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SECURITIES AND EXCHANGE COMMISSION

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

VINEYARD NATIONAL BANCORP

Registrant’s telephone number, including area code: (909) 987-0177

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, no par value

     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 if 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 registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ x ]

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes [    ] No [ x ]

     The aggregate value of the 1,553,466 shares of Common Stock of the registrant issued and outstanding, which excludes 372,326 shares held by all directors and executive officers of the registrant as a group, was approximately $14.0 million based on the last closing sales price on a share of Common Stock of $9.00 as of June 28, 2002.

     2,827,318 shares of Common Stock of the registrant were outstanding at March 7, 2003.

DOCUMENTS INCORPORATED BY REFERENCE

     Portions of the registrant’s definitive Proxy Statement for its 2003 Annual Meeting of Shareholders are incorporated by reference in Part III of this Form 10-K.

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     Forward-looking Statements

     This report contains forward-looking statements as referenced in the Private Securities Litigation Reform Act of 1995. Forward-looking statements are inherently unreliable and actual results may vary. Factors which could cause actual results to differ from these forward-looking statements include changes in the competitive marketplace, changes in the interest rate environment, economic conditions, outcome of pending litigation, risks associated with credit quality and other factors discussed in the Company’s filings with the Securities and Exchange Commission. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

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PART I

ITEM 1. Business

Vineyard National Bancorp

     Vineyard National Bancorp (the “Company”) was incorporated under the laws of the State of California on May 18, 1988 and commenced business on December 16, 1988 when, pursuant to a reorganization, the Company acquired all of the voting stock of Vineyard Bank (the “Bank”). As a bank holding company, the Company is registered under and subject to the Bank Holding Company Act of 1956, as amended. The Company’s principal asset is the capital stock of the Bank, a $384.6 million (asset) commercial bank, and the business of the Bank is carried on as a wholly-owned subsidiary of the Company. On November 12, 2002, the Company’s common stock was listed on the NASDAQ National Market System and is publicly traded under the symbol “VNBC”. Prior to that, the Company’s common stock was traded on the NASDAQ SmallCap Stock Market under the same symbol. The Company had approximately 1,031 shareholders that own approximately 2,827,318 shares of the Company’s common stock as of March 7, 2003.

     The Company’s principal business is to serve as a holding company for the Bank and its subsidiaries and for other banking or banking-related subsidiaries which the Company may establish or acquire. Vineyard Statutory Trust I and Vineyard Statutory Trust II are wholly-owned subsidiaries of the Company, formed on December 12, 2001 and December 19, 2002, respectively, for the sole purpose of issuing trust preferred securities and to pay dividends on such instruments. The Company may, in the future, consider acquiring other businesses or engaging in other activities as permitted under Federal Reserve Board regulations.

     The Company’s principal source of income is dividends from the Bank. Legal limitations are imposed on the amount of dividends that may be paid and loans that may be made by the Bank to the Company (See Item 1. Description of Business; Supervision and Regulation — Dividends and Other Transfer of Funds).

     As of December 31, 2002, the Company had total consolidated assets of approximately $385.3 million, total consolidated net loans of approximately $253.3 million, total consolidated deposits of approximately $287.5 million and total consolidated stockholders’ equity of approximately $20.0 million.

Vineyard Bank

     The Bank was organized as a national banking association under federal law and commenced operations under the name Vineyard National Bank on September 10, 1981. In August 2001, the Bank converted its charter to a California-chartered commercial bank and now operates under the supervision of the California Department of Financial Institutions (“DFI”) and the Federal Deposit Insurance Corporation (“FDIC”). The Bank determined that it could better serve its customers by converting to a state bank, which provided the Bank with increased lending limits. The Bank’s deposit accounts are insured by the FDIC up to the maximum amount permitted by law. The Bank is a non-member of the Federal Reserve System.

     The Bank is a community bank, dedicated to relationship banking and the success of its customers. The Bank is primarily involved in attracting deposits from individuals and businesses and using those deposits, together with borrowed funds, to originate commercial business and commercial real estate loans, primarily to small businesses, churches and private schools, single-family construction loans (both tract and coastal loans), Small Business Administration (“SBA”) loans and, to a lesser extent, single-family permanent loans and various types of consumer loans. The Bank is focused on serving the needs of commercial businesses with annual sales of less than $10 million, retail community businesses, single-family residential developers and builders, individuals and local public and private organizations. The Bank has experienced substantial growth in recent years as it has expanded its core deposit franchise and increased its originations of commercial and residential construction loans.

