STERLING FINANCIAL CORP /PA/ - 10-K Annual Report

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UNITED STATES SECURITIES AND EXCHANGE COMMISSION FORM 10-K
WASHINGTON, D. C. 20549

(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002

OR

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

FOR THE TRANSITION PERIOD FROM __________ TO __________

COMMISSION FILE NUMBER 0-16276
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STERLING FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)

PENNSYLVANIA 23-2449551
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)

101 NORTH POINTE BOULEVARD
LANCASTER, PENNSYLVANIA 17601-4133
(Address of principal executive offices) (Zip Code)

Registrant's Telephone number, including area code: (717) 581-6030

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

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

COMMON STOCK, PAR VALUE $5.00 PER SHARE
(Title of class)

Indicated by a 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 the 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. [ ]

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 the registrant is an accelerated filer (as
defined in Exchange Act Rule 126-2). Yes [X] No [ ]

The aggregate market value of the voting stock held by non-affiliates of
the Registrant at February 26, 2003, was approximately $351,890,000.

The number of shares of Registrant's Common Stock outstanding on February
26, 2003, was 16,923,069.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the 2003 Proxy Statement for the Registrant are incorporated by
reference into Part III of this report.

STERLING FINANCIAL CORPORATION

TABLE OF CONTENTS

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PART I

The management of Sterling Financial Corporation has made forward-looking
statements in this Annual Report on Form 10-K. These forward-looking statements
may be subject to risks and uncertainties. Forward-looking statements include
the information concerning possible or assumed future results of operations of
Sterling Financial Corporation and its wholly-owned subsidiaries, Bank of
Lancaster County, N.A., First National Bank of North East, Bank of Hanover and
Trust Company, HOVB Investment Company, T&C Leasing, Inc., Pennbanks Insurance
Company SPC, Sterling Financial Statutory Trust I, and Sterling Mortgage
Services, Inc. (inactive). The consolidated financial statements also include
Town & Country Leasing, LLC, Sterling Financial Trust Company and Equipment
Finance, Inc., all wholly-owned subsidiaries of Bank of Lancaster, N.A. When
words such as "believes," "expects," "anticipates," "may," "could," "should,"
"estimates" or similar expressions occur in this annual report, management is
making forward-looking statements.

Shareholders should note that many factors, some of which are discussed
elsewhere in this report, could affect the future financial results of Sterling
Financial Corporation and its subsidiaries, both individually and collectively,
and could cause those results to differ materially from those expressed in this
report. These risk factors include the following:

- Operating, legal and regulatory risks;

- Economic, political and competitive forces impacting our various lines of
business;

- The risk that our analysis of these risks and forces could be incorrect
and/or that the strategies developed to address them could be
unsuccessful;

- The possibility that increased demand or prices for Sterling's financial
services and products may not occur;

- Volatility in interest rates; and

- Other risks and uncertainties.

Sterling undertakes no obligation to publicly revise or update these
forward-looking statements to reflect events or circumstances that arise after
the date of this report. Readers should carefully review the risk factors
described in other documents Sterling files periodically with the Securities and
Exchange Commission, including Quarterly Reports on Form 10-Q and any Current
Reports on Form 8-K.

ITEM 1 -- BUSINESS

Sterling Financial Corporation

Sterling Financial Corporation is a $2.156 billion financial holding
company headquartered in Lancaster, Pennsylvania. Through its banking and
nonbanking subsidiaries, Sterling provides a full range of banking and financial
services to individuals and businesses, including commercial and retail banking,
leasing, commercial finance, wealth management and insurance.

Sterling's reportable segments are strategic business units that offer
different products and services, and include: 1) community banking and related
services, 2) leasing operations, and 3) commercial finance. They are managed
separately because each segment appeals to different markets and, accordingly
require different technology and marketing strategies.

The community-banking segment, which includes treasury functions and parent
company activity, provides financial services to consumer, businesses, and
governmental units in south central Pennsylvania and northeastern Maryland.
These services include providing various types of loans to customers, accepting
deposits, and other typical banking services. At December 31, 2002, the
community-banking segment represents approximately 88% of total assets, and
contributed approximately 75% of Sterling's net income for the year ended
December 31, 2002.

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Sterling's leasing segment, provides vehicle and equipment financing
alternatives to business primarily located in south central Pennsylvania and
northern Maryland, although assets are located throughout the United States. At
December 31, 2002, the leasing segment represents approximately 7% of total
assets, and contributed approximately 7% of Sterling's net income for the year
ended December 31, 2002.

The commercial finance segment is new to Sterling in 2002, and specializes
in financing forestry and land-clearing equipment through more than 150
equipment dealer locations ranging from Maine to Florida. At December 31, 2002,
the commercial finance segment represents approximately 5% of total assets, and
contributed approximately 17% of Sterling's net income for the year ended
December 31, 2002.

In addition to the three reportable segments, Sterling also provides trust
and wealth management services to business and individual customers, and has
entered into certain insurance related ventures. These segments do not meet the
criteria for separate segment reporting, although they will be discussed in this
Form 10-K.

Sterling's operations are conducted through its primary operating
subsidiaries including Bank of Lancaster County, N.A., Bank of Hanover and Trust
Company, First National Bank of North East, Town & Country Leasing, LLC,
Sterling Financial Trust Company, and Equipment Finance, Inc. The Company's
market area includes its 52 branch banking offices in south central Pennsylvania
and northern Maryland, although, through its leasing and commercial finance
subsidiaries, it conducts business throughout the continental United States,
which are discussed in greater detail below.

Sterling's major source of operating funds is dividends received from its
subsidiary banks. Sterling's expenses are primarily operating expenses.
Dividends that Sterling pays to shareholders consist, in part, of dividends
declared and paid to Sterling by the subsidiary banks.

Sterling and its subsidiaries do not have any portion of their businesses
dependent on a single or limited number of customers, the loss of which would
have material adverse effect on their businesses. No substantial portion of
their loans or investments are concentrated within a single industry or group of
related industries, although a significant amount of loans are secured by real
estate located in south central Pennsylvania, and northern Maryland and its loan
exposure to the forestry industry is approximately 8%. The businesses of
Sterling and its subsidiaries are not seasonal in nature.

The common stock of Sterling is listed on The NASDAQ Stock Market under the
symbol SLFI.

Banking Subsidiaries

Bank of Lancaster County, N.A.

Bank of Lancaster County, N.A., a national bank chartered under the
National Bank Act, provides financial service products to its individual and
business customers. Bank of Lancaster County is regulated by the Office of the
Comptroller of the Currency. The bank's principal market area is Lancaster
County, Pennsylvania, which is the sixth largest county in Pennsylvania in terms
of population. Lancaster County has one of the strongest and most stable
economies in the state, with agriculture, industry and tourism all contributing
to the overall strength of the economy. No single sector dominates the county's
economy. At December 31, 2002, Bank of Lancaster County had total assets of
$1.316 billion, net loans of $815 million and total deposits of $1.068 billion.

The main office of the bank is located at 1 East Main Street, Strasburg,
Pennsylvania. In addition to its main office, the bank has 29 branches in
Lancaster County, 1 branch in Chester County and 2 branches in Lebanon County
(operating as Bank of Lebanon County). Bank of Lancaster County also delivers
its services to its customers through its ATM network, the Internet and
telephone banking.

Bank of Lancaster County has three directly owned non-bank operating
subsidiaries, Town & County Leasing, LLC, Sterling Financial Trust Company, and
Equipment Finance, Inc.

Town & County Leasing, LLC, is a national lessor in fleet management and
equipment leasing industry. Its principal office is located in East Petersburg,
Pennsylvania. Its customers are primarily headquartered in Pennsylvania and
surrounding states. Through its customers' branch offices, Town & Country
conducts

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business throughout the continental United States. Assets were $164 million at
December 31, 2002, including approximately $96 million in net finance lease
assets, and $61 million in assets held for operating leases.

In 2001, Sterling Financial Trust Company was incorporated as a
Pennsylvania trust company. Effective January 1, 2002, the wealth management
divisions of Bank of Lancaster County and Bank of Hanover were combined into
this single entity. Through the formation of a separate trust company, Sterling
proposes it will be able to increase revenue generation opportunities, while
increasing operating efficiencies.

On February 28, 2002, Sterling acquired Equipment Finance, Inc. (EFI); a
Lancaster based commercial finance company. EFI specializes in financing
forestry and land clearing equipment through more that 150 equipment dealer
locations ranging from Maine to Florida. Assets were $122 million at December
31, 2002, including approximately $102 million of net finance receivables.

On May 18, 1999, Bank of Lancaster County, N.A. and Murray Insurance
Associates, Inc. formed Lancaster Insurance Group, LLC, a Pennsylvania limited
liability company. Lancaster Insurance Group offers comprehensive personal
insurance coverages as well as, a complete range of business insurance programs.
The Bank of Lancaster County and Murray each own 50% of the organization.

The bank is subject to regulation and periodic examination by the Office of
the Comptroller of the Currency. The Federal Deposit Insurance Corporation, as
provided by law, insures the bank's deposits.

First National Bank of North East

On June 15, 1999, Sterling Financial Corporation acquired Northeast
Bancorp, Inc., the parent company of First National Bank of North East,
Maryland. The main office of the bank is at 14 South Main Street, North East,
Maryland. In addition to the main office, there are three branches located in
Cecil County, Maryland. First National also delivers its services through its
ATM network, the Internet and telephone banking. At December 31, 2002, the bank
had total assets of approximately $111 million, net loans of $77 million and
total deposits of $100 million.

The bank is subject to regulation and periodic examination of the Office of
the Comptroller of the Currency. The Federal Deposit Insurance Corporation, as
provided by law, insures the bank's deposits.

Bank of Hanover and Trust Company

On July 27, 2000, Sterling completed its merger with Hanover Bancorp, Inc.,
and its direct subsidiary, Bank of Hanover and Trust Company. Bank of Hanover
became a wholly-owned subsidiary of Sterling, and is a Pennsylvania chartered
institution.

Bank of Hanover conducts its business principally through fourteen banking
offices located in York and Adams Counties, Pennsylvania and two offices located
in Caroll County, Maryland. Bank of Hanover also has an ATM network, Internet
and telephone banking. At December 31, 2002, the bank had total assets of $660
million, net loans of $381 million and total deposits of $543 million.

The bank is subject to regulation and periodic examination by the Federal
Deposit Insurance Corporation and Pennsylvania Department of Banking. The
Federal Deposit Insurance Corporation, as provided by law, insures the bank's
deposits.

Nonbanking Subsidiaries

HOVB Investment Company

HOVB Investment Company, a direct subsidiary of Hanover Bancorp, Inc;
became a subsidiary of Sterling's at the completion of its merger with Hanover
Bancorp, Inc. HOVB is a Delaware investment company whose principal activity is
managing an equity securities portfolio. Total assets were $7.0 million at
December 31, 2002.

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T&C Leasing, Inc.

Sterling owns all of the outstanding stock of a second leasing company, T&C
Leasing, Inc. T&C Leasing was incorporated in 1998. T&C Leasing is a fleet
management and equipment leasing company and is headquartered in East
Petersburg, Pennsylvania. T&C Leasing facilitates the fleet management and
equipment leasing needs of Sterling's existing customer base.

Pennbanks Insurance Co., SPC Segregated Portfolio Cells #5 and #8

Pennbanks Insurance Co., SPC and its segregated portfolios, including
Segregated Portfolios #5 and #8 that Sterling owns, holds an unrestricted Class
"B" Insurer's License under Cayman Island Insurance Law. The segregated
portfolios are engaged in the business of reinsuring credit life and credit
accident and disability risks of their respective shareholders. Total assets of
the segregated portfolios as of December 31, 2002, totaled $1.8 million.

Sterling Financial Statutory Trust I

On March, 2002, Sterling completed a public offering of $20 million of
floating rate Trust Preferred Securities. These securities were issued by
Sterling Financial Statutory Trust I, business trust subsidiary of Sterling.
Proceeds of the offering were invested in Sterling through Sterling's issuance
of subordinated debentures to Sterling Financial Statutory Trust I, expanding
Sterling's capital base.

Note 12 of the Notes to Consolidated Financial Statements included at Item
8 of this Report includes additional information on Sterling's Trust Preferred
Securities, and is incorporated by reference in this Item 1.

COMPETITION

The financial services industry in Sterling's market area is highly
competitive, including competition from commercial banks, savings banks, credit
unions, finance companies and nonbank providers of financial services. Several
of Sterling's competitors have legal lending limits that exceed Sterling's
subsidiaries, as well as funding sources in the capital markets that exceeds
Sterling's availability. The increased competition has resulted from a changing
legal and regulatory climate, as well as from the economic climate.

ENVIRONMENTAL COMPLIANCE

Sterling's and its subsidiaries' compliance with federal, state and local
environmental protection laws had no material effect on capital expenditures,
earnings or their competitive position in 2002, and is not expected to have a
material effect on such expenditures, earnings or competitive position in 2003.

SUPERVISION AND REGULATION

Bank holding companies and banks operate in a highly regulated environment
and are regularly examined by Federal and State regulatory authorities.

The following discussion concerns various Federal and State laws and
regulations and the potential impact of such laws and regulations on Sterling
and its subsidiaries.

To the extent that the following information describes statutory or
regulatory provisions, it is qualified in its entirety by reference to the
particular statutory or regulatory provisions themselves. Proposals to change
laws and regulations are frequently introduced in Congress, the state
legislatures, and before the various bank regulatory agencies Sterling cannot
determine the likelihood or timing of any such proposals or legislation or the
impact they may have on Sterling and its subsidiaries. A change in law,
regulations or regulatory policy may have a material effect on the business of
Sterling and its subsidiaries.

Bank Holding Company Regulation

Sterling is a financial holding company and, as such, is subject to the
regulations of the Board of Governors of the Federal Reserve System under the
Bank Holding Company Act of 1956. Bank holding
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companies are required to file periodic reports with and are subject to
examination by the Federal Reserve. The Federal Reserve has issued regulations
under the Bank Holding Company Act that require a financial holding company to
serve as a source of financial and managerial strength to its subsidiary banks.
As a result, the Federal Reserve may require Sterling to stand ready to use its
resources to provide adequate capital funds to the banks during periods of
financial stress or adversity.

Under the Bank Holding Company Act, the Federal Reserve may require a
financial holding company to end a non-banking business, if the nonbanking
business constitutes a serious risk to the financial soundness and stability of
any bank subsidiary of the bank holding company.

The Bank Holding Company Act prohibits Sterling from acquiring direct or
indirect control of more than 5% of the outstanding voting stock of any bank, or
substantially all of the assets of any bank, or merger with another bank holding
company, without the prior approval of the Federal Reserve. The Bank Holding
Company Act allows interstate bank acquisitions and interstate branching by
acquisition and consolidation in those states that had not elected out by the
required deadline. The Pennsylvania Department of Banking also must approve any
similar consolidation. Pennsylvania law permits Pennsylvania financial holding
companies to control an unlimited number of banks.

In addition, the Bank Holding Company Act restricts Sterling's nonbanking
activities to those that are determined by the Federal Reserve Board to be
financial in nature, incidental to such financial activity, or complementary to
a financial activity. The Bank Holding Company Act does not place territorial
restrictions on the activities of nonbank subsidiaries of financial holding
companies.

The Federal Deposit Insurance Corporation Improvement Act requires a bank
holding company to guarantee the compliance of any insured depository
institution subsidiary that may become "undercapitalized", as defined by
regulations, with the terms of any capital restoration plan filed by such
subsidiary with its appropriate federal banking agency, up to specified limits.

Financial Services Modernization Legislation

In November 1999, the Gramm-Leach-Bliley Act of 1999, or the GLB, was
enacted. The GLB repeals provisions of the Glass-Steagall Act which restricted
the affiliation of Federal Reserve member banks with firms "engaged principally"
in specified securities activities, and which restricted officer, director or
employee interlocks between a member bank and any company or person "primarily
engaged" in specified securities activities.

