations

The Company is a unitary savings and loan company subject to regulatory
oversight of the OTS. Accordingly, the Company is required to register and
file reports with the OTS and is subject to regulation and examination by the
OTS. In addition, the OTS has enforcement authority over the Company and its
non-savings association subsidiaries which also permits the OTS to restrict or
prohibit activities that are determined to a serious risk to the subsidiary
savings association.

1999 Legislation. On November 12, 1999, the Gramm-Leach-Bliley Financial
Services Modernization Act of 1999 was signed into law. The purpose of this
legislation was to modernize the financial services industry by establishing a
comprehensive framework to permit affiliations among commercial banks,
insurance companies, securities firms and other financial service providers.
Generally, the Act:

a. repealed the historical restrictions and eliminates many federal and
state law barriers to affiliations among banks, securities fi