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     The Bank operates six full-service branch offices, which are located in each of the communities of Rancho Cucamonga, Chino, Diamond Bar, La Verne, Crestline and Blue Jay, all of which are located in San Bernardino County, California. San Bernardino County is located approximately 50 miles east of Los Angeles, California. The Rancho Cucamonga office also serves as the Company’s headquarters. A seventh full-service branch office is planned for Corona, California, and is scheduled to open during the second quarter of 2003. The new branch will give the Bank a greater extension into the Anaheim and Northern Orange County region of California. In addition, the Bank operates a loan production office in the city of Manhattan Beach, California, principally for the marketing and origination of single-family construction lending in the coastal communities of surrounding Los Angeles. The Bank also operates two loan production offices located in San Diego, California, and Beverly Hills, California. These offices are principally for the origination of SBA loans.

     The Bank is, and has been since inception, headquartered in Rancho Cucamonga, California and continues to have its roots in San Bernardino County. The Bank believes that the demand for business and housing loans will remain strong in the immediate future in the Bank’s primary market area, particularly in San Bernardino County. Even during slow economic periods, businesses continue to grow in San Bernardino County as the population migrates from heavily populated areas such as Los Angeles County into San Bernardino County where the cost of living and doing business are relatively less expensive. San Bernardino County is an industrial/suburban area that serves as geographic portal for many of the products that are shipped into the port of Los Angeles and distributed through channels in the San Bernardino County region to the rest of the United States. As business opportunities continue to grow in San Bernardino County, demand for housing increases as the population expands in the area.

     The Bank attempts to differentiate itself from its competitors by providing personalized service and building relationships with its customers. The Bank believes relationship management is best delivered in contemporary, well-appointed and efficient banking centers. Beginning in mid-2003, the existing community banking centers will be redesigned to afford Bank clients and employees with an environment conducive to providing personalized customer service. In addition, ATM machines will be upgraded with current technology to support branch designs and to better serve the Bank’s customers. The Bank believes that alternative delivery locations may augment this branching network beginning in 2004, which may be in the form of satellite branches and/or remote kiosks. The satellite branches and remote kiosks would enable the Bank to expand its presence in targeted markets without incurring significant overhead expenses. The Bank will focus its new business generation efforts within those communities of the new satellite branches, and augment these efforts with a business banking focus targeting the lower range of middle-market and professional clientele.

     Beginning in early 2001, the Bank implemented a new business strategy that concentrates on a sales and service approach to community banking, with the focus placed on customer needs fulfillment. As part of the Bank’s efforts to implement its customer-oriented strategy, the Bank selectively recruited experienced professionals with developed business banking skills, augmented its credit administration capabilities, and greatly expanded the marketing and branding of the franchise. The Bank believes that expanding many of its existing relationships will prove to be an effective source of new business opportunities.

     In late 2002, the Bank added single-family tract construction lending, SBA lending and religious financial services to its existing specialty group, single-family coastal construction lending. The Bank’s goal is for balanced lending activities in each of these specialty groups. Additional specialty groups that the Company anticipates pursuing include private banking, cash management services and asset-based lending, among other products and services. Each of these specialty groups will bring diversity to the Bank’s existing product lines, offering its customers greater opportunities and opening new opportunities for the Bank to serve new customers in the community. Loan growth was 84% for fiscal year 2002 and 73% for fiscal year 2001. New loan commitment volumes are targeted to produce net growth in loans outstanding between 50% to 70% for fiscal year 2003 and 25% to 30% for each year thereafter. As part of the Bank’s goal of balanced lending, net increases in its loan portfolio are intended to produce a distribution mix of 15% in commercial loans, 30% in commercial real estate loans, 25% in single-family coastal construction, 15% in single-family tract construction and 15% in consumer lending.

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     In order to expand the Bank’s core deposit franchise, the Bank will continue to introduce additional products and services to capture money market and time deposits by bundling them with other consumer services. Business deposits will be pursued with an expanded courier network, by introduction of cash management products and by specific targeting of non-credit business clientele. The Bank’s core deposit franchise has been built around the community banking system, with deposit growth of 80% for fiscal year 2002 and 60% for fiscal year 2001. The Bank’s projected net growth in core deposits ranges from 40% to 60% per annum with the intended distribution of 20% in non-interest bearing demand deposits, 10% in NOW and savings deposits, 40% in money market deposits and 30% in time deposits.