In addition, the GLB also contains provisions that expressly preempt any
state law restricting the establishment of financial affiliations, primarily
related to insurance. The general effect of the law is to establish a
comprehensive framework to permit affiliations among commercial banks, insurance
companies, securities firms and other financial service providers by revising
and expanding the Bank Holding Company Act framework to permit a holding company
to engage in a full range of financial activities through a new entity known as
a "financial holding company." "Financial activities" is broadly defined to
include not only banking, insurance and securities activities, but also merchant
banking and additional activities that the Federal Reserve Board, in
consultation with the Secretary of the Treasury, determines to be financial in
nature, incidental to such financial activities or complementary activities that
do not pose a substantial risk to the safety and soundness of depository
institutions or the financial system generally.

The GLB also permits national banks to engage in expanded activities
through the formation of financial subsidiaries. A national bank may have a
subsidiary engaged in any activity authorized for national banks directly or any
financial activity, except for insurance underwriting, insurance investments,
real estate investment or development, or merchant banking, which may only be
conducted through a subsidiary of a financial holding company. Financial
activities include all activities permitted under new sections of the Bank
Holding Company Act or permitted by regulation.

To the extent that the GLB permits banks, securities firms and insurance
companies to affiliate, the financial services industry may experience further
consolidation. The GLB is intended to grant to community banks certain powers as
a matter of right that larger institutions have accumulated on an ad hoc basis
and
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which unitary savings and loan holding companies already possess. Nevertheless,
the GLB may have the result of increasing the amount of competition that the
Registrant faces from larger institutions and other types of companies offering
financial products, many of which may have substantially more financial
resources than the Registrant has.

Sarbanes-Oxley Act of 2002

On July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of
2002, or the SOA. The stated goals of the SOA are to increase corporate
responsibility, to provide for enhanced penalties for accounting and auditing
improprieties at publicly traded companies and to protect investors by improving
the accuracy and reliability of corporate disclosures pursuant to the securities
laws.

The SOA is the most far-reaching U.S. securities legislation enacted in
some time. The SOA generally applies to all companies, both U.S. and non-U.S.,
that file or are required to file periodic reports with the Securities and
Exchange Commission (the "SEC") under the Securities Exchange Act of 1934, or
the Exchange Act. Given the extensive SEC role in implementing rules relating to
many of the SOA's new requirements, the final scope of these requirements
remains to be determined.

The SOA includes very specific additional disclosure requirements and new
corporate governance rules, requires the SEC and securities exchanges to adopt
extensive additional disclosure, corporate governance and other related rules
and mandates further studies of certain issues by the SEC. The SOA represents
significant federal involvement in matters traditionally left to state
regulatory systems, such as the regulation of the accounting profession, and to
state corporate law, such as the relationship between a board of directors and
management and between a board of directors and its committees.

The SOA addresses, among other matters:

- audit committees for all reporting companies;

- certification of financial statements by the chief executive officer and
the chief financial officer;

- the forfeiture of bonuses or other incentive-based compensation and
profits from the sale of an issuer's securities by directors and senior
officers in the twelve month period following initial publication of any
financial statements that later require restatement;

- a prohibition on insider trading during pension plan black out periods;

- disclosure of off-balance sheet transactions;

- a prohibition on personal loans to directors and officers; expedited
filing requirements for Forms 4's;

- disclosure of a code of ethics and filing a Form 8-K for a change or
waiver of such code;

- "real time" filing of periodic reports;

- the formation of a public accounting oversight board;

- auditor independence; and

- various increased criminal penalties for violations of securities laws.

The SOA contains provisions which became effective upon enactment on July
30, 2002 and provisions which will become effective from within 30 days to one
year from enactment. The SEC has been delegated the task of enacting rules to
implement various provisions with respect to, among other matters, disclosure in
periodic filings pursuant to the Exchange Act.

USA Patriot Act of 2001

In October 2001, the USA Patriot Act of 2001 was enacted in response to the
terrorist attacks in New York, Pennsylvania and Washington D.C. which occurred
on September 11, 2001. The Patriot Act is intended to strengthen U.S. law
enforcement's and the intelligence communities' abilities to work cohesively to
combat

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terrorism on a variety of fronts. The potential impact of the Patriot Act on
financial institutions of all kinds is significant and wide ranging. The Patriot
Act contains sweeping anti-money laundering and financial transparency laws and
imposes various regulations, including standards for verifying client
identification at account opening, and rules to promote cooperation among
financial institutions, regulators and law enforcement entities in identifying
parties that may be involved in terrorism or money laundering.

Regulation W

Transactions between a bank and its "affiliates" are quantitatively and
qualitatively restricted under the Federal Reserve Act. The Federal Deposit
Insurance Act applies Sections 23A and 23B to insured nonmember banks in the
same manner and to the same extent as if they were members of the Federal
Reserve System. The Federal Reserve Board has also recently issued Regulation W,
which codifies prior regulations under Sections 23A and 23B of the Federal
Reserve Act and interpretative guidance with respect to affiliate transactions.
Regulation W incorporates the exemption from the affiliate transaction rules but
expands the exemption to cover the purchase of any type of loan or extension of
credit from an affiliate. Affiliates of a bank include, among other entities,
the bank's holding company and companies that are under common control with the
bank. The company is considered to be an affiliate of the Bank. In general,
subject to certain specified exemptions, a bank or its subsidiaries are limited
in their ability to engage in "covered transactions" with affiliates:

- to an amount equal to 10% of the bank's capital and surplus, in the case
of covered transactions with any one affiliate; and

- to an amount equal to 20% of the bank's capital and surplus, in the case
of covered transactions with all affiliates.

In addition, a bank and its subsidiaries may engage in covered transactions
and other specified transactions only on terms and under circumstances that are
substantially the same, or at least as favorable to the bank or its subsidiary,
as those prevailing at the time for comparable transactions with nonaffiliated
companies. A "covered transaction" includes:

- a loan or extension of credit to an affiliate;

- a purchase of, or an investment in, securities issued by an affiliate;

- a purchase of assets from an affiliate, with some exceptions;

- the acceptance of securities issued by an affiliate as collateral for a
loan or extension of credit to any party; and

- the issuance of a guarantee, acceptance or letter of credit on behalf of
an affiliate.

In addition, under Regulation W:

- a bank and its subsidiaries may not purchase a low-quality asset from an
affiliate;

- covered transactions and other specified transactions between a bank or
its subsidiaries and an affiliate must be on terms and conditions that
are consistent with safe and sound banking practices; and

- with some exceptions, each loan or extension of credit by a bank to an
affiliate must be secured by collateral with a market value ranging from
100% to 130%, depending on the type of collateral, of the amount of the
loan or extension of credit.

Regulation W generally excludes all non-bank and non-savings association
subsidiaries of banks from treatment as affiliates, except to the extent that
the Federal Reserve Board decides to treat these subsidiaries as affiliates.

Concurrently with the adoption of Regulation W, the Federal Reserve Board
has proposed a regulation which would further limit the amount of loans that
could be purchased by a bank from an affiliate to not more than 100% of the
bank's capital and surplus.

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Dividends

Sterling is a legal entity separate and distinct from the subsidiary banks
and nonbank subsidiaries. Sterling's revenues, on a parent company only basis,
result almost entirely from dividends paid to the corporation by its
subsidiaries. Federal and state laws regulate the payment of dividends by
Sterling's subsidiaries. See "Supervision and Regulation - Regulation of the
Banks," below.

Further, it is the policy of the Federal Reserve that bank holding
companies should pay dividends only out of current earnings. Federal banking
regulators also have the authority to prohibit banks and bank holding companies
from paying a dividend if they should deem such payment to be an unsafe or
unsound practice.

FDIC Insurance

The subsidiary banks are subject to Federal Deposit Insurance Corporation
assessments. The FDIC has adopted a risk-related premium assessment system for
both the Bank Insurance Fund for banks and the Savings Association Insurance
Fund for savings associations. Under this system, FDIC insurance premiums are
assessed based on capital and supervisory measures.

Under the risk-related premium assessment system, the FDIC, on a semiannual
basis, assigns each institution to one of three capital groups, "well
capitalized," "adequately capitalized," or "undercapitalized," and further
assigns such institution to one of three subgroups within a capital group
corresponding to the FDIC's judgment of its strength based on supervisory
evaluations, including examination reports, statistical analysis, and other
information relevant to gauging the risk posed by the institution. Only
institutions with a total risk-based capital to risk-adjusted assets ratio of
10% or greater, a Tier 1 capital to risk-adjusted assets ratio of 6% or greater,
and a Tier 1 leverage ratio of 5% or greater, are assigned to the well
capitalized group. Sterling and its subsidiary banks, at December 31, 2002,
qualify as "well capitalized" under these regulatory standards.

Regulation of Banks

The operations of the subsidiary banks are subject to the federal and state
statutes applicable to banks chartered under the banking laws of the United
States, to members of the Federal Reserve System, and to banks whose deposits
are insured by the FDIC. The banks' operations are also subject to regulations
of the Office of the Comptroller of the Currency, the Federal Reserve, the FDIC,
and the Pennsylvania Department of Banking.

The Office of the Comptroller of the Currency, which as primary supervisory
authority over national banks, and the FDIC which is the primary regulator of
the state chartered bank, regularly examines banks in such areas as reserves,
loans, investments, management practices, and other aspects of operations. These
examinations are designed for the protection of the banks' depositors rather
than Sterling's shareholders. The subsidiary banks must file quarterly and
annual reports to the FDIC.

The National Bank Act requires the subsidiary national banks to obtain the
prior approval of the Office of the Comptroller of the Currency for the payment
of dividends if the total of all dividends declared by the banks in one year
would exceed the banks' net profits, as defined and interpreted by regulation,
for the two preceding years, less any required transfers to surplus. In
addition, the banks may only pay dividends to the extent that their retained net
profits, including the portion transferred to surplus, exceed statutory bad
debts, as defined by regulation. Under Pennsylvania statutes, state chartered
banks are restricted, unless prior regulatory approval is obtained, in the
amount of dividends, which it may declare in relation to its accumulated
profits, less any required transfer to surplus. These restrictions have not had,
nor are they expected to have any impact on the corporation's dividend policy
Under the Federal Deposit Insurance Corporation Insurance Act of 1991, any
depository institution, including the banks are prohibited from paying any
dividends, making other distributions or paying any management fees if, after
such payment it would fail to satisfy their minimum capital requirement.

Sterling and its subsidiary banks are affected by the monetary and fiscal
policies of government agencies, including the Federal Reserve and FDIC. Through
open market securities transactions and changes in its
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discount rate and reserve requirements, the Board of Governors of the Federal
Reserve exerts considerable influence over the cost and availability of funds
for lending and investment. The nature of monetary and fiscal policies on future
business and earnings of Sterling cannot be predicted at this time.

Other

From time to time, various federal and state legislation is proposed that
could result in additional regulation of, and restrictions on, the business of
Sterling and the subsidiary banks, or otherwise change the business environment.
Management cannot predict whether any of this legislation will have a material
effect on the business of Sterling.

PRODUCTS AND SERVICES WITH REPUTATION RISK

Sterling and its subsidiaries offer a diverse range of financial and
banking products and services. In the event one or more customers and/or
governmental agencies become dissatisfied or object to any product or service
offered by Sterling or any of its subsidiaries negative publicity with respect
to any such product or service, whether legally justified or not, could have a
negative impact on Sterling's reputation. The discontinuance of any product or
service, whether or not any customer or governmental agency has challenged any
such product or service, could have a negative impact on Sterling's reputation.

EMPLOYEES

As of December 31, 2002, Sterling had 748 full-time equivalent employees.
None of these employees are represented by a collective bargaining agreement,
and Sterling believes it enjoys good relations with its personnel.

ITEM 2 -- PROPERTIES

Sterling Financial Corporation owns no real estate.

The Bank of Lancaster County in addition to its main office, had a branch
network of 33 offices and 2 off-site electronic ATM installations at December
31, 2002. All branches are located in Lancaster County with the exception of one
office located in Chester County and two offices located in Lebanon County.
Branches at 21 locations are occupied under leases and at three branches, the
bank owns the building, but leases the land.

In addition to the branch locations, Bank of Lancaster County owns a
building which houses its administrative service center as well as other support
groups of the subsidiary banks and Town & Country Leasing, LLC. Another building
is owned by Bank of Lancaster County, which serves as the corporate headquarters
of Sterling Financial Corporation and houses the executive offices of the
Corporation and the Bank, as well as a branch office. A certain amount of space
in each of the building is leased to third parties.

In addition to its main office located at 14 South Main Street, North East,
Maryland, First National Bank of North East owns the property for three other
branches in Cecil County.

In addition to its main office located at 25 Carlisle Street, Hanover,
Pennsylvania, Bank of Hanover operated 13 locations located in York and Adams
Counties, Pennsylvania with two offices located in Caroll County, Maryland.
Branches at 12 locations are occupied under leases.

All real estate owned by the subsidiary banks is free and clear of
encumbrances. The leases of the subsidiary banks expire intermittently over the
years through 2021 and most are subject to one or more renewal options. During
2002, aggregate annual rentals for real estate paid did not exceed 3% of the any
bank's operating expenses.

ITEM 3 -- LEGAL PROCEEDINGS

As of December 31, 2002, there were no material pending legal proceedings,
other than ordinary routine litigation incidental to the business, to which
Sterling or its subsidiaries are a party or by which any of their property is
the subject.
11

Various actions and proceedings arise out of routine operations and, in
management's opinion, will not have a material adverse effect on Sterling's
consolidated financial position or results of operations.

ITEM 4 -- SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

There were no matters submitted to a vote of security holders during the
fourth quarter of 2002.

PART II

ITEM 5 -- MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS

Sterling Financial Corporation's common stock trades on the NASDAQ Stock
Market under the symbol SLFI. There are 70,000,000 shares of common stock
authorized at December 31, 2002, and 16,900,569 shares outstanding. As of
December 31, 2002, Sterling had approximately 4,700 stockholders of record. At
the 2002 Annual Meeting, the shareholders approved an amendment to the Articles
of Incorporation and authorized the corporation to issue up to 10,000,000 shares
of preferred stock. At December 31, 2002, no shares of preferred stock were
issued. Sterling is restricted as to the amount of dividends that it can pay to
stockholders by virtue of the restrictions on the subsidiaries' ability to pay
dividends to Sterling.

The following table reflects the quarterly high and low prices of
Sterling's common stock for the periods indicated and the cash dividends
declared on the common stock for the periods indicated.

12

ITEM 6 -- SELECTED FINANCIAL DATA

- ---------------

(1) Calculated by taking dividends per share divided by basic earnings per
share.

(2) Excludes accumulated other comprehensive income (loss).

13

ITEM 7 -- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The following discussion provides management's analysis of the consolidated
financial condition and results of operations of Sterling Financial Corporation
and its wholly-owned subsidiaries, Bank of Lancaster County, N.A., First
National Bank of North East, Bank of Hanover and Trust Company, HOVB Investment
Co., T&C Leasing, Inc. (T&C), Pennbanks Insurance Company, SPC and Sterling
Mortgage Services, Inc. (inactive). The consolidated financial statements also
include Town & Country Leasing, LLC, Sterling Financial Trust Company and
Equipment Finance, Inc., all wholly-owned subsidiaries of Bank of Lancaster
County.

Management's discussion and analysis should be read in conjunction with the
audited financial statements and footnotes appearing elsewhere in this report
and is intended to assist in understanding and evaluating the major changes in
the financial condition and results of operations of the company with a primary
focus in Sterling's performance.

CRITICAL ACCOUNTING POLICIES

Sterling's consolidated financial statements are prepared in accordance
with accounting principles generally accepted in the United States and follow
general practices within the industries in which it operates. Application of
these principles requires management to make estimates, assumptions, and
judgments that affect the amounts reported in the financial statements and
accompanying notes. These estimates, assumptions, and judgments are based on
information available as of the date of the financial statements; accordingly,
as this information changes, the financial statements could reflect different
estimates, assumptions, and judgments. Certain policies inherently have a
greater reliance on the use of estimates, assumptions, and judgments and as such
have a greater possibility of producing results that could be materially
different than originally reported. Estimates, assumptions, and judgments are
necessary when assets and liabilities are required to be recorded at fair value,
when a decline in the value of an asset not carried on the financial statements
at fair value warrants an impairment write-down or valuation reserve to be
established, or when an asset or liability needs to be recorded contingent upon
a future event. Carrying assets and liabilities at fair value inherently results
in more financial statement volatility. The fair values and the information used
to record valuation adjustments for certain assets and liabilities are based
either on quoted market prices or are provided by other third-party sources,
when available. When third-party information is not available, valuation
adjustments are estimated in good faith by management primarily through the use
of internal cash flow modeling techniques.

The most significant accounting policies followed by Sterling are presented
in Note 1 to the consolidated financial statements. These policies, along with
the disclosures presented in the other financial statement notes and in this
financial review, provide information on how significant assets and liabilities
are valued in the financial statements and how those values are determined.
Based on the valuation techniques used and the sensitivity of financial
statement amounts to the methods, assumptions, and estimates underlying those
amounts, management has identified the determination of the allowance for loan
losses and the evaluation of goodwill impairment to be the accounting areas that
requires the most subjective or complex judgments, and as such could be most
subject to revision as new information becomes available.

The allowance for loan losses represents management's estimate of probable
credit losses inherent in the loan portfolio. Determining the amount of the
allowance for loan losses is considered a critical accounting estimate because
it requires significant judgment and the use of estimates related to the amount
and timing of expected future cash flows on impaired loans, estimated losses on
pools of homogeneous loans based on historical loss experience, and
consideration of current economic trends and conditions, all of which may be
susceptible to significant change. The loan portfolio also represents the
largest asset type on the consolidated balance sheet. Note 1 to the consolidated
financial statements describes the methodology used to determine the allowance
for loan losses.

With the adoption of SFAS No. 142 on January 1, 2002, Sterling is no longer
required to amortize goodwill resulting from business acquisitions. Goodwill is
now subject to impairment testing at least annually to determine whether
write-downs of the recorded balances are necessary. Sterling tests for
impairment based
14

on the goodwill maintained at each defined reporting unit. A fair value is
determined by an independent party using various market valuation methodologies.
If the fair values of the reporting units exceed their book values, no
write-downs of recorded goodwill is necessary. If the fair value of the
reporting unit is less, an expense may be required on Sterling's books to write
down the related goodwill to the proper carrying value. Sterling completed its
annual impairment testing and determined that no impairment write-offs were
necessary. No assurance can be given that future impairment tests will not
result in a charge to earnings.

Any material effect on the financial statements related to these critical
accounting areas is also discussed in this management discussion and analysis.

INFLATION AND INTEREST RATES

The majority of assets and liabilities of a financial institution are
monetary in nature and, therefore, differ greatly from most commercial and
industrial companies that have significant investments in fixed assets or
inventories. However, inflation does have an important impact on the growth of
total assets and on noninterest expenses, which tend to rise during periods of
general inflation. Inflationary pressures over the last few years have been
modest, although the potential for future inflationary pressure is always
present given changing trends in the economy.

Fluctuations in interest rates impact financial institutions far more than
inflationary factors. During 2002, the Federal Reserve lowered interest rates
only once - in November, which totaled 50 basis points (b.p.). The stability in
interest rates throughout 2002 was in sharp contrast to the previous two years.
During 2001, the Federal Reserve aggressively reduced interest rates during the
year in order to mitigate the effects of a slumping national economy. Interest
rates were cut eleven times during 2001, resulting in a reduction of the
prime-lending rate by 475 b.p. In 2000, interest rates were increased four
times, for a total of 100 b.p.

Management recognizes that asset/liability management, including the effect
of rate changes on interest earning assets and interest bearing liabilities, is
of critical importance.

RESULTS OF OPERATIONS

(All dollar amounts presented within tables are in thousands, except per
share data.)

OVERVIEW

Sterling's net income was $24,745,000, or $1.47 per diluted share, compared
to $20,334,000, or $1.29 per diluted share in 2001, and $16,567,000 or $1.06 per
diluted share in 2000. Included in reported net income for 2000 were after-tax
merger related restructuring charges of $2,264,000. This amount reduced diluted
earnings per share by $0.14 in 2000.

Returns on average realized equity were 14.47% in 2002, 14.41% in 2001, and
12.36% in 2000. Returns on average assets totaled 1.22% in 2002, 1.14% in 2001,
and 1.02% in 2000. Excluding merger related and restructuring charges in 2000,
return on average realized equity was 14.05%, and return on average assets was
1.16%.

NET INTEREST INCOME

The primary component of Sterling's revenue is net interest income, which
is the difference between interest income and fees on interest-earning assets
and interest expense on interest-bearing funds. Earning assets include loans,
securities and federal funds sold. Interest-bearing funds include deposits and
borrowed funds. To compare the tax-exempt yields to taxable yields, amounts are
adjusted to pretax equivalents based on a 35% federal corporate income tax rate.

Net interest income is affected by changes in interest rates, volume of
interest-bearing assets and liabilities and the composition of those assets and
liabilities. The "interest rate spread" and "net interest margin" are two common
statistics related to changes in net interest income. The interest rate spread
represents the difference between the yields earned on interest-earning assets
and the rates paid for interest-

15

bearing liabilities. The net interest margin is defined as the percentage of net
interest income to average earning assets. Due to demand deposits and
stockholders equity, the net interest margin exceeds the interest rate spread,
as these funding sources are non-interest bearing.

Table 1 presents net interest income on a fully taxable equivalent basis,
interest rate spread and net interest margin for the years ending December 31,
2002, 2001 and 2000. Table 2 analyzes the changes in net interest income for the
periods broken down by their rate and volume components.

Net interest income, on a tax equivalent basis, totaled $80,518,000 for
2002 (excluding the interest recovery on a charged-off loan), compared to
$64,295,000 in 2001 and $59,976,000 in 2000.

The increase in net interest income of $16,223,000 from 2001 to 2002
reflects both a 12.8% increase in the average balance of interest-earning assets
as well as a 43 basis point (b.p.) increase in net interest margin. Sterling's
newest subsidiary, Equipment Financing Inc., added $9,227,000 of this increase.

The increase in interest-earning assets came primarily in the form of
loans. Strong growth in the commercial loan portfolio, in part due to the
acquisition of EFI, contributed to this increase. Funding this growth in assets
were increases in both deposits and borrowings, maintaining a relatively
consistent mix of funding sources. In March 2002, Sterling participated in a
trust preferred issuance, raising $20 million. In addition, during the third
quarter of 2002, the corporation leveraged the proceeds of the trust preferred
by borrowing $26,250,000 from the Federal Home Loan Bank and initiated the
purchase of securities with these funds.

The increase in net interest margin from 2001 to 2002 marked a reversal in
a declining trend over the previous three years. The improving mix of earning
assets in the balance sheet to higher yielding assets, including the Equipment
Finance, Inc. receivables acquired, and the positive impact of generally
declining interest rates led to the increase in net interest margin. During the
two years from January 2001 to December of 2002, the Federal Reserve Bank
lowered the federal funds rate twelve times totaling 5.25%. This dramatic
decrease in short-term interest rates has resulted in a significant decrease in
the cost of funds for Sterling. The rate paid on interest bearing liabilities
declined 101 b.p. from 2001 to 2002 resulting from:

- The reduction of rates paid on deposit accounts;

- The maturing of higher rate deposits and borrowings;

- Deposit growth at low rates of interest;

- Less reliance on third-party borrowings to fund growth in both finance
and operating leases, which impacts the margin in two ways:

- Third-party borrowings tend to be more costly than average rates paid
on deposits; and

- The interest expense associated with funding attributed to the
operating lease portfolio increases interest expense but the revenues
earned on the operating leases are reported as rental income and thus
not interest income.

The rate earned on interest earning assets declined only 44 b.p.
reflecting:

- A lag in the effect of rapidly declining rates on loan and securities
portfolio yields due to the proportion of fixed rates of interest in the
portfolios;

- Growth in the loan portfolio, shifting the mix of earning assets. (This
growth also included the relatively higher margin on finance receivables
from the newly acquired Equipment Financing Inc. subsidiary); and

- Immediate decrease in rates of interest earned on federal funds sold,
other short-term investments and variable rate loans and securities.

16

TABLE 1 -- DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY INTEREST
RATES AND INTEREST DIFFERENTIAL-TAX EQUIVALENT YIELDS

Yields on tax-exempt assets have been computed on a fully taxable equivalent
basis assuming a 35% tax rate.

For yield calculation purposes, nonaccruing loans are included in the average
loan balance.

17

The increase in net interest income of $4,319,000 from 2000 to 2001 was
principally due to increases in average interest-earning assets, offset somewhat
by a declining net interest rate spread. Average earning assets grew 9.5% while
net interest margin declined 8 b.p.

Several factors had an impact on 2001's net interest margin:

- Rapidly falling interest rate environment during the year caused the
downward repricing of interest-earning assets more rapidly than
interest-bearing liabilities;

- Less profitable interest-earning mix, in which federal funds sold carried
significantly higher balances as the corporation tried to increase
liquidity to fund loan growth; and

- Increased reliance on third-party borrowings to fund both finance and
operating leases.

TABLE 2 -- ANALYSIS OF CHANGES IN NET INTEREST INCOME

The rate-volume variance analysis set forth in the table below, which is
computed on a taxable equivalent basis, compares changes in net interest income
for the periods indicated by their rate and volume components. The change in
interest income/expense due to both volume and rate has been allocated to change
in rate.

For yield calculation purposes, nonaccruing loans are included in the
average loan balances.

PROVISION FOR LOAN LOSSES

The provision for loan losses charged against earnings was $2,095,000 in
2002, compared to $1,217,000 in 2001 and $605,000 in 2000. Sterling adjusts the
provision for loan losses periodically as deemed necessary to maintain the
allowance at a level deemed to meet the risk characteristics of the loan
portfolio. The $878,000, or 72%, increase in the provision for loan losses
during 2002 compared to 2001, was reflective of increases in non-performing
loans and non-performing assets, increases in loans and leases outstanding,
changes in other factors that impact the inherent risks in the portfolio.

See further discussion in "Asset Quality" below.

18

NONINTEREST INCOME

Details of noninterest income follow:

TABLE 3 - NONINTEREST INCOME

Noninterest income was $44,806,000 for the year ended December 31, 2002, a
2.0 % increase over 2001. For the year ended December 31, 2001, noninterest
income was $43,925,000, an increase of 17.1 % over 2000 totals.

Income from fiduciary activities, which includes both institutional trust
and personal wealth management services, grew to $4,227,000 for the year ended
December 31, 2002, up from $4,166,000, or 1.5% in 2001 and $3,942,000 in 2000.
At December 31, 2002, Sterling had total assets under administration of
approximately $918 million compared to $980 million at the end of 2001 and $887
million at the end of 2000. These numbers include assets under management of
$671 million, $737 million, and $662 million at December 31, 2002, 2001 and
2000. The positive effects of new business development, which increased the
number of trust customers and related fees, offset the decline in fees resulting
from market declines that occurred in the past two years, and that had a
negative impact on fee-based income.

Management believes that wealth management business represents a continued
growth opportunity for the corporation. Through the formation of a separate
trust company, Sterling Financial Trust Company, Sterling believes it will be
able to increase revenue generation opportunities, while increasing operating
efficiencies.

Other service charges, commissions and fees were $5,156,000 in 2002, a
23.1% increase over 2001's total of $4,188,000. In the latter part of 2001,
Sterling entered into an agreement to partner with an independent securities
broker-dealer to grow mutual fund and annuity fee based commissions. As a result
of a more concentrated sales effort, combined with a more competitive commission
fee structure, mutual fund and annuity commissions have increased approximately
$690,000 over 2001. In addition, other service charges and fees have increased
due to continued growth in customer debit card usage and higher volumes of
customers enrolled in cash management programs. The increase in income noted
during 2001 and 2000 resulted from increased customer debit card usage and
higher volumes of customers enrolled in cash management programs.

Mortgage banking income was $3,103,000 in 2002, compared to $2,222,000 in
2001 and $834,000 in 2000. Mortgage banking income has been favorably influenced
by the trend noted in the financial services industry, which has seen an
increased volume of mortgage loan originations/refinancing during the past two
years, as interest rates have dropped significantly to 40-year lows. As a result
of the rate environment,

19

mortgage banking income increased throughout 2002, despite accelerated
amortization of mortgage servicing rights, and related impairment charges that
have resulted from faster prepayment speeds.

Rental income on operating leases has increased 5.9% from $24,319,000 in
2001 to $25,752,000 in 2002. This follows an increase of 9.6 % in 2001 over 2000
results. The increase in rental income is primarily due to an increase in the
number of units under operating leases, which were 6,214, 5,864, and 5,330 as of
December 31, 2002, 2001, and 2000. Sterling recognizes that leasing operations
represent a growth opportunity and has committed resources to expand this line
of business.

Other operating income was $2,038,000 for the year ended December 31, 2002,
an increase of $636,000, or 45.4%, over 2001's operating income of $1,402,000.
The increase in other income is primarily the result of the continued growth in
insurance related revenues which increased $125,000 over 2001, as well as
increased handling charges on the lease portfolio. The 2001 increase is
primarily attributable to the increased revenues generated from Sterling's
reinsurance credit life and disability activities that began in 2001.

Securities gains and losses, all from the available-for-sale portfolio, are
summarized as follows:

Gains and losses on debt securities are realized as part of ongoing
investment portfolio and balance sheet management strategies. In 2002, Sterling
experienced net losses on the debt security portfolio of $60,000, versus net
gains of $677,000 in 2001 and $155,000 in 2000.

Equity security gains and losses are generated primarily through Sterling's
equity portfolio of financial institution sector stocks. Net securities losses
on equities were $400,000 for the year ended December 31, 2002 versus securities
gains of $2,033,000 in 2001 and $536,000 in 2000. Gains are taken as the result
of ongoing asset liability management strategies, and capitalizing on
appreciated values on certain equity security portfolio positions. During 2002,
Sterling took approximately $1,160,000 in other than temporary impairment
charges in the financial institution portfolio, which has experienced
significant market declines in 2002. Offsetting the impairment charges were
$814,000 in securities gains realized.

20

NONINTEREST EXPENSE

Details of noninterest expense follow:

TABLE 4 - NONINTEREST EXPENSE

The largest component of noninterest expense is salaries and employee
benefits, which increased $5,870,000 or 18.9%, to $36,860,000 in 2002, after
increasing $3,211,000 or 11.6% in 2001. The increase in salaries and employee
benefits during 2002 is attributable to the following factors:

- Unusual expenses of $1,785,000 related to: the termination of the
qualified non-contributory pension plan of approximately $270,000,
severance arrangements of approximately $1,140,000, and $375,000 in
compensation expense related to the modification of terms on stock
options granted to severed employees. (No similar charges were taken in
2001);

- Normal merit increases to existing employees, coupled with replacing
positions at higher wages than previously earned;

- Increased number of employees, the result of branch expansion during the
year and to support increased transaction volumes associated with a
growing organization;

- Incremental salaries and benefits associated with the Equipment Finance,
Inc. acquisition;

- Increased health and welfare benefits costs, consistent with national
trends; and

- Higher incentive accruals resulting from the corporation's performance
levels during 2002 exceeding that achieved in 2001.

The $3,211,000 increase in salary and employee benefits in 2001 over 2000
was the result of normal merit increases; additional staffing needs for branch
expansion; increases in employee benefit costs; and redundancies in a limited
number of positions, as operations relocated from Hanover and Northeast to
Lancaster.

Net occupancy expense was $4,209,000 in 2002, $3,826,000 in 2001 and
$3,431,000 in 2000. The 10.0% increase experienced in 2002 was primarily the
result of a larger branch network, expansion and renovations made at certain
existing office locations to better serve our customer's needs. Similarily, the
11.5% increase in 2001 over 2000 was primarily the result of several branches
that opened throughout 2000, which were fully operational for the entire 2001
year.

The 13.4%, or $681,000 increase in furniture and equipment expense during
2002 versus 2001 was the result of an increase in number of office locations, as
well as higher depreciation and service contract charges that resulted from the
enhanced operating system that Sterling converted to in 2001. Similarly, the
$471,000, or 10.2% increase in furniture and equipment expense during 2001
versus 2000 was the result of the increased number of office locations, as well
as the increased maintenance costs associated with more sophisticated methods to
deliver our services to our customer base.

Professional service expense was $2,845,000 for the year ended December 31,
2002, an 18.0% increase over 2001 results. This followed a 23.1% increase in
professional service expense in 2001 as compared to 2000.