     The Rancho Cucamonga and Chino full-service branches offer the most balanced opportunities between lending and deposit generation among commercial and consumer clientele. The Bank believes the communities of La Verne and Diamond Bar offer substantial growth in the consumer depository markets while the two branches within the San Bernardino mountain communities of Blue Jay and Crestline will focus on capturing a larger market share of the community deposits. The community of Corona serves as a launching point for servicing the south western region of the Inland Empire and provides penetration into the Northern Orange County marketplace. The Bank currently plans to convert the Manhattan Beach loan production office into a full-service banking center catering to professional and small businesses in the Los Angeles beach communities.

     In summary, the Company continues to expand its marketing efforts in seven primary areas:

	•		Community-based core deposit growth;
	•		Small business and commercial lending;
	•		Single family coastal construction lending;
	•		Single family tract (entry level) construction lending;
	•		SBA lending;
	•		Religious financial services (lending and depository); and
	•		Specialized depository and cash management services for commercial business.

Vineyard Service Company, Inc.

     The Bank owns 100% of the capital stock of Vineyard Service Company, Inc., which is an inactive service company of the Bank. Vineyard Service Company, Inc. was originally formed to provide services to both customers of the Bank and others, including life and disability insurance.

Risk Factors

     The Company is implementing a business strategy that may result in increased volatility of earnings.

     The Company’s business strategy is focused on commercial real estate, commercial business and residential construction lending. At December 31, 2000, approximately 69% of the Bank’s loan portfolio was made up of commercial real estate, commercial business and residential construction loans. As of December 31, 2002, these types of loans had increased to approximately 88% of the Bank’s loan portfolio and are anticipated to increase further as it continues to implement its business strategy. As a result of this increase, the Bank’s allowance for possible loan losses as of December 31, 2002 was increased to 1.2% of its total loans and leases from 1.0% of total loans and leases as of December 31, 2000.

     These types of lending activities, while potentially more profitable, generally entail a larger degree of credit risk than general permanent single-family and consumer lending, because they are generally more sensitive to regional and local economic conditions, making loss levels more difficult to predict. Collateral evaluation in these types of loans requires a more detailed analysis of financial statements at the time of loan approval and on an on-going basis, and is more variable than for consumer loans. A decline in real estate values, particularly in California, would reduce the value of the real estate collateral securing the Bank’s loans and increase the risk that the Bank would incur losses if borrowers defaulted on their loans. In

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addition, loan balances for commercial real estate, commercial business and residential construction tract loans are typically larger than those for permanent single-family and consumer loans, and when there are defaults and losses, they are often greater on a per loan basis than those for permanent single-family and consumer loans. A liquid secondary market for most types of commercial real estate and commercial business loans does not exist, so the Bank has less opportunity to mitigate credit risk by selling part or all of its interest in these loans.

     The Company’s growth may not be managed successfully.

     The Company has grown substantially from $110.8 million of total assets and $99.6 million of total deposits at December 31, 2000 to $385.3 million of total assets and $287.5 million of total deposits at December 31, 2002. The Company expects to continue to experience significant growth in assets, deposits and scale of operations. If the Company does not manage its growth effectively, the Company will not have adequate resources to maintain and secure key relationships contemplated by its business plan, and its business and prospects could be harmed. The Company’s growth subjects it to increased capital and operating commitments. The Company must recruit experienced individuals that have the skills and experience that it needs to transition the areas of its lending concentration. The plan for additional customer products, service introduction, enhancements and implementation have placed and will continue to place a significant strain on the Company’s personnel, systems, and resources. The Company cannot guarantee that it will be able to obtain and train qualified individuals to implement its business strategy in a timely, cost effective and efficient manner.

     Potential acquisitions may disrupt the Company’s business, dilute stockholder value and adversely affect its operating results.

     The Company may grow by acquiring banks, related businesses or branches of other banks that it believes provide a strategic fit with its business. To the extent that the Company grows through acquisitions, it cannot guarantee that it will be able to adequately or profitably manage this growth. Acquiring other banks, businesses, or branches involves risks commonly associated with acquisitions, including:

	•		potential exposure to unknown or contingent liabilities of banks, businesses, or branches the Company acquires;
	•		exposure to potential asset quality issues of the acquired banks, businesses, or branches;
	•		difficulty and expense of integrating the operations and personnel of banks, businesses, or branches the Company acquires;
	•		potential disruption to business;
	•		potential diversion of management’s time and attention; and
	•		the possible loss of key employees and customers of the banks, businesses, or branches the Company acquires.

     The Company’s continued pace of growth may require it to raise additional capital in the future, but that capital may not be available when it is needed.

     The Company is required by federal regulatory authorities to maintain adequate levels of capital to support its operations. The Company anticipates that existing capital resources will satisfy its capital requirements for the foreseeable future. However, the Company may at some point need to raise additional capital to support continued growth, either internally or through acquisitions. The Company’s ability to raise additional capital, if needed, will depend on conditions in the capital markets at that time, which are outside the Company’s control, and on its financial performance. Accordingly, the Company cannot assure you of its ability to raise additional capital if needed or on terms acceptable to the Company. If the Company cannot raise additional capital when needed, the ability to further expand its operations through internal growth and acquisitions could be materially impaired.

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     The Company’s business strategy relies upon its Chief Executive Officer and other key employees.

     Norman Morales has been the president and chief executive officer of the Company and the Bank since October 2000. Mr. Morales developed numerous aspects of the Bank’s current business strategy and the implementation of such strategy depends heavily upon the active involvement of Mr. Morales. The loss of Mr. Morales’ services could have a negative impact on the implementation and success of the Company’s business strategy. The Bank’s success will also depend in large part upon its ability to attract and retain highly qualified management, technical and marketing personnel to execute the strategic plan. The Bank will need to retain persons with skills in areas that are new and unfamiliar in order to manage these programs. Competition for qualified personnel, especially those in management, sales and marketing is intense. The Company cannot assure you that it will be able to attract and retain these persons.

     The Company’s business is subject to various lending risks which could adversely impact its results of operations and financial condition.

     The Company’s commercial real estate loans involve higher principal amounts than other loans, and repayment of these loans may be dependent on factors outside its control or the control of its borrowers. At December 31, 2002, commercial real estate loans totaled $93.1 million, or 36.7%, of the Company’s total loan portfolio. Commercial real estate lending typically involves higher loan principal amounts and the repayment of such loans generally is dependent, in large part, on the successful operation of the property securing the loan or the business conducted on the property securing the loan. These loans may be more adversely affected by conditions in the real estate markets or in the economy generally. For example, if the cash flow from the borrower’s project is reduced due to leases not being obtained or renewed, the borrower’s ability to repay the loan may be impaired. In addition, many of the Company’s commercial real estate loans are not fully amortizing and contain large balloon payments upon maturity. Such balloon payments may require the borrower to either sell or refinance the underlying property in order to make the payment.

     Repayment of the Company’s commercial business loans is often dependent on the cash flows of the borrower, which may be unpredictable, and the collateral securing these loans may fluctuate in value. At December 31, 2002, commercial business loans totaled $19.2 million, or 7.6%, of the Company’s total loan portfolio. The Company’s commercial business loans are primarily made based on the identified cash flow of the borrower and secondarily on the underlying collateral provided by the borrower. Most often, this collateral consists of accounts receivable, inventory or equipment. Credit support provided by the borrower for most of these loans and the probability of repayment is based on the liquidation of the pledged collateral and enforcement of a personal guarantee, if any exists. As a result, in the case of loans secured by accounts receivable, the availability of funds for the repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts due from its customers. The collateral securing other loans may depreciate over time, may be difficult to appraise and may fluctuate in value based on the success of the business.

     The Company’s construction loans are based upon estimates of costs and values associated with the complete project. These estimates may be inaccurate. At December 31, 2002, construction loans totaled $110.2 million, or 43.4%, of the Company’s total loan portfolio. Construction lending involves additional risks when compared with permanent residential lending because funds are advanced upon the security of the project, which is of uncertain value prior to its completion. Because of the uncertainties inherent in estimating construction costs, as well as the market value of the completed project and the effects of governmental regulation of real property, it is relatively difficult to evaluate accurately the total funds required to complete a project and the related loan-to-value ratio. As a result, construction loans often involve the disbursement of substantial funds with repayment dependent, in part, on the success of the ultimate project and the ability of the borrower to sell or lease the property or obtain permanent take-out financing, rather than the ability of the borrower or guarantor to repay principal and interest. If the Company’s appraisal of the value of the completed project is inaccurate, it may not have adequate security for the repayment of the loan upon completion of construction of the project and may incur a loss.