21

Approximately $300,000 of the 2002 increase can be attributed to professional
fees related to the conversion of a non-bank affiliate from a C-corporation to a
limited liability corporation. The remainder of the increase in 2002 can be
attributed to long-term strategic planning efforts, combined with increased
professional services for implementation of corporate governance issues that
have resulted from the Sarbanes-Oxley Act. The 23.1% increase in professional
service expense in 2001 over 2000 can be attributed to Sterling's increased
reliance on services outsourced to third parties who can bring a greater degree
of knowledge to the organization; temporary contracted professional resources to
assist in the core processing conversions that took place in 2001; and legal and
other consulting fees associated with the formation of two new business
ventures.

Depreciation on operating lease assets were $20,902,000 in 2002,
$19,217,000 in 2001, and $17,469,000 in 2000. The increase is consistent with
the growth noted in rental income on operating leases. Depreciation expense on
leased property increased to 81% of rental income on operating leases compared
to 79% for 2001 and 2000.

During the third quarter of 2000, Sterling completed its merger with
Hanover Bancorp, Inc. and incurred $2,898,000 of merger related and
restructuring charges. The direct costs that resulted from the merger were
$1,426,000, and consisted principally of legal, accounting, investment advising
fees, as well as regulatory filing fees and other miscellaneous expenses. In
addition, Sterling incurred restructuring costs of $1,472,000, which primarily
consists of severance and related benefits, professional fees, termination fees
related to non-cancelable service contracts and asset write-offs related to
conversion of the banking subsidiaries into a common core processing system. The
conversion to the new core processing system and resulting reduction in the
workforce resulted in net annual savings of approximately $1.5 million, of which
approximately one-third was realized in 2001 and the full amount was realized in
2002.

The following summarizes the restructuring expenses charged to operations
during 2000, and the remaining restructuring accrual balance at December 31,
2002. The remainder of the accrual will be paid out in the first quarter of
2003.

Other noninterest expense totaled $15,344,000 during 2002 versus
$13,646,000 in 2001 and $12,057,000 in 2000. Significant expense components in
this category include marketing and advertising, postage, lending related
activities, investor/shareholder relations, taxes other than income, and
insurance related activities. The increase in expense noted during 2002 and 2001
was the direct result of Sterling's overall growth, which results in increases
in these types of expenses as well.

Operating expenses levels are often measured by the efficiency ratio, which
expresses noninterest expense, excluding merger related and restructuring
charges, as a percentage of tax-equivalent net interest income and other income.
In calculating its efficiency ratio, Sterling nets depreciation on operating
leases with the related rental income to more consistently present operating
results with the banking industry.

Sterling's efficiency ratio, excluding unusual items such as securities
activities, restructuring charges, severance and other infrequent items, was
60.8%, 64.5%, and 63.1% for the years ended December 31, 2002, 2001 and 2000.
The improvement noted in Sterling's 2002 efficiency ratio is primarily driven by
the increase in net interest income, combined with a centralized operations
function, which allowed for the elimination of redundant costs associated with
running the three bank affiliates on different operating systems. The
centralized operations function allows for better utilization of fixed costs,
such as premises and equipment, and variable costs, which includes employee
resources. In 2001, Sterling's efficiency ratio slipped, the result of

22

margin compression, combined with redundant data processing costs as the bank
affiliates were converting to a new computer system.

INCOME TAXES

Sterling recognized income taxes of $7,018,000, $5,844,000 and $4,951,000
for the years ended December 31, 2002, 2001 and 2000. The effective tax rate,
which measures income tax expense as a percent of pre-tax income, totaled 22.1%,
22.3% and 23.0% for the years ended December 31, 2002, 2001, and 2000.

Sterling's effective tax rate is less than the 35% federal statutory rate,
primarily due to tax-exempt loan and security income, tax credits associated
with low-income housing projects, offset by certain non-deductible expenses and
state income taxes.

Although Sterling's 2002 effective tax rate did not deviate much from 2001,
the composition of the expense has changed. During 2002, Sterling reversed a
$1,200,000 deferred state tax liability that resulted when a non-bank Sterling
affiliate converted from a C-corporation to a limited liability corporation.
Offsetting the state tax benefit realized on the limited liability conversion
was higher state income tax expense contributed by Sterling's commercial finance
segment.

The 2000 effective tax rate was somewhat higher than 2002 and 2001 as
result of non-deductible merger expenses.

FINANCIAL CONDITION

Average earning assets increased in 2002 to $1,838,451,000 from
$1,629,482,000 in 2001 and $1,488,459,000 in 2000. Solid growth in the
commercial loans portfolio and the addition of $84,513,000 in finance
receivables associated with the acquisition of Equipment Finance, Inc.
contributed greatly to the increase in average earning assets. Additionally,
Sterling's security portfolio increased over the last three years, as a result
of its funding exceeding the loan demand. Offsetting the increases was a
$44,154,000 decline in average residential mortgages. Average funding sources,
or interest bearing liabilities, increased in 2002 to $1,633,037,000 from
$1,436,190,000 in 2001 and $1,316,687,000 in 2000.

INVESTMENT SECURITIES

Sterling utilizes investment securities to generate interest and dividend
income, assist in managing interest rate risk, and to provide liquidity to the
parent company and affiliates. Strong deposit growth and additional third party
borrowings used to capitalize on the low interest rate environment outpaced loan
and lease growth during 2002, resulting in the excess funds being invested in
the securities portfolio. Much of the securities growth was in tax-free
municipal portfolio, which provided competitive tax adjusted yields during 2002,
and as a result of the sluggish national economy, Sterling elected to shift a
portion of its securities portfolio from corporate securities, to safer and
lower risk-weighted agency securities, during 2002.

At December 31, 2002, the securities balance included net unrealized gains
on available-for-sale securities of $23,695,000, versus net unrealized gains of
$8,357,000 at December 31, 2001. The reduction in interest rates led to the
increased appreciation in the fair value of securities during 2002, combined
with a steepening interest yield curve during 2002 compared to 2001.

23

TABLE 5 -- INVESTMENT SECURITIES

The following table shows the amortized cost of the held-to-maturity
securities owned by Sterling as of the dates indicated. Securities are stated at
cost adjusted for amortization of premiums and accretion of discounts.

The following table shows the amortized cost and fair value of the
available-for-sale securities owned as of the dates indicated.

All Sterling mortage-backed securities are those of U.S. Government
agencies.

TABLE 6 -- INVESTMENT SECURITIES (YIELDS)

The following table shows the maturities of held-to-maturity debt
securities at amortized cost as of December 31, 2002, and approximate weighted
average yields of such securities. Yields on states and political subdivision
securities are shown on a tax equivalent basis, assuming a 35% federal income
tax rate.

24

The following table shows the maturities of available-for-sale debt
securities at fair value as of December 31, 2002, and approximate weighted
average yields of such securities. Yields on states and political subdivision
securities are shown on a tax equivalent basis assuming a 35% federal income tax
rate.

There is no issuer of securities in which the aggregate book value of that
issuer, other than securities of the U.S. Treasury, U.S. Government agencies or
corporations, exceeds 10% of stockholders' equity.

LOANS

Loans outstanding increased $197,855,000, or 18.0% in 2002, compared to
6.3% growth experienced in 2001. The growth in loans is consistent with a stable
local economy, and continued demand for loans to support existing customers'
growth. The commercial loan portfolio experienced strong growth during the
period, increased by $90,806,000 or 15.2%. This growth trend is consistent with
the trend noted in prior years, and is the result of actively marketing
commercial services to professionals in the target market, leading to an
increased referral base. Also contributing to loan growth was the addition of
$115,200,000 in finance receivables acquired through Equipment Finance, Inc.

Offsetting the commercial loan and finance receivables growth, was a
$14,402,000 decrease in real estate mortgage loans. This is consistent with the
trend of increasing our emphasis on commercial loan products, combined with
holding fewer mortgage loans for portfolio; given the low interest rate
environment. As mentioned previously, declining interest rates in 2002 resulted
in a great deal of refinancings of portfolio loans. Given the low interest rates
on newly originated loans, management has sold a higher percentage of mortgage
loans in the secondary market than in the past in order to manage its interest
rate risk position, and reduce its position of low yielding, long duration
mortgage loans.

TABLE 7 -- LOAN PORTFOLIO

The following table sets forth the composition of Sterling's loan portfolio
as of the dates indicated:

25

TABLE 8 -- LOAN MATURITY AND INTEREST SENSITIVITY

The following table sets forth the maturity of the loan portfolio as of
December 31, 2002.

Loans due after one year totaling $233,575,000 have variable interest
rates. The remaining $415,429,000 in loans have fixed rates.

ASSET QUALITY

Sterling's loan portfolios are subject to varying degrees of credit risk.
Credit risk is mitigated through prudent underwriting standards, on-going credit
review, and monitoring and reporting asset quality measures. Additionally, loan
portfolio diversification, limiting exposure to a single industry or borrower,
and requiring collateral also reduces Sterling's credit risk.

Sterling's commercial, consumer and residential mortgage loans are
principally to borrowers in south central Pennsylvania and northern Maryland. As
the majority of Sterling's loans are located in this area, a substantial portion
of the debtor's ability to honor their obligations may be affected by the level
of economic activity in the market area. Sterling's finance receivables are
primarily to customers in the eastern part of the United States to finance
forestry and land clearing equipment.

The unemployment rate in Sterling's market area remained below the national
average during 2002. Additionally, reasonably low interest rates, a stable local
economy and minimal inflation continued to support favorable economic conditions
in the area.

Non-performing assets include nonaccrual and restructured loans, accruing
loans past due 90 days or more and other foreclosed assets. Sterling's general
policy has been to cease accruing interest on loans when management determines
that a reasonable doubt exists as to the collectibility of additional interest.
When management places a loan on nonaccrual status, it reverses unpaid interest
credited to income in the current year, and charges unpaid interest accrued in
prior years to the allowance for loan losses. Sterling recognizes income on
these loans only to the extent that it receives cash payments. Sterling
typically returns nonaccrual loans to performing status when the borrower brings
the loan current and performs in accordance with contractual terms for a
reasonable period of time. Sterling categorizes a loan as restructured if it
changes the terms of the loan such as interest rate, repayment schedule or both,
to terms that it otherwise would not have granted originally.

26

TABLE 9 -- NONACCRUAL, PAST DUE AND RESTRUCTURED LOANS

The following table presents information concerning the aggregate amount of
nonaccrual, past due and restructured loans:

As of December 31, 2002, non-performing assets were $12,002,000 an increase
of $3,128,000 or 35.3% from December 31, 2001. The increase in nonaccrual loans
is primarily the result of three large credits that moved into nonaccrual status
during the second half of 2002. One of these loans is fully secured by real
estate, while the other loans are partially secured by the business assets and
personal guarantees. Although the percentage increase in non-performing loans
exceeds the increase in total loans, which results in an increase in
non-performing loans to loans outstanding, Sterling's ratio is still consistent
with peer group.

Potential problem loans are defined as performing loans that have
characteristics that cause management to have serious doubts as to the ability
of the borrower to perform under present loan repayment terms and that may
result in the reporting of these loans as nonperforming loans in the future.
Total potential problem loans approximated $1.2 million at December 31, 2002.
Additionally, outstanding letter of credit commitments totaling approximately
$1.4 million could result in potential problem loans, if drawn upon. The
majority of these loans are secured by real estate with acceptable loan-to-value
ratios.

ALLOWANCE FOR LOAN LOSSES

Sterling maintains the allowance for loan losses at a level that management
believes adequate to absorb potential losses inherent in the loan portfolio and
is established through a provision for loan losses charged to earnings.
Additionally, when Sterling acquires a company in a purchase business
combination, the acquired allowance is combined with Sterling's existing
allowance. Quarterly, the company utilizes a defined methodology in determining
the adequacy of the allowance for loan losses. This methodology considers
specific credit reviews, past loan loss historical experience, and qualitative
factors. The application of this methodology was recently enhanced and results
in an allowance consisting of two components, "allocated" and "unallocated."

Management assigns internal risk ratings to all commercial relationships
with aggregate borrowings or commitments to extend credit in excess of $100,000.
Using migration analysis for the previous eight quarters, management develops a
loss factor test, which it then uses to estimate losses on impaired loans,
potential problem loans and non-classified loans. When management finds loans
with uncertain collectibility of principal

27

and interest, it places those loans on the "problem list," and evaluates them on
a quarterly basis in order to estimate potential losses. Management's analysis
considers:

- Adverse situations that may affect the borrower's ability to repay;

- Estimated value of underlying collateral; and

- Prevailing market conditions.

If management determines that a specific reserve allocation is not
required, it assigns the general loss factor based on historical performance to
determine the reserve. For homogeneous loan types, such as consumer and
residential mortgage loans, management bases specific allocations on the average
loss ratio for the previous two years for each specific loan pool. Additionally,
management adjusts projected loss ratios for other factors, including the
following:

- Trends in delinquency levels;

- Trends in non-performing and potential problem loans;

- Trends in composition, volume and terms of loans;

- Effects in changes in lending policies or underwriting procedures;

- Experience ability and depth of management;

- National and local economic conditions;

- Concentrations in lending activities; and

- Other factors as management may deems appropriate.

Management determines the unallocated portion of the allowance for loan
losses based on the following criteria:

- Risk of error in the specific and general reserve allocations;

- Other potential exposure in the loan portfolio;

- Variances in management's assessment of national and local economic
conditions; and

- Other internal or external factors that management believes appropriate
at that time.

Management believes this methodology accurately reflects losses inherent in
the portfolio. Management charges actual loan losses to the allowance for loan
losses. Management periodically updates this methodology, which reduces the
difference between actual losses and estimated losses. Management recently
enhanced the application of the methodology to more appropriately reflect the
risk associated with the factors indicated above.

Management bases the provision for loan losses on the overall analysis
taking the methodology into account.

28

A summary of the activity in the allowance for loan losses is as follows:

TABLE 10 -- SUMMARY OF LOAN LOSS EXPERIENCE

The allowance for loan losses increased $1,882,000 from $11,071,000 at
December 31, 2001, to $12,953,000 at December 31, 2002. The allowance represents
1.00% of loans outstanding at December 31, 2002, versus 1.01% as of the prior
year-end.

Net charge-offs were $1,050,000 for the year ended December 31, 2002,
versus $1,862,000 in 2001, a decrease of 43.6%. A primary reason for the
decrease in charge-offs was a recovery of approximately $600,000 in insurance
proceeds. This recovery represents a large portion of the loans charged off in
2001, that resulted from loans made to a customer under fraudulent
representations from them. Excluding the affect of this 2001 chargeoff and
subsequent 2002 recovery, commercial loan net charge-offs increased $146,000 in
2002 v. 2001. Additionally, both consumer and residential mortgage loan
charge-offs increased, primarily the result of increasing unemployment and
bankruptcies.

Despite the slight improvement in overall charge-offs, Sterling increased
its provision for loan losses to $2,095,000 in order to maintain the adequacy of
the reserve, due primarily to increased non-performing assets and higher levels
of outstanding loans and leases. Also, as a result of the Equipment Finance,
Inc. acquisition, Sterling added $837,000 to its allowance for loan losses.

29

TABLE 11 -- ALLOCATION OF ALLOWANCE FOR LOAN LOSSES

The allocation of the allowance for loan losses between the various loan
portfolios has changed over the past few years, consistent with the historical
net loss experience in each of the portfolios. Additionally, management enhanced
the application of the allowance methodology in 2002, which served to more
appropriately reflect the risk associated with the factors and resulted in a
more refined allocation methodology. Consequently, a portion of the unallocated
reserve was reclassified to the allocated reserve, without an increase in
probable loan losses.

The largest reserve allocation is to the commercial, financial and
agricultural loan portfolio, which represents approximately 53% of the reserve
balance. This reflects the increase in non-performing loans and non-performing
assets, increases in loans, and changes in other factors that impact the
inherent risks in the portfolio. This non-homogeneous loan portfolio, along with
leases, continues to represent the greatest risk exposure to Sterling. The
loans, generally, are larger than the remainder of the portfolio and the related
collateral is not as marketable. Additionally, other external factors, such as
competition for high rated credits, is also considered in allocating this
reserve balance.

During 1998, Sterling sold its credit card portfolio, which was included in
the consumer loan category in determining the allocation of the allowance for
loan losses. As a result of the sale of this portfolio, Sterling had seen an
improvement in charge-offs in consumer loans in 1998 through 2000, which
resulted in lower historical charge-off percentages used in developing the
quantitative portion of the reserve allocation. As a result, the allocation of
the allowance for loan losses to the consumer loan portfolio generally lowered
from 1998 - 2001. As a result of the recent downturn in the economy and
management's approach in more aggressively charging off consumer loans, Sterling
has experienced a steady increase in net charge-offs during the last two years.
This increase which led to higher historical charge-off percentages, combined
with an increased qualitative adjustment, resulted in an increase in the
consumer loan allocation in 2002.

During 2002, the reserve allocation related to the lease portfolio has
increased consistent with the trends noted in lease charge-offs during the last
two years and continued uncertainty as to the impact of the economy on the
slumping transportation industry and other factors that impact the inherent
risks in the portfolio.

The unallocated portion of the allowance reflects estimated inherent losses
within the portfolio that have not been detected. The unallocated portion of the
reserve is due to risk of error in the specific and general reserve allocations,
other potential exposure in the loan portfolio, variances in management's
assessment of national and local economic conditions, and other internal or
external factors that management believes appropriate at the time.

While management believes Sterling's allowance for loan losses is adequate
based on information currently available, future adjustments to the reserve may
be necessary due to changes in economic conditions, and management's assumptions
as to future delinquencies or loss rates.
30

ASSETS HELD FOR OPERATING LEASES

Assets held for operating leases, net of accumulated depreciation, were
$63,291,000 at December 31, 2002, an increase of $4,295,000 from the December
31, 2001, balance of $58,996,000. Assets held for operating leases were
$54,294,000 at December 31, 2000. The increase is a result of an increase in the
number of units under operating leases, which were 6,214, 5,864, and 5,330 as of
December 31, 2002, 2001, and 2000.

Operating leases have residual value risk associated with them. Operating
lease terms, including monthly rental payment and length of the lease, are
established based upon the residual value, or the estimate of fair value of the
leased asset at the end of the lease term. If, at the end of the lease term, the
fair value of the leased property is less than the residual value calculated at
lease origination, a loss on disposal could result. Sterling mitigates this risk
through use of anticipated values published by various industries, and in some
instances, discussions with industry experts. Further, the lease terms include
provisions that the lessee shares the risk of loss on disposal of equipment, up
to 50% of the residual value.

DEPOSITS

Sterling continues to rely heavily on deposit growth as the primary source
of funds for lending activities. Average deposits increased 10.20%, or $149
million, in 2002. This increase is consistent with the growth trend noted in
2001. This growth has been achieved through the development of products that
meet the needs of our customers. In addition, deposits have grown as these
consumers, who have lost confidence in the stock market, migrate to deposit
products, which they generally regard as safer, more liquid investments.
Sterling will continue to explore new products to meet the needs of customers,
particularly in this low interest rate environment.

TABLE 12 - AVERAGE DEPOSIT BALANCES AND RATES PAID

The following table summarizes the average amounts of deposits and rates
paid for the years indicated:

TABLE 13 -- DEPOSIT MATURITY

The following table summarizes the maturities of time deposits of $100,000
or more as of the dates indicated:

31

BORROWINGS

Short-term borrowings are comprised primarily of securities sold under
agreements to repurchase, U.S. Treasury demand notes, borrowings from other
financial institutions and lines of credit. As of December 31, 2002, short-term
borrowings were $41,620,000, an increase of $21,335,000 from the December 31,
2001 balance of $20,285,000. This increase is primarily attributable to Sterling
borrowing $25,000,000 under a line of credit to fund finance receivables, offset
by a decrease of approximately $6,000,000 of short-term floating debt that was
converted to fixed long-term debt.

Long-term debt consists primarily of advances from the Federal Home Loan
Bank and borrowings from other financial institutions to fund Sterling's growth
in its finance and operating lease portfolios. Long-term debt was $155,478,000
at December 31, 2002, an increase of $35,385,000 from December 31, 2001. A
majority of the long-term debt primarily occurred in the first half of 2002, and
consisted primarily of three items. First, $15,000,000 was the result of the
corporation's desire to lock in low interest rates and provide liquidity to its
affiliates. Second, during the second quarter, the corporation leveraged the
proceeds of the trust preferred by borrowing an additional $26,250,000. Finally,
Sterling arranged a credit facility to fund the $9,000,000 cash consideration of
the acquisition of Equipment Finance, Inc.

As part of the corporation's asset/liability management, the corporation
uses interest rate swaps and caps to manage interest rate risk associated with
variable-rate funding sources. To the extent the derivatives are effective and
meet the requirements for hedge accounting, changes in fair value are recognized
in other comprehensive income with income statement reclassification occurring
as the hedged item affects earnings. Conversely, changes in fair value
attributable to ineffectiveness or to derivatives that do not qualify as hedges
are recognized as they occur in the income statement's other expense account
with the hedged item.

In 2002, Sterling entered into an interest rate swap transaction with an
aggregate notional amount of $25,000,000 with a term of four years, to hedge its
cash flow requirements under the line of credit to fund finance receivables.
According to the terms of the transaction, the corporation pays fixed-rate
interest rate payments and receives floating-rate payments. The swap was entered
into to hedge the corporation's exposure to higher interest rates on its
variable-rate funding sources. At December 31, 2002, the fair value of the cash
flow swap was a negative $1,875,000.

CAPITAL

The management of capital in a regulated financial services industry must
properly balance return on equity to stockholders while maintaining sufficient
capital levels and related risk-based capital ratios to satisfy regulatory
requirements. Additionally, capital management must also consider acquisition
opportunities that may exist, and the resulting accounting treatment.

Sterling's capital management strategies have been developed to provide
attractive rates of returns to stockholders, while maintaining its
"well-capitalized" position at each of the banking subsidiaries.

One capital management strategy that Sterling employed during 2002 was the
issuance of $20,000,000 of preferred capital securities through its wholly owned
special purpose subsidiary trust, Sterling Financial Statutory Trust I. The
proceeds from the preferred securities were invested in junior subordinated
deferrable interest debentures of Sterling, at terms consistent with the
preferred capital securities. Sterling's treatment of the preferred capital
securities is consistent with long-term debt, and the related dividends being
presented as interest expense. Dividends on the securities are variable at the
rate equal to 3 month LIBOR, plus 360 basis points, and adjusts quarterly. The
interest rate is 5.00% at December 31, 2002. The preferred securities must be
redeemed upon maturity of the subordinated debentures in March 2032. Sterling's
obligations under the debentures and related documents, taken together,
constitute a full and unconditional guarantee by Sterling of the Statutory
Trust's obligations under the preferred capital securities. The preferred
capital securities qualify for Tier 1 capital treatment for Sterling. As such,
Sterling was able to increase regulatory capital, without increasing
stockholders' equity.

Earnings retention is a primary source of additional capital to Sterling,
which represents net income less dividends declared. During 2002, Sterling
retained $13,599,000, or 55.0%, of its net income. Stockholders'
32

equity also increased as a result of $8,866,000 in other comprehensive income,
which related to net unrealized gains on securities available-for-sale and
unrealized losses on an interest rate swap.

During the first quarter of 2001, Sterling announced the Board of Directors
authorized the repurchase of up to 187,500 shares of its outstanding common
stock. Through December 31, 2002, 88,846 shares have been repurchased under this
program at an average price of $21.33, including 22,500 shares purchased in
2002.

Sterling and its banking subsidiaries are subject to various regulatory
capital requirements administered by the federal banking agencies. Failure to
meet minimum capital requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could have a
direct material effect on Sterling and the subsidiary banks' financial
statements. Under capital adequacy guidelines and the regulatory framework for
prompt corrective action, Sterling and its banking subsidiaries must meet
specific capital guidelines that involve quantitative measures of their assets,
liabilities and certain off-balance sheet items as calculated under regulatory
accounting practices. The capital amounts and reclassifications are also subject
to qualitative judgments by the regulators about components, risk weightings,
and other factors.

Quantitative measures established by regulation to ensure capital adequacy
require Sterling and its banking subsidiaries to maintain minimum amounts and
ratios of total and Tier 1 capital to average assets. Management believes, as of
December 31, 2002, and 2001 that Sterling and the subsidiary banks met all
minimum capital adequacy requirements to which they are subject and are
categorized as "well capitalized." There are no conditions or events since the
notification that management believes have changed the subsidiary banks'
category.

TABLE 14 -- RISKED-BASED CAPITAL

Sterling's actual capital amount and ratios are as follows:

LIQUIDITY

Effective liquidity management ensures the cash flow requirements of
depositors and borrowers, as well as the operating cash needs of Sterling are
met.

Sterling's funds are available from a variety of sources, including assets
that are readily convertible to cash (federal funds sold, short-term
investments), securities portfolio, scheduled repayments of loans receivable,
core deposit base, short-term borrowing capacity with a number of correspondent
banks and the FHLB, and the ability to package residential mortgage loans
originated for sale. As of December 31, 2002, capacity to borrow from the FHLB
totaled approximately $251 million.

The liquidity of the parent company also represents an important aspect of
liquidity management. The parent company's cash outflows consist principally of
dividends to shareholders and unallocated corporate expenses. The main source of
funding for the parent company is the dividends it receives from its banking
subsidiaries. Federal and state banking regulations place certain restrictions
on dividends paid to the parent company from the subsidiary banks. The total
amount of dividends that may be paid from the subsidiary banks to Sterling total
$48 million at December 31, 2002.

33

Sterling manages liquidity by monitoring projected cash inflows and
outflows on a daily basis, and believes it has sufficient funding sources to
maintain sufficient liquidity under varying degrees of business conditions.

Contractual Obligations, Commitments and Off-balance Sheet Arrangements

Sterling enters into contractual obligations in its normal course of
business to fund loan growth, for asset/liability management purposes, to meet
required capital needs and for other corporate purposes. The following table
presents significant fixed and determinable contractual obligations by payment
date. Further discussion of the nature of each obligation is included in the
referenced note to the consolidated financial statements.

Sterling also enters into derivative contracts under which it is required
to either receive cash from or pay cash to counterparties depending on changes
in interest rates. Derivative contracts are carried at fair value on the
consolidated balance sheet with the fair value representing the net present
value of the expected future cash receipts or payments based on market interest
rates as of the balance sheet date. The fair values of the contracts change
daily as interest rates change. These contracts require monthly cash settlement.
As the derivative liabilities recorded on the balance sheet do not represent the
amounts that will ultimately be paid under the contract, they are not included
in the table of contractual obligations discussed above. Further discussion of
derivative instruments is included in Notes 1 and 14 to the consolidated
financial statements.

A schedule of significant commitments at December 31, 2002 is as follows:

Commitments to extend credit:
Unused home equity lines of credit........................ $ 50,574
Other commitments to extend credit........................ 273,683
Standby letters of credit................................... 58,231
--------
$382,488
========

Further discussion of these commitments to extend credit is included in
Note 14 to the consolidated financial statements. In addition, Sterling has
commitments and obligations under employee benefit plans as discussed in Note 17
to the consolidated financial statements.

Sterling has no off-balance sheet arrangements through the use of
special-purpose entities.

34

NEW FINANCIAL ACCOUNTING STANDARDS

Recent Accounting Pronouncements - In July 2002, the Financial Accounting
Standards Board (FASB) issued Statement No. 146, Accounting for Costs Associated
with Exit or Disposal Activities. This statement addresses the accounting for
costs associated with disposal activities covered by SFAS No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets, and with exit and
restructuring activities previously covered by Emerging Issues Task Force
("EITF") Issue No. 94-3 "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity." This statement supercedes EITF
No. 94-3 in its entirety and requires that a liability for all costs be
recognized when the liability is incurred. This Statement also establishes a
fair value objective for initial measurement of the liability. The statement
will be applied prospectively to exit or disposal activities initiated after
December 31, 2002.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation -- Transition and Disclosure, which provides guidance for entities
which voluntarily change from the intrinsic value method of accounting for stock
based compensation under APB 25 to the fair value method of accounting under
SFAS No. 123. Additional disclosures are required under SFAS No. 148 on both an
annual and interim basis. See Note 18 to the Consolidated Financial Statements
for the disclosures required under this statement.

In January 2003, the FASB issued FASB Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities." This interpretation provides
guidance on how to identify a variable interest entity ("VIE") and determine
when the assets, liabilities, noncontrolling interests, and results of
operations of a VIE need to be included in a company's consolidated financial
statements. A company that holds variable interest in an entity will need to
consolidate the entity if the company's interest in the VIE is such that the
company will absorb a majority of the VIE's expected losses and/or receive a
majority of the entity's expected residual returns, if they occur. FIN 46 also
requires additional disclosures by primary beneficiaries and other significant
variable interest holders for all financial statements issued after January 31,
2003. The new accounting provisions of this interpretation became effective upon
issuance for all new variable interest entities created after January 31, 2003,
and to variable interest entities in which an enterprise obtains an interest
after that date. It applies to the first fiscal year or interim period beginning
after June 15, 2003, to variable interest entities in which an enterprise holds
a variable interest that it acquired before February 1, 2003. Sterling is
currently assessing the impact, if any, the interpretation will have on our
accounting for special purpose entities and Sterling's results of operations and
financial position.

In November 2002, the FASB issued FASB Interpretation No. 45 ("FIN 45"),
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." This interpretation expands the
disclosures to be made by a guarantor in its financial statements about its
obligations under certain guarantees and requires the guarantor to recognize a
liability for the fair value of an obligation assumed under certain specified
guarantees. FIN 45 clarifies the requirements of SFAS No. 5 relating to
guarantees. In general, FIN 45 applies to contracts or indemnification
agreements that contingently require the guarantor to make payments to the
guaranteed party based on changes in an underlying that is related to an asset,
liability, or equity security of the guaranteed party. Certain guarantee
contracts are excluded from both the disclosure and recognition requirements of
this interpretation, including, among others, guarantees related to commercial
letters of credit, loan commitments, and subordinated interests in an SPE. Other
guarantees are subject to the disclosure requirements of FIN 45 but not to the
recognition provisions and include, among others, a guarantee accounted for as a
derivative instrument under SFAS 133, a parent's guarantee of debt owed to a
third party by its subsidiary or vice versa, and a guarantee which is based on
performance not price. The disclosure requirements of FIN 45 are effective for
Sterling as of December 31, 2002, and require disclosure of the nature of the
guarantee, the maximum potential amount of future payments that the guarantor
could be required to make under the guarantee, and the current amount of the
liability, if any, for the guarantor's obligations under the guarantee (see Note
21). The accounting recognition requirements of FIN 45 are to be applied
prospectively to guarantees issued or modified after December 31, 2002. Adoption
of FIN 45 will not have a material impact on Sterling's results of operations or
financial position.

35

ITEM 7A -- QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Financial institutions can be exposed to several market risks that may
impact the value or future earnings capacity of an organization. These risks
involve interest rate risk, foreign currency exchange risk, commodity price risk
and equity market price risk. Sterling's primary market risk is interest rate
risk. Interest rate risk is inherent because as a financial institution,
Sterling derives a significant amount of its operating revenue from "purchasing"
funds (customer deposits and borrowings) at various terms and rates. These funds
are then invested into earning assets (loans, leases, investments, etc.) at
various terms and rates. This risk is further discussed below.

Equity market risk is not a significant risk to the corporation, as equity
investments on a cost basis comprise less than 1% of corporate assets. Sterling
does not have any exposure to foreign currency exchange risk or commodity price
risk.

INTEREST RATE RISK

Interest rate risk is the exposure to fluctuations in the corporation's
future earnings (earnings at risk) and value (value at risk) resulting from
changes in interest rates. This exposure results from differences between the
amount of interest earning assets and interest bearing liabilities that reprice
within a specified time period as a result of scheduled maturities and
repayment, contractual interest rate changes, or the exercise of explicit or
embedded options.

The primary objective of the corporation's asset/liability management
process is to maximize current and future net interest income within acceptable
levels of interest rate risk while satisfying liquidity and capital
requirements. Management recognizes that a certain amount of interest rate risk
is inherent and appropriate yet is not essential to the corporation's
profitability. Thus the goal of interest rate risk management is to maintain a
balance between risk and reward such that net interest income is maximized while
risk is maintained at a tolerable level.