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     The Company’s allowance for loan losses may prove to be insufficient to absorb probable losses inherent in its loan portfolio.

     Like all financial institutions, every loan the Company makes carries a certain risk that it will not be repaid in accordance with its terms or that any collateral securing it will not be sufficient to assure repayment. This risk is affected by, among other things:

	•		cash flow of the borrower and/or the project being financed;
	•		in the case of a collateralized loan, the changes and uncertainties as to the future value of the collateral;
	•		the credit history of a particular borrower;
	•		changes in economic and industry conditions; and
	•		the duration of the loan.

     The Company maintains an allowance for loan losses which it believes is appropriate to provide for any probable losses inherent in its loan portfolio. The amount of this allowance is determined by management through a periodic review and consideration of several factors.

     At December 31, 2002, the Company’s allowance for loan losses as a percentage of total loans was 1.2%. Regulatory agencies, as an integral part of their examination process, review the Company’s loans and allowance for loan losses. Although the Company believes its loan loss allowance is adequate to absorb probable losses in its loan portfolio, the Company cannot predict these losses or whether its allowance will be adequate or that regulators will not require it to increase this allowance. Any of these occurrences could materially and adversely affect the Company’s business, financial condition, prospects and profitability.

     The Company’s business is subject to general economic risks that could adversely impact its results of operations and financial condition.

     Changes in economic conditions, particularly an economic slowdown in California, could hurt the Company’s business. The Company’s business is directly affected by political and market conditions, broad trends in industry and finance, legislative and regulatory changes, changes in governmental monetary and fiscal policies and inflation, all of which are beyond the Company’s control. A deterioration in economic conditions, in particular an economic slowdown within California, could result in the following consequences, any of which could hurt the Company’s business materially:

	•		loan delinquencies may increase;
	•		problem assets and foreclosures may increase;
	•		demand for the Company’s products and services may decline; and
	•		collateral for loans made by the Company, especially real estate, may decline in value, in turn reducing a client’s borrowing power, and reducing the value of assets and collateral associated with its loans held for investment.

     A downturn in the California real estate market could hurt its business. The Company’s business activities and credit exposure are concentrated in California. A downturn in the California real estate market could hurt the Company’s business because many of its loans are secured by real estate located within California. As of December 31, 2002, approximately 98% of the Company’s loans held for investment consisted of loans secured by real estate located in California. If there is a significant decline in real estate values, especially in California, the collateral for the Company’s loans will provide less security. As a result, the Company’s ability to recover on defaulted loans by selling the underlying real estate would be diminished, and the Company would be more likely to suffer losses on defaulted loans. Real estate values in California could be affected by, among other things, earthquakes and other natural disasters particular to California.

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     The Company may suffer losses in its loan portfolio despite its underwriting practices. The Company seeks to mitigate the risks inherent in its loan portfolio by adhering to specific underwriting practices. These practices include analysis of a borrower’s prior credit history, financial statements, tax returns and cash flow projections, valuation of collateral based on reports of independent appraisers and verification of liquid assets. Although the Company believes that its underwriting criteria are appropriate for the various kinds of loans the Company makes, the Company may incur losses on loans that meet its underwriting criteria, and these losses may exceed the amounts set aside as reserves in its allowance for loan losses.

     The Company’s business is subject to interest rate risk and variations in interest rates may negatively affect its financial performance.

     Like other financial institutions, the Company’s operating results are largely dependent on its net interest income. Net interest income is the difference between interest earned on loans and securities and interest expense incurred on deposits and borrowings. The Company’s net interest income is impacted by changes in market rates of interest, the interest rate sensitivity of its assets and liabilities, prepayments on its loans and securities and limits on increases in the rates of interest charged on its loans. The Company expects that it will continue to realize income from the differential or “spread” between the interest earned on loans, securities and other interest-earning assets, and interest paid on deposits, borrowings and other interest-bearing liabilities. Net interest spreads are affected by the difference between the maturities and repricing characteristics of interest-earning assets and interest-bearing liabilities.

     The Company cannot control or accurately predict changes in market rates of interest. The following are some factors that may affect market interest rates, all of which are beyond the Company’s control:

	•		inflation;
	•		slow or stagnant economic growth or recession;
	•		unemployment;
	•		money supply and the monetary policies of the Federal Reserve Board;
	•		international disorders; and
	•		instability in domestic and foreign financial markets.