Management endeavors to control the exposures to changes in interest rates
by understanding, reviewing and making decisions based on its risk position. The
corporate asset/liability committee is responsible for these decisions. The
corporation primarily uses the securities portfolios and FHLB advances to manage
its interest rate risk position. Additionally, pricing, promotion and product
development activities are directed in an effort to emphasize the loan and
deposit term or repricing characteristics that best meet current interest rate
risk objectives. At present, the use of off-balance sheet instruments is not
significant.

The committee operates under management policies defining guidelines and
limits on the level of risk. These policies are approved by the Boards of
Directors.

The corporation uses simulation analysis to assess earnings at risk and net
present value analysis to assess value at risk. These methods allow management
to regularly monitor both the direction and magnitude of the corporation's
interest rate risk exposure. These modeling techniques involve assumptions and
estimates that inherently cannot be measured with complete precision. Key
assumptions in the analyses include maturity and repricing characteristics of
both assets and liabilities, prepayments on amortizing assets, other imbedded
options, non-maturity deposit sensitivity and loan and deposit pricing. These
assumptions are inherently uncertain due to the timing, magnitude and frequency
of rate changes and changes in market conditions and management strategies,
among other factors. However, the analyses are useful in quantifying risk and
provide a relative gauge of the corporation's interest rate risk position over
time.

Earnings at Risk

Simulation analysis evaluates the effect of upward and downward changes in
market interest rates on future net interest income. The analysis involves
changing the interest rates used in determining net interest income over the
next twelve months. The resulting percentage change in net interest income in
various rate scenarios is an indication of the corporation's shorter-term
interest rate risk. The analysis utilizes a "static" balance sheet approach. The
measurement date balance sheet composition (or mix) is maintained over the
simulation time period, with maturing and repayment dollars being rolled back
into like instruments for new
36

terms at current market rates. Additional assumptions are applied to modify
volumes and pricing under the various rate scenarios. These include prepayment
assumptions on mortgage assets, the sensitivity of non-maturity deposit rates,
and other factors deemed significant.

The simulation analysis results are presented in the graph in Table 15a.
These results as of December 31, 2002 indicate that the corporation would expect
net interest income to increase over the next twelve months by 1.9% assuming an
immediate upward shift in market interest rates of 2.00% and to decrease by 3.3%
if rates shifted downward in the same manner. This profile reflects an asset
sensitive short-term rate risk position and is within the guidelines set by
policy.

At December 31, 2001, annual net interest income was expected to decrease
by 0.4% in the upward scenario and to increase by 0.4% in the downward scenario.
The change in the risk position from year to year to an asset sensitive position
reflects:

- Management's efforts throughout the year to extend liability maturities
and shorten maturities in the investment portfolio;

- Generally low level of interest rates which would preclude further
reductions in certain deposit rates in the declining rate scenarios; and

- Adoption of non-maturity deposit sensitivity assumptions based on studies
performed by a third-party service provider that support a more
significant lagging in the increase in the rates on these deposits in
rising rate scenarios.

Value at Risk

The net present value analysis provides information on the risk inherent in
the balance sheet that might not be taken into account in the simulation
analysis due to the shorter time horizon used in that analysis. The net present
value of the balance sheet is defined as the discounted present value of
expected asset cash flows minus the discounted present value of the expected
liability cash flows. The analysis involves changing the interest rates used in
determining the expected cash flows and in discounting the cash flows. The
resulting percentage change in net present value in various rate scenarios is an
indication of the longer term repricing risk and options embedded in the balance
sheet.

The net present value analysis results are presented in the graph in Table
15b. These results as of December 31, 2002 indicate that the net present value
would decrease 0.3% assuming an immediate upward shift in market interest rates
of 2.00% and to decrease 1.1% if rates shifted downward in the same manner. The
risk position of Sterling is within the guidelines set by policy.

At December 31, 2001, the analysis indicated that the net present value
would decrease 11.6% assuming an immediate upward shift in market interest rates
of 2.00% and to increase 11.0% if rates shifted downward in the same manner. The
change in the analysis results from year to year highlight the longer-term
impact of the factors noted above, specifically:

- Management's efforts throughout the year to extend liability maturities
and shorten maturities in the investment portfolio;

- Generally low level of interest rates which would preclude further
reductions in certain deposit rates in the declining rate scenarios but
are expected to lag in rising rate scenarios; and

- Adoption of non-maturity deposit sensitivity assumptions based on studies
performed by a third-party service provider that supported longer assumed
lives for these portfolios.

37

ITEM 8 -- FINANCIAL STATEMENTS

(a) The following audited consolidated financial statements and related
documents are set forth in the Annual Report on Form 10-K on the following
pages:

38

REPORT OF INDEPENDENT AUDITORS

The Board of Directors and Shareholders
Sterling Financial Corporation

We have audited the accompanying consolidated balance sheets of Sterling
Financial Corporation and subsidiaries as of December 31, 2002 and 2001, and the
related consolidated statements of income, stockholders' equity, and cash flows
for each of the three years in the period ended December 31, 2002. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.

In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Sterling
Financial Corporation and subsidiaries at December 31, 2002 and 2001, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 2002, in conformity with accounting
principles generally accepted in the United States.

As discussed in Note 1 to the Consolidated Financial Statements, in 2002,
Sterling Financial Corporation changed its method of accounting for goodwill.

/s/ Ernst & Young LLP

Philadelphia, Pennsylvania
January 28, 2003

39

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS

The accompanying notes are an integral part of these consolidated financial
statements.

40

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME

The accompanying notes are an integral part of these consolidated financial
statements.

41

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY

The accompanying notes are an integral part of these consolidated financial
statements.

42

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS

The accompanying notes are an integral part of these consolidated financial
statements.
43

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(All dollar amounts presented in the tables are in thousands, except per share
data)

NOTE 1 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation and Consolidation -- The consolidated financial
statements include the accounts of Sterling Financial Corporation (Sterling) and
its wholly-owned subsidiaries, Bank of Lancaster County, N.A. (Bank of Lancaster
County), First National Bank of North East (First National), Bank of Hanover and
Trust Company (Bank of Hanover), HOVB Investment Co., T & C Leasing, Inc. (T&C),
Pennbanks Insurance Company, SPC, Sterling Financial Statutory Trust I, and
Sterling Mortgage Services, Inc. (inactive). The consolidated financial
statements also include Town & Country Leasing, LLC (Town & Country), Sterling
Financial Trust Company, and Equipment Finance, Inc., all wholly-owned
subsidiaries of Bank of Lancaster County. All significant intercompany balances
and transactions have been eliminated in consolidation.

Use of Estimates -- In preparing consolidated financial statements in
conformity with generally accepted accounting principles, management is required
to make estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the balance sheet and reported amounts of revenues
and expenses during the period. Actual results could differ from those
estimates.

Business -- Sterling, through its subsidiaries, provides a full range of
financial services to individual and corporate customers located in south
central Pennsylvania and northern Maryland. Additionally, with its acquisition
of Equipment Finance, Inc. in 2002, Sterling finances forestry and land clearing
equipment to customers on the east coast of the United States.

Concentration of Credit Risk -- Sterling operates primarily in its defined
market area and, accordingly, the banks have extended credit primarily to
commercial entities and individuals in this area whose ability to honor their
contracts is influenced by the region's economy. The loan portfolio is well
diversified and Sterling does not have any significant concentrations of credit
risk. Sterling's exposure to the forestry industry at December 31, 2002 is $102
million. The banks are limited in extending credit by legal lending limits to
any single group of borrowers.

Cash and Cash Equivalents -- For purposes of the consolidated statements of
cash flows, cash and cash equivalents include cash and balances due from banks
and federal funds sold, generally which mature in one day.

Interest-bearing Deposits in Banks -- Interest-bearing deposits in banks
mature within one year and are carried at cost.

Securities -- Debt securities that management has the positive intent and
ability to hold to maturity are classified as "held-to-maturity" and recorded at
amortized cost. Securities not classified as held to maturity, including equity
securities with readily determinable fair values, are classified as
"available-for-sale" and recorded at fair value, with unrealized gains and
losses excluded from earnings and reported in other comprehensive income.

Purchase premiums and discounts are recognized in interest income using the
interest method over terms of the securities using the constant yield method.
Declines in the fair value of held-to-maturity and available-for-sale securities
below their cost that are deemed to be other-than-temporary are reflected in
earnings in the period that management concludes that other than temporary
impairment occurs. Sterling uses various indicators in determining whether a
security is other-than-temporarily impaired, including for equity securities, if
the market value is below its cost for an extended period of time (generally
greater than 6 months), or for debt securities, when it is probable that the
contractual interest and principal will not be collected.

Gains and losses on the sale of securities are recorded on the trade date
and are determined using the specific identification method.

44

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Mortgage Loans Held for Sale -- Loans originated and intended for sale in
the secondary market are carried at the lower of cost or estimated fair value in
aggregate. Net unrealized losses, if any, are recognized through a valuation
allowance by charges to income.

Loans -- Sterling grants mortgage, commercial and consumer loans and
leasing alternatives to customers. The ability of Sterling's debtors to honor
their contracts is dependent upon the real estate and general economic
conditions in the market area.

Loans that management has the intent and ability to hold for the
foreseeable future or until maturity or pay-off, generally are reported at their
outstanding principal balance adjusted for charge-offs, the allowance for loan
losses and any deferred fees or costs on originated loans. Interest income is
accrued on the unpaid principal balance.

Lease contracts which meet the appropriate criteria specified in Statement
of Financial Accounting Standards No. 13, Accounting for Leases, are classified
as direct finance leases. Direct finance leases are recorded upon acceptance of
the equipment by the customer. Unearned lease income represents the excess of
the gross lease investment over the cost of the leased equipment, which is
recognized over the lease term at a constant rate of return on the net
investment in the lease.

Loan and lease origination fees and loan origination costs are deferred and
recognized as an adjustment of the related loan yield using the interest method.

The accrual of interest on loans is generally discontinued at the time the
loan is 90 days delinquent unless the credit is well secured and in the process
of collection. Loans are placed on nonaccrual status or charged-off at an
earlier date if collection of principal or interest is considered doubtful. All
interest accrued, but not collected for loans that are placed on nonaccrual
status or charged-off is reversed against interest income. The interest received
on these loans is applied to reduce the carrying value of the loan or, if
principal is considered fully collectible, recognized as interest income until
qualifying for return to accrual status. Loans are returned to accrual status
when all the principal and interest amounts contractually due are brought
current and future payments are reasonably assured.

Allowance for Loan Losses - Sterling maintains the allowance for loan
losses at a level believed adequate by management to absorb potential losses
inherent in the loan portfolio. It is established and maintained through a
provision for loan losses charged to earnings. Quarterly, the company utilizes a
defined methodology in determining the adequacy of the allowance for loan
losses, which considers specific credit reviews, past loan loss historical
experience, and qualitative factors. This methodology which has remained
consistent for the past several years, results in an allowance consisting of two
components, "allocated" and "unallocated".

Management assigns internal risk ratings to all commercial relationships
with aggregate borrowings or commitments to extend credit in excess of $100,000.
Utilizing migration analysis for the previous eight quarters, management
develops a loss factor test, which it then uses to estimate losses on impaired
loans, potential problem loans and non-classified loans. When management finds
loans with uncertain collectibility of principal and interest, it places those
loans on the "problem list", and evaluates them on a quarterly basis in order to
estimate potential losses. Management's analysis considers adverse situations
that may affect the borrower's ability to repay, estimated value of underlying
collateral, and prevailing market conditions. If management determines that a
specific reserve allocation is not required, it assigns a general loss factor
based on historical performance to determine the reserve necessary for each
loan. For homogeneous loan types, such as consumer and residential mortgage
loans, management bases specific allocations on the average loss ratio for the
previous two years for each specific loan pool. Additionally, management
projects loss ratios for other factors, including trends in delinquency levels,
trends in non-performing and potential problem loans, trends in composition,
volume and terms of loans, effects of changes in lending policies or
underwriting procedures, experience ability and depth of management, national
and local economic conditions, concentrations in lending activities, and other
factors that management may deem appropriate.
45

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Management determines the unallocated portion of the allowance for loan
losses based on the following criteria: risk of error in the specific and
general reserve allocations; other potential exposure in the loan portfolio;
variances in management's assessment of national and local economic conditions;
and other internal or external factors that management believes appropriate at
that time.

Management believes the above methodology accurately reflects losses
inherent in the portfolio. Management charges actual losses to the allowance for
loan losses. Management periodically updates the methodology discussed above,
which reduces the difference between actual losses and estimated losses.

A loan is considered impaired when, based on current information and
events, it is probable that Sterling will be unable to collect the scheduled
payments of principal or interest when due according to the contractual terms of
the loan agreement. Factors considered by management in determining impairment
include payment status, collateral value, and the probability of collecting
scheduled principal and interest payments when due. Loans that experience
insignificant payment delays and payment shortfalls generally are not classified
as impaired. Management determines the significance of payment delays and
payment shortfalls on a case-by-case basis, taking into consideration all of the
circumstances surrounding the loan and the borrower, including the length of the
delay, the reasons for the delay, the borrower's prior payment record, and the
amount of the shortfall in relation to the principal and interest owed.
Impairment is measured on a loan-by-loan basis for commercial and construction
loans by either the present value of expected future cash flows discounted at
the loans effective interest rate, the loans obtainable market price, or the
fair value of the collateral if the loan is collateral dependent.

Large groups of smaller balance homogeneous loans are collectively
evaluated for impairment. Accordingly, Sterling does not separately identify
individual consumer and residential loans for impairment disclosures.

Servicing - Servicing assets are recognized as separate assets when rights
are retained through the sale of financial assets. Capitalized servicing rights
are reported in other assets and are amortized into noninterest income in
proportion to, and over the period of, the estimated future net servicing income
of the underlying financial assets. Servicing assets are evaluated for
impairment based upon the fair value of the rights as compared to amortized
cost. Impairment is determined by stratifying rights by predominant
characteristics, such as interest rate and terms. Fair value is determined using
prices for similar assets with similar characteristics, when available, or based
upon discounted cash flows using market-based assumptions. Impairment is
recognized through a valuation allowance for individual stratum, to the extent
the fair value is less than the capitalized amount for the stratum.

Financial Instruments

Credit Related Financial Instruments - In the ordinary course of business,
Sterling has entered into commitments to extend credit, commercial letters of
credit and standby letters of credit. Such financial instruments are recorded
when they are funded.

Derivative financial instruments - As part of Sterling's asset/liability
management, it uses interest rate contracts, which include swaps and cap
agreements, to hedge various exposures or to modify interest rate
characteristics of various balance sheet accounts. Derivatives that are used as
part of the asset/liability management process are linked to specific assets or
liabilities and have high correlation between the contract and the underlying
item being hedged, both at inception and throughout the hedge period. Sterling
formally documents all relationships between hedging instruments and hedged
items, as well as its risk-management objective and strategy for undertaking
each hedge transaction.

Statement of Financial Accounting Standards No. 133, Accounting for
Derivative Instruments and Hedging Activities, as amended, requires all
derivative instruments to be carried at fair value on the balance sheet.
Statement No. 133 provides special hedge accounting provisions, which permit the
change in fair value
46

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

of the hedged item related to risk being hedged to be recognized in earnings in
the same period and in the same income statement line as the change in fair
value of the derivative.

Sterling's derivatives consist of cash flow hedges, which are designed to
mitigate exposures to variability in expected cash flows. Cash flow hedges are
accounted for by recording the fair value of the derivative instrument on the
balance sheet as either a freestanding asset or liability, with a corresponding
offset recorded in other comprehensive income within stockholders' equity, net
of tax. Amounts are reclassified from other comprehensive income to the income
statement in the period or periods the hedged forecasted transaction affects
earnings. Under the cash flow hedge method, derivative gains and losses not
effective in hedging the change in expected cash flows of the hedged item are
recognized immediately in income in the interest expense line. At the hedge's
inception and at least quarterly thereafter, an assessment is performed to
determine whether changes in the cash flows of the derivative instruments have
been highly effective in offsetting changes in the cash flows of the hedged
items and whether they are expected to be highly effective in the future. If it
is determined a derivative instrument has not been or will not continue to be
highly effective as a hedge, hedge accounting is discontinued prospectively.

Foreclosed Assets - Assets acquired through, or in lieu of, loan
foreclosure are held for sale and are initially recorded at the lower of fair
value or carrying value at the date of foreclosure. Any initial charge necessary
is reflected as a charge to the allowance for loan losses. Subsequent to
foreclosure, valuations are periodically performed by management and the assets
are carried at the lower of carrying amount or fair value less cost to sell.
Revenues and expenses from operations and changes in the valuation allowance are
included in other non-interest expenses.

Premises and Equipment - Land is carried at cost. Buildings, furniture,
equipment and leasehold improvements are stated at cost, less accumulated
depreciation and amortization. Depreciation is computed primarily on the
straight-line method over the estimated useful lives of the asset.

Assets Held for Operating Leases - Leases that do not meet the criteria of
direct finance leases are accounted for as operating leases. Leased equipment is
recorded at cost and depreciated over the lease term, to the estimated residual
value at the expiration of the lease term, generally on a straight-line basis.
Sterling periodically reviews estimated net realizable values and records losses
in current earnings if the estimated residual balance indicates impairment.

Goodwill - Goodwill represents the excess of the cost of an acquisition
over the fair value of the assets acquired. Sterling segments goodwill into two
different categories, goodwill associated with business acquisitions and
goodwill associated with branch purchases. As a result of the adoption of
Statement No. 142, Goodwill and Other Intangible Assets, business acquisition
goodwill is no longer ratably amortized into the income statement over an
estimated life, but rather is tested at least annually for impairment. Sterling
continues to amortize its branch purchase goodwill over a twenty-year period.

Income Taxes - Deferred income tax assets and liabilities are determined
using the liability (or balance sheet) method. Under this method, the net
deferred tax asset or liability is determined based on the tax effects of the
temporary differences between the book and tax bases of the various balance
sheet assets and liabilities and gives current recognition to changes in tax
rates and laws.

Advertising - Sterling expenses advertising costs as incurred. The expenses
for 2002, 2001, and 2000 were $1,545,000, $1,172,000, and $1,042,000.

Stock Compensation Plan -- Statement of Financial Accounting Standards No.
123, Accounting for Stock-Based Compensation, encourages all entities to adopt a
fair value-based method of accounting for employee stock compensation plans,
whereby compensation cost is measured at the grant date based on the value of
the award and is recognized over the vesting period. However, it also allows an
entity to continue to measure compensation cost for those plans using the
intrinsic value based method of accounting prescribed by

47

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees, whereby compensation cost is the excess, if any, of the quoted market
price of the stock at the grant date over the amount an employee must pay to
acquire the stock. Stock options issued under Sterling's stock incentive plan
have no intrinsic value at the grant date, and under Opinion No. 25, no
compensation cost is recognized for them. Sterling has elected to continue with
the accounting methodology in Opinion No. 25 and, as a result, has provided pro
forma disclosures of net income, earnings per share and other disclosures, as if
the fair value based method of accounting had been applied.

Earnings Per Share - Basic earnings per share represents income available
to common stockholders divided by the weighted-average number of common shares
outstanding during the period. Diluted earnings per share reflect additional
common shares that would have been outstanding if potential dilutive common
shares had been issued. Potential common shares that may be issued by Sterling
consist solely of outstanding stock options and are determined using the
treasury stock method.

Earnings per common share have been computed based on the following:

All prior year per share amounts have been properly restated to reflect the
5-for-4 stock split effected in the form of a 25% stock dividend declared in
2002.

Comprehensive Income - Accounting principles generally require that
recognized revenue, expenses, gains and losses be included in net income.
Although certain changes in assets and liabilities, such as unrealized gains and
losses on available-for-sale securities and interest rate derivatives are
reported as separate components of the equity section of the balance sheet, such
items, along with net income, are components of comprehensive income.

The components of other comprehensive income and related tax effects are as
follows:

48

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The ending accumulated balances for each item included in accumulated other
comprehensive income, net of related income taxes, were as follows:

Reclassifications -- Certain items in the 2001 and 2000 consolidated
financial statements have been reclassified to conform to the 2002 presentation
format. Such reclassifications had no impact on net income.

Recent Accounting Pronouncements -- In October 2002, the Financial
Accounting Standards Board issued Statement No. 147, Acquisitions of Certain
Financial Institutions. This statement provides guidance on accounting for the
acquisition of a financial institution, including the acquisition of part of a
financial institution. The statement defines criteria for determining whether
the acquired financial institution meets the conditions for a "business
combination". If the acquisition meets the conditions of a "business
combination", the specialized accounting guidance under Statement No. 72,
Accounting for Certain Acquisitions of Banking or Thrift Institutions will not
apply after September 30, 2002 and the amount of any unidentifiable intangible
asset will be reclassified to goodwill upon adoption of Statement No. 147.
Sterling has certain goodwill acquired in a branch acquisition that did not
qualify as a business combination under SFAS #141, and accordingly, continues to
be amortized.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated
with Exit or Disposal Activities. This statement addresses the accounting for
costs associated with disposal activities covered by SFAS No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets, and with exit and
restructuring activities previously covered by Emerging Issues Task Force
("EITF") Issue No. 94-3 "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity." This statement supercedes EITF
No. 94-3 in its entirety and requires that a liability for all costs be
recognized when the liability is incurred. This Statement also establishes a
fair value objective for initial measurement of the liability. The statement
will be applied prospectively to exit or disposal activities initiated after
December 31, 2002.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation -- Transition and Disclosure, which provides guidance for entities
which voluntarily change from the intrinsic value method of accounting for stock
based compensation under APB 25 to the fair value method of accounting under
SFAS No. 123. Additional disclosures are required under SFAS No. 148 on both an
annual and interim basis. See Note 18 to the Consolidated Financial Statements
for the disclosures required under this statement.

In January 2003, the Financial Accounting Standards Board ("FASB") issued
FASB Interpretation No. 46 ("FIN 46"), "Consolidation of Variable Interest
Entities." This interpretation provides guidance on how to identify a variable
interest entity ("VIE") and determine when the assets, liabilities,
noncontrolling interests, and results of operations of a VIE need to be included
in a company's consolidated financial statements. A company that holds variable
interest in an entity will need to consolidate the entity if the company's
interest in the VIE is such that the company will absorb a majority of the VIE's
expected losses and/or receive a majority of the entity's expected residual
returns, if they occur. FIN 46 also requires additional disclosures by primary
beneficiaries and other significant variable interest holders for all financial
statements issued after January 31, 2003. The new accounting provisions of this
interpretation became effective upon issuance for all new variable interest
entities created after January 31, 2003, and to variable

49

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

interest entities in which an enterprise obtains an interest after that date. It
applies to the first fiscal year or interim period beginning after June 15,
2003, to variable interest entities in which an enterprise holds a variable
interest that it acquired before February 1, 2003. Sterling is currently
assessing the impact, if any, the interpretation will have on our accounting for
special purpose entities and Sterling's results of operations and financial
position.

In November 2002, the FASB issued FASB Interpretation No. 45 ("FIN 45"),
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." This interpretation expands the
disclosures to be made by a guarantor in its financial statements about its
obligations under certain guarantees and requires the guarantor to recognize a
liability for the fair value of an obligation assumed under certain specified
guarantees. FIN 45 clarifies the requirements of SFAS No. 5 relating to
guarantees. In general, FIN 45 applies to contracts or indemnification
agreements that contingently require the guarantor to make payments to the
guaranteed party based on changes in an underlying that is related to an asset,
liability, or equity security of the guaranteed party. Certain guarantee
contracts are excluded from both the disclosure and recognition requirements of
this interpretation, including, among others, guarantees related to commercial
letters of credit, loan commitments, and subordinated interests in an SPE. Other
guarantees are subject to the disclosure requirements of FIN 45 but not to the
recognition provisions and include, among others, a guarantee accounted for as a
derivative instrument under SFAS 133, a parent's guarantee of debt owed to a
third party by its subsidiary or vice versa, and a guarantee which is based on
performance not price. The disclosure requirements of FIN 45 are effective for
Sterling as of December 31, 2002, and require disclosure of the nature of the
guarantee, the maximum potential amount of future payments that the guarantor
could be required to make under the guarantee, and the current amount of the
liability, if any, for the guarantor's obligations under the guarantee (see Note
21). The accounting recognition requirements of FIN 45 are to be applied
prospectively to guarantees issued or modified after December 31, 2002. Adoption
of FIN 45 will not have a material impact on Sterling's results of operations or
financial position.

NOTE 2 -- BUSINESS COMBINATIONS

Hanover Bancorp, Inc. -- On July 27, 2000, Sterling completed its merger
with Hanover Bancorp, Inc. (Hanover), parent company of Bank of Hanover and
Trust Company, headquartered in Hanover, Pennsylvania. Bank of Hanover, with 14
branches in York and Adams counties, Pennsylvania, and one branch in
Westminster, Maryland, continues to operate as a separate commercial bank.

Under the terms of the agreement, Hanover Bancorp shareholders received .93
shares of Sterling common stock for each share of Hanover Bancorp's common stock
in a tax-free exchange. Sterling issued 3,611,409 shares of its common stock in
connection with the merger.

This transaction was accounted for under the pooling-of-interests method of
accounting. Accordingly, the consolidated financial statements have been
restated to include the consolidated accounts of Hanover Bancorp for 2000.
Financial data for Sterling and Hanover from January 1 to July 31, 2000 is
presented below. Although the consummation date was July 27, 2000, the financial
data presented is for the nearest interim period.

Equipment Finance, Inc. -- On February 28, 2002, Sterling acquired 100
percent of the outstanding common shares of Equipment Finance, Inc. (EFI), a
Lancaster-based commercial finance company. The results of EFI's operations have
been included in the consolidated financial statements since that date. EFI

50

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

specializes in financing forestry and land clearing equipment through more than
150 equipment dealer locations ranging from Maine to Florida. As a result of the
acquisition, Sterling plans to enhance earnings and provide financial product
diversification.

The transaction was accounted for under the provisions of Statement No.
141, Business Combinations, which requires assets acquired and liabilities
assumed to be recorded at their fair value on the date of the acquisition. The
carrying amounts of the assets acquired, primarily loans receivables, and the
liabilities assumed, primarily borrowings on February 28, 2002, approximated
their fair value. The excess of the acquisition cost over the fair value of the
net assets acquired has been recorded as goodwill. Goodwill recognized in this
transaction was approximately $17 million, which was assigned to the commercial
finance segment. Consistent with the provisions of Statement No. 142, Goodwill
and Other Intangible Assets, goodwill will not be amortized into net income over
an estimated life but rather will be tested at least annually for impairment
based on the guidance provided in the statement.

The aggregate purchase price was $30,500,000 including $9,502,000 of cash
and common stock valued at $20,998,000. The value of the 954,452 common shares
issued was based on the closing price of Sterling Financial common stock at the
time of the Agreement and Plan of Reorganization (Merger Agreement) was entered
into. In accordance with the items of the Merger Agreement, there is no
contingent consideration associated with this transaction. An escrow account of
$1,065,000 has been established and will be released in three years, upon
determination that no unknown claims or liabilities existed as of the
acquisition date.

NOTE 3 -- RESTRICTIONS ON CASH AND DUE FROM BANKS

Sterling's subsidiary banks are required to maintain reserves, in the form
of cash and balances with the Federal Reserve Bank, against their deposit
liabilities. The average amount of these reserve balances for the year ended
December 31, 2002 were approximately $8,368,000. Balances maintained at the
Federal Reserve Bank are included in cash and due from banks.

NOTE 4 -- SECURITIES

The amortized cost and fair value of securities at December 31, 2002, by
contractual maturity, are shown below. Expected maturities may differ from
contractual maturities or call dates because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.

51

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The amortized cost and fair values of securities were as follows:

52

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Included in held-to-maturity equity securities are Federal Reserve Bank
stock, Federal Home Loan Bank of Pittsburgh stock and Atlantic Central Bankers
Bank stock.

Securities pledged to secure government and other public deposits, trust
deposits, short-term borrowings, and other balances as required or permitted by
law were carried at $157,199,000 in 2002 and $126,207,000 in 2001.

Proceeds from sales of securities available-for-sale were $29,150,000,
$28,107,000, and $21,766,000 for the years ended December 31, 2002, 2001, and
2000. Gross gains of $1,520,000, $3,170,000, and $1,042,000 were realized on
these sales for the years ended December 31, 2002, 2001, and 2000. Gross losses
of $1,980,000, $460,000, and $351,000 were recognized for the years ended
December 31, 2002, 2001, and 2000. Gross losses include impairment charges of
$1,160,000 and $224,000 for years ended December 31, 2002 and 2001.

NOTE 5 -- LOANS

A summary of the balances of loans follows:

Changes in the allowance for loan losses are as follows:

Information concerning impaired loans is as follows:

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Impaired loans included $521,000 and $531,000 of loans that were considered
troubled debt restructurings at December 31, 2002 and 2001. The remainder of the
impaired loan balance consisted of nonaccrual loans at December 31, 2002 and
2001. Loans over 90 days past due still accruing interest were $545,000 and
$1,562,000 at December 31, 2002 and 2001.

NOTE 6 -- MORTGAGE BANKING ACTIVITIES

Loans serviced for others are not included in the accompanying consolidated
balance sheets. The unpaid principal mortgage loans serviced for others were
$403,559,000, $325,030,000 and $276,436,000 at December 31, 2002, 2001 and 2000.

Changes in the mortgage servicing right asset is as follows:

Information concerning the activity in the related mortgage servicing
rights valuation allowance is as follows:

For valuation purposes, at December 31, 2002, Sterling assumed a weighted
average discount rate of 8.4% and assumed prepayments speeds were consistent
with published rates for Sterling's market area. Additional factors such as
economic data, market trading information, credit risk and professional judgment
are used in determining the valuation allowance.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 7 -- PREMISES AND EQUIPMENT

A summary of the cost and accumulated depreciation of premises and
equipment follows:

The subsidiary banks of Sterling lease certain banking facilities under
operating leases which expire on various dates through 2021. Renewal options are
available on these leases. Minimum future rental payments as of December 31,
2002, under non-cancelable real estate leases, are payable as follows:

Due in 2003................................................. $1,220
Due in 2004................................................. 1,077
Due in 2005................................................. 937
Due in 2006................................................. 772
Due in 2007................................................. 612
Thereafter.................................................. 4,068
------
Total minimum future rental payments........................ $8,686
======

Total rent expense charged to operations amounted to $1,288,000, $1,096,000
and $961,000 for the years ended December 31, 2002, 2001, and 2000.

NOTE 8 -- LEASES

Information concerning net investment in direct financing leases, included
in loans receivable:

The allowance for uncollectible lease payments, included in the allowance
for loan losses, was $1,094,000 and $813,000 at December 31, 2002 and 2001.

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Investments in property on operating lease and property held for lease by
major classes is as follows:

Minimum future rentals on noncancelable finance and operating leases as of
December 31, 2002, are as follows:

NOTE 9 -- DEPOSITS

The aggregate amount of time deposits in denominations of $100,000 or more
at December 31, 2002 and 2001 was $141,380,000 and $102,925,000.

At December 31, 2002, the scheduled maturities of time deposits are as
follows:

Due in 2003................................................. $372,657
Due in 2004................................................. 199,074
Due in 2005................................................. 65,985
Due in 2006................................................. 83,586
Due in 2007................................................. 31,418
Thereafter.................................................. 7,874
--------
Total....................................................... $760,594
========

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 10 -- SHORT-TERM BORROWINGS

Short-term borrowings and weighted average interest rates consist of the
following:

The securities sold under repurchase agreements represent collateral to the
lending party and are obligations of U.S. agencies and corporations. These
securities are maintained under Sterling's control.

NOTE 11 -- LONG-TERM DEBT

Long-term debt consisted of the following:

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The contractual maturities of long-term debt as of December 31, 2002, are
shown below. Actual maturities may differ from contractual maturities due to the
convertible features of the FHLB advances, which may be prepaid by Sterling, in
the event the FHLB converts them to adjustable rate.