     The Company is vulnerable to an increase in interest rates because its interest-earning assets generally have longer maturities than its interest-bearing liabilities. Under such circumstances, material and prolonged increases in interest rates will negatively affect the Company’s net interest income. In addition, loan volume and yields are affected by market interest rates on loans, and rising interest rates generally are associated with a lower volume of loan originations. In addition, an increase in the general level of interest rates may adversely affect the ability of certain borrowers to pay the interest on and principal of their obligations. Accordingly, changes in levels of market interest rates could materially and adversely affect the Company’s net interest spread, asset quality, loan origination volume, securities portfolio, and overall profitability. Although the Company attempts to manage its interest rate risk, the Company cannot assure you that it can minimize its interest rate risk.

     The Company’s ability to service its debt, pay dividends, and otherwise pay its obligations as they come due is substantially dependent on capital distributions from the Bank, and these distributions are subject to regulatory limits and other restrictions.

     A substantial source of the Company’s income from which it services its debt, pays its obligations and from which it can pay dividends is the receipt of dividends from the Bank. The availability of dividends from the Bank is limited by various statutes and regulations. It is possible, depending upon the financial condition of the Bank, and other factors, that the applicable regulatory authorities could assert that payment of dividends or other payments is an unsafe or unsound practice. In the event the Bank is unable to pay dividends to the Company, the Company may not be able to service its debt, pay its obligations or

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pay dividends on its common stock. The inability to receive dividends from the Bank would adversely affect the Company’s business, financial condition, results of operations and prospects.

     The Company is facing strong competition from other financial institutions, financial service companies and other organizations offering services similar to those offered by the Company, which could hurt its business.

     The Bank faces direct competition from a significant number of financial institutions, many with a state-wide or regional presence, and in some cases a national presence, in both originating loans and attracting deposits. The Bank’s primary competitors in its market areas are Bank of America, Wells Fargo, Citizen’s Business Bank, Foothill Independent Bank, PFF Bank, Washington Mutual, Union Bank of California and Bank of the West. Competition in originating loans comes primarily from other banks, mortgage companies and consumer finance institutions that make loans in the Bank’s primary market areas. Neither the Bank’s deposits or loans of any of its offices exceed 1% of the total loans or deposits of all financial institutions located in the counties in which that office is located. In addition, banks with larger capitalization and non-bank financial institutions that are not governed by bank regulatory restrictions have large lending limits and are better able to serve the needs of larger customers. Many of these financial institutions are also significantly larger and have greater financial resources than the Company or the Bank, have been in business for a long time and have established customer bases and name recognition. The Bank also faces substantial competition in attracting deposits from other banking institutions, money market and mutual funds, credit unions and other investment vehicles. The Bank competes for loans principally on the basis of interest rates and loan fees, the types of loans which it originates, and the quality of service which it provides to borrowers. The Bank’s ability to attract and retain deposits requires that it provide customers with competitive investment opportunities with respect to rate of return, liquidity, risk and other factors. To effectively compete, the Bank may have to pay higher rates of interest to attract deposits, resulting in reduced profitability. If the Bank is not able to effectively compete in its market area, its profitability may be negatively affected, limiting its ability to pay the Company dividends.

     The Company is subject to extensive regulation which could adversely affect its business.

     The Company’s operations are subject to extensive regulation by federal, state and local governmental authorities and are subject to various laws and judicial and administrative decisions imposing requirements and restrictions on part or all of its operations. The Company believes that it are in substantial compliance in all material respects with applicable federal, state and local laws, rules and regulations. Because the Company’s business is highly regulated, the laws, rules and regulations applicable to it are subject to regular modification and change. There are currently proposed various laws, rules and regulations that, if adopted, would impact its operations. If these or any other laws, rules or regulations are adopted in the future, they could make compliance much more difficult or expensive, restrict its ability to originate or sell loans, further limit or restrict the amount of commissions, interest or other charges earned on loans originated or sold by the Company or otherwise materially and adversely affect its business, financial condition, prospects or profitability.

Interest Rates and Differentials

     The Company’s earnings depend primarily upon the difference between the income it receives from its loan portfolio and investment securities and its cost of funds, principally interest paid on savings and time deposits. Interest rates charged on the Company’s loans are affected principally by the demand for loans, the supply of money available for lending purposes, and competitive factors. In turn, these factors are influenced by general economic conditions and other constraints beyond the Company’s control, such as governmental economic and tax policies, general supply of money in the economy, governmental budgetary actions, and the actions of the Federal Reserve Board. (See Item 1. Business – Effect of Government Policies and Recent Legislation.)

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Loan Portfolio

     The following table sets forth the amount of loans outstanding for each of the past five years.

[Additional columns below]

[Continued from above table, first column(s) repeated]

			December 31,
(Dollars in thousands)			1999				Percent				1998				Percent
Commercial and industrial			$	14,671				17.0			$	15,135				17.0
Real estate construction				6,602				7.6				3,825				4.3
Real estate mortgage:
	Commercial			36,181				41.8				34,874				39.1
	Residential			9,189				10.6				8,327				9.3
Installment loans to individuals				18,852				21.8				24,835				27.8
Loans held for sale				835				1.0				2,178				2.4
All other loans (including overdrafts)				170				0.2				92				0.1
				86,500				100.0				89,266				100.0
Less:
Unearned income				(783	)							(1,333	)
Allowance for possible loan losses				(764	)							(686	)
Total Net Loans			$	84,953							$	87,247

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     The Company’s loan portfolio increased 84% in 2002 as compared to 2001, primarily due to the significant growth in real estate construction and commercial real estate loans. The Company’s business development efforts, which began in early 2001and continued through 2002, were focused on the expansion of its real estate construction lending, with the introduction of higher-end market single family construction lending in early 2001 and single family tract construction in late 2002. The higher-end market single family constructions are geographically concentrated in the coastal communities of Los Angeles and Orange Counties of California, where loan commitments are in the $750,000 to $2.0 million range. In 2002, gross commitments generated for this loan product were in excess of $180.0 million with loan fees in excess of $2.5 million. The projected equilibrium level for this product is in excess of $100.0 million in funded loan balances as new commitments are generated and existing constructions are completed. The Bank also originates single family tract construction loans. These loans typically are made on houses that sell in the range of $200,000 to $300,000. The Bank began offering this product in late 2002 with expected annual production commitments in excess of $250.0 million and targeted loan requests between $3.0 million and $7.5 million. The projected equilibrium level for this product is in excess of $75.0 million in funded loan balances. Single family tract construction loans typically have shorter terms than the Bank’s other loan products. Approximately 94% of such loans originated by the Bank will mature within one year and 6% will mature within two years, as of December 31, 2002.

     Within the Bank’s real estate mortgage portfolio, the predominant concentration is on commercial real estate loans which typically represent long-term financing for commercial buildings. Of these commercial real estate loans as of December 31, 2002, approximately 7% mature within one year, 17% mature within one to five years, and 76% in five to ten years, on average.

     The Bank also provides one-to-four family residential real estate financing for shorter duration than traditional mortgage loans. This category includes equity lines of credit, first trust deeds, and junior lien loans. As of December 31, 2002, approximately 27% of such loans mature within one year, 5% mature from within one to five years, and 68% mature over five years.

     In late 2002, the Bank began its SBA lending division to expand on its commercial and business banking product lines. SBA loans are generally made pursuant to a federal government program designed to assist small businesses in obtaining financing. The federal government guarantees SBA loans as an incentive for financial institutions to make loans to small businesses. The Bank’s origination of SBA loans is expected to be between $30.0 million and $50.0 million per year. Intended sales of the guaranteed portion of the SBA loan is approximately 75% of the originated balance at a premium sale price between 105% and 110%.

     The Bank concentrates its commercial and real estate lending in its immediate market area where economic conditions trends are closely monitored.

     Residential real estate loans held for sale represent loans sold either immediately or within a few weeks as a “pass through” to long term mortgage lenders, resulting in fee income to the Bank.

     The Bank also originates installment loans, which are loans to individuals consisting primarily of personal loans, automobile loans and individual lines of credit. Installment loans declined by 32% in 2002 as compared to 2001 as the Bank moved away from indirect and dealer loans beginning in 2000, concentrating on direct lending to its core customer base. Installment loans continue to provide traditional high fixed rate loans with a steady stream of regular income, with low risk, due to many more loans in smaller denominations.

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Maturities and Sensitivities to Interest Rates

     The following table shows the maturities and sensitivities to changes in interest rates on loans outstanding, net of loan fees, at December 31, 2002.