Due in 2003................................................. $ 26,547
Due in 2004................................................. 30,312
Due in 2005................................................. 17,062
Due in 2006................................................. 8,750
Due in 2007................................................. 22,488
Thereafter.................................................. 50,319
--------
$155,478
========

Under the terms of the notes payable to financial institutions, Sterling is
required to meet certain conditions, including specific financial ratios, as
measured on a periodic basis. Sterling was in compliance with these covenants
during the periods presented. As of December 31, 2002, Sterling has unused
funding commitments from these financial institutions and the FHLB totaling
$251,700,000.

NOTE 12 -- TRUST PREFERRED SECURITIES

On March 27, 2002, Sterling issued $20,000,000 of preferred capital
securities through its wholly owned special purpose subsidiary trust, Sterling
Financial Statutory Trust I, created solely for the issuance of these
securities. Dividends on the securities are payable at an annual rate of 3-month
LIBOR, plus 360 basis points, adjusted quarterly (5.0% at December 31, 2002).
The proceeds from the preferred capital securities were invested by the
statutory trust company in junior subordinated deferrable interest debentures of
Sterling, at terms consistent with the preferred capital securities. The
preferred capital securities are redeemable in whole or part by Sterling, at a
price equal to 100% of the principal amount plus accrued interest, on or after
March 26, 2007. Earlier redemption is allowed in the event of amendments to
regulatory requirements or federal tax law. The preferred capital securities
must be redeemed upon maturity of the debentures in 2032.

Sterling Financial Statutory Trust I is a wholly-owned subsidiary of
Sterling, whose sole asset consists of the junior subordinated debenture issued
by Sterling. Sterling's obligations under the debentures and related documents,
taken together, constitute a full and unconditional guarantee by Sterling of the
Statutory Trust's obligations under the preferred capital securities. The Trust
Preferred securities are classified in the accompanying balance sheet as
"company obligated mandatorily redeemable preferred securities of subsidiary
trust", and the related dividends are included as interest expense. The trust
preferred securities qualify for Tier I capital treatment for Sterling.

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NOTE 13 -- INCOME TAXES

The allocation of income taxes between current and deferred is as follows:

On June 28, 2002, a nonbanking affiliate of Sterling organized as a
C-corporation was converted to a single member limited liability company. As a
result of this conversion, the need for approximately $1.2 million in state
deferred tax liabilities was eliminated and resulted in a reduction of income
tax expense for the period.

The reason for the differences between the federal statutory income tax
rate and the effective tax rates are summarized as follows:

The income tax provision (benefit) includes ($161,000), $949,000, and
$242,000 of income taxes relating to realized securities gains (losses) for the
years ended December 31, 2002, 2001, and 2000.

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The significant components of Sterling's deferred tax assets and
liabilities are as follows:

NOTE 14 -- COMMITMENTS AND CONTINGENT LIABILITIES

Sterling is a party to derivative instruments in the normal course of
business to meet the financing needs of its customers and to reduce its own
exposure to fluctuations in interest rates.

Credit-Related Financial Instruments - Sterling credit-related financial
instruments include commitments to extend credit and letters of credit. Such
commitments involve, to varying degrees, elements of credit and interest rate
risk in excess of the amounts recognized in the consolidated balance sheets.

Sterling's exposure to credit loss is represented by the contractual amount
of these commitments. Sterling follows the same credit policies in making
commitments as it does for on-balance sheet instruments.

The following outstanding instruments have contract amounts that represent
credit risk.

Commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require the payment of a fee. Since many of the commitments are expected
to expire without

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

being drawn upon, the total commitment amounts do not necessarily represent
future cash requirements. Each customer's creditworthiness is evaluated on a
case-by-case basis. The amount of collateral obtained, if deemed necessary upon
extension of credit, is based on management's credit evaluation of the customer
and generally consists of real estate. Excluded from these amounts are
commitments to extend credit in the form of check credit or related plans.

Standby letters of credit are conditional commitments issued by Sterling to
guarantee the performance of a customer to a third party. Those letters of
credit are primarily issued to support public and private borrowing
arrangements. Essentially all letters of credit issued have expiration dates
within one year. The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loan facilities to customers.
Sterling generally holds collateral supporting those commitments if deemed
necessary.

Derivative Financial Instruments -- Sterling utilizes derivative
instruments to assist in asset liability management in order to reduce its own
exposure in earnings volatility caused by fluctuations in interest rates.
Derivative instruments that are used as a part of Sterling's interest rate
risk-management strategy include an interest rate swap and an interest rate cap
with indices that relate to pricing of specific liabilities. Interest rate swaps
are contracts in which a series of interest rate flows are exchanged over a
prescribed period. The notional amount on which the interest payments are based
is not exchanged. Most interest rate swaps involve the exchange of fixed and
floating interest payments, such as converting variable rate debt to fixed-rate.
By entering into the swap, the principal amount of the debt would remain
unchanged but the interest payment streams would change.

Sterling utilizes its interest rate swaps to hedge cash flow variability
related to floating rate liabilities, through the use of pay-fixed instruments.
Gains and losses on derivative instruments reclassified from accumulated other
comprehensive income to current-period earnings are included in the line item in
which the hedged cash flows are recorded. At December 31, 2002, other
comprehensive income included a deferred after-tax net loss of $1,078,000
consisting of a loss on pay-fixed interest rate swap used to hedge future cash
flows on floating rate liabilities. A portion of the loss is reclassified from
other comprehensive income to interest expense as net settlements occur. For the
year ended December 31, 2002, Sterling recognized interest expense of $543,000
related to interest rate swaps accounted for as cash flow hedges. At December
31, 2002, the notional amount of the interest rate swap was $25,000,000, and had
a negative carrying value of $1,875,000. The interest rate swap matures in 2006.

Interest rate options, which include caps, are contracts that transfer,
modify, or reduce interest rate risk in exchange for the payment of a premium
when the contract is initiated. A premium is paid for the right, but not the
obligation, to buy or sell a financial instrument at predetermined terms in the
future. At December 31, 2002, the notional amount of the interest rate cap was
$5,000,000, and had a carrying value of a positive $13,000.

By using derivative instruments, Sterling is exposed to credit and market
risk. If the counterparty fails to perform, credit risk is equal to the extent
of the fair value gain in a derivative. When the fair value of a derivative
instrument contract is positive, this generally indicates the counterparty owes
Sterling, and, results in credit risk. When the fair value of a derivative
instrument contract is negative, Sterling owes the counterparty, therefore it
has no credit risk. Sterling utilizes high-quality counterparties to minimize
credit risk.

Market risk is the adverse effect that a change in interest rates has on
the financial instrument. Sterling, through its Asset/Liability Committee,
manages the market risk associated with interest rate contracts by monitoring
limits as to the types and degree of risk that may be undertaken.

Other contingent liabilities -- From time to time, Sterling and its
subsidiaries may be named as defendants in legal proceedings that arise during
the normal course of business. While any litigation has an

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

element of uncertainty, management is of the opinion that the liability, if any,
resulting from these actions will not have a material effect on the consolidated
financial condition or results of operations of Sterling.

NOTE 15 -- STOCKHOLDERS' EQUITY AND REGULATORY MATTERS

Sterling maintains a dividend reinvestment and stock purchase plan. Under
the Plan, shareholders may purchase additional shares of Sterling's common stock
at the prevailing market prices with reinvested dividends and voluntary cash
payments. Sterling has reserved 1,722,656 shares of the corporation's common
stock to be issued under the dividend reinvestment and stock purchase plan. As
of December 31, 2002, 1,356,994 shares were available to be issued under the
plan.

Sterling also maintains a directors' stock compensation plan (Directors'
Plan). Under the Directors' Plan, each non-employee director is entitled to
receive 325 shares of Sterling's common stock each July 1. Sterling has reserved
39,375 shares of the corporation's common stock to be issued under the
directors' stock compensation plan. As of December 31, 2002, 18,475 shares were
available to be issued under the plan.

During the first quarter of 2001, Sterling announced that the Board of
Directors authorized the repurchase of up to 187,500 shares of the outstanding
common stock. Through December 31, 2002, 88,846 shares have been repurchased
under the repurchase program.

Sterling (on a consolidated basis) and its banking subsidiaries are subject
to various regulatory capital requirements administered by federal banking
agencies. Failure to meet minimum capital requirements can initiate certain
mandatory and possibly additional discretionary actions by regulators that, if
undertaken, could have a direct material effect on Sterling's and the banks'
financial statements. Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, Sterling and its banking subsidiaries
must meet specific capital guidelines that involve quantitative measures of
their assets, liabilities and certain off-balance sheet items as calculated
under regulatory accounting practices. The capital amounts and reclassifications
are also subject to qualitative judgments by the regulators about components,
risk weightings, and other factors. Prompt corrective action provisions are not
applicable to bank holding companies.

Quantitative measures established by regulation to ensure capital adequacy
require Sterling and its banking subsidiaries to maintain minimum amounts and
ratios (set forth in the following table) of Total and Tier 1 capital (as
defined) to average assets (as defined in the Regulations). Management believes,
as of December 31, 2002, and 2001, that Sterling and the banks met all minimum
capital adequacy requirements to which they are subject.

As of December 31, 2002, the most recent notification from the Federal
Deposit Insurance Corporation categorized the banks as "well capitalized" under
the regulatory framework for prompt corrective action. To be categorized as
"well capitalized" institutions must maintain minimum total risk-based, Tier 1
risk-based and Tier 1 leverage ratios as set forth in the following tables.
There are no conditions or events since the

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

notification that management believes have changed the banks' category.
Sterling's and the banks' actual capital amounts and ratios as of December 31,
2002, and 2001 are also presented in the table.

NOTE 16 -- MERGER RELATED COSTS

During the third quarter of 2000, Sterling completed its merger with
Hanover Bancorp, Inc. and incurred $2,898,000 of merger related and
restructuring charges. The direct costs that resulted from the merger totaled

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

$1,426,000, and consisted primarily of legal, accounting, and investment
advising fees, as well as regulatory filing fees and other miscellaneous
expenses. In addition, Sterling incurred restructuring costs totaling
$1,472,000, which primarily consists of severance and related benefit,
professional fees, termination fees related to non-cancelable service contracts
and asset write-offs related to the conversion of the banking subsidiaries into
a common core processing system. The conversion to the new core processing
system and resulting reduction in the workforce is expected to result in an
estimated net annual savings of approximately $1.5 million, of which
approximately 33% was realized in 2001 and 100% was realized in year 2002.

The following summarizes the restructuring expenses charged to operations
during 2000, and the remaining restructuring accrual balance at December 31,
2002.

NOTE 17 -- EMPLOYEE BENEFIT PLANS

In December 2000, Bank of Lancaster County's Board of Directors approved a
resolution that terminated its qualified non-contributory plan in 2001,
including the freezing of benefits effective February 28, 2001. All excess funds
that remain after satisfaction of all liabilities of the plan will be provided
to eligible active participants to provide additional retirement income
benefits. As a result of the board's action, plan assets were converted to cash
equivalents in the first quarter of 2001, thereby causing the expected return on
plan assets to be lowered from 9.0% to 5.5%. Further, the discount rate used in
calculating the projected benefit obligation was lowered from 7.00% in 1999 to
5.50% in 2000, to more closely match the short-term nature of the settlement.

The Bank of Lancaster County also sponsored a retirement restoration plan
for any officer whose compensation exceeds $170,000. The plan was designed to
"restore" the level of benefits that is lost to these employees under the
qualified retirement plans because of Internal Revenue Code restrictions.
Consistent with termination of the qualified non-contributory plan, the Board of
Directors also terminated in 2001 the retirement restoration plan.

Sterling accounted for the settlement and termination of the qualified
non-contributory and retirement restoration plans in accordance with FASB
Statement No. 88, Employers' Accounting for Settlements and Curtailments of
Defined Benefit Pension Plans and for Termination Benefits. The settlement
included lump-sum payments and the purchase of annuity contracts that benefited
the participants.

Sterling sponsors a qualified postretirement benefit plan that provides
certain health care insurance benefits for retired employees who have attained
the age of 60 and have completed 10 years of full-time or limited benefits
employment.

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The change in benefit obligation and the change in fair value of plan
assets related to the qualified pension plans, nonqualified pension and other
postretirement benefits for each of the years in the two--year period ended
December 31, 2002, is as follows:

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The components of the retirement benefits cost are presented below.

Health care cost trend rates assumed with respect to other postretirement
benefits in measuring the accumulated postretirement benefit were 4.5% in 2002
and later. The health care cost trend rate assumption has a significant effect
on the amounts reported. The following table reflects the effect of a 1% point
increase and a 1% point decrease in the health care cost trend rates:

The individual banking affiliates of Sterling Financial Corporation each
sponsored 401(k) retirement plans for their employees. These plans were merged
into the Sterling Financial Corporation 401(k) Retirement Plan, which was
approved by the Board of Directors and was implemented effective July 1, 2001.
Banking affiliate employees who have attained age 18 and have completed 30 days
of employment may participate in the plan through salary deferral. To be
eligible for the matching contribution and the performance incentive feature,
the employee must be age 18 and have completed one year of service with 1,000
hours. Employees of Town and Country, a wholly owned subsidiary of Bank of
Lancaster County, participate only in the salary deferral portion of the plan.

Under the salary deferral feature of the plan a participant may contribute
from 1% to 20% of their compensation. Sterling makes matching contributions
equal to 100% of the first 2% of the employee's contributions to the plan that
are fully vested at all times and employees may direct the investment of those

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

contributions to one or all of the thirteen funds available. Matching
contributions as of July 1, 2001 and forward are also fully vested and are
invested based on the employee's direction.

Under the performance incentive feature of the plan, additional
contributions are made to participant accounts for each plan year for an amount
determined by the Board of Directors based on achieving certain performance
objectives. The performance incentive feature is paid entirely in Sterling
common stock. Total expense for the performance incentive feature and employer
matching contribution was $1,340,000, $1,105,000, and $733,000 for the years
ended December 31, 2002, 2001 and 2000.

The number of shares owned at December 31, 2002, in the Sterling Financial
401(k) Retirement Plan total 1,012,899 shares, with an approximate market value
of $23,955,000. Dividends totaling $683,000 were reinvested in additional shares
of Sterling common stock.

NOTE 18 -- STOCK COMPENSATION

Sterling has an omnibus stock incentive plan under which incentive and
nonqualified stock options, stock appreciation rights, or restricted stock may
be issued. To date, only incentive and nonqualified stock options have been
issued under the plan. The options are granted periodically to key employees at
a price not less than the fair value of the shares at the date of grant, and
have a term of ten years. As of December 31, 2002, Sterling had approximately
996,808 shares of common stock reserved for issuance under the stock incentive
plans.

Sterling accounts for its stock incentive plan under the recognition and
measurement principles of APB Opinion No. 25, Accounting for Stock Issued to
Employees, and related Interpretations. No stock-based employee compensation
cost for option grants are reflected in net income, as all options granted under
those plans had an exercise price equal to the market value of the underlying
common stock on the date of grant. The following table illustrates the effect on
net income and earnings per share if Sterling had applied the fair value
recognition provisions of FASB Statement No. 123, Accounting for Stock-Based
Compensation, to stock-based employee compensation.

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The fair value of each option granted is estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions:

A summary of the status of Sterling's stock option plans is presented
below:

Information pertaining to options outstanding at December 31,2002, is as
follows:

Compensation expense of $375,000 was recorded in 2002 related to the fair
value of stock options from former employees whose option terms were modified
upon the change in employment status.

NOTE 19 -- RELATED PARTY TRANSACTIONS

Certain directors and officers of Sterling Financial Corporation and its
subsidiaries, their immediate families and companies in which they are principal
owners (more than 10%), were indebted to the subsidiary banks during 2002 and
2001. All loans were made on substantially the same terms, including interest
rates and

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

collateral, as those prevailing at the time for comparable transactions with
other persons and, in the opinion of the management of the banks, do not involve
more than a normal risk of collectibility or present other unfavorable features.
Total loans to these persons at December 31, 2002, and 2001 amounted to
$6,678,000 and $9,636,000. During 2002, $1,018,000 of new loans were made and
repayments totaled $3,976,000.

NOTE 20 -- RESTRICTIONS ON DIVIDENDS, LOANS AND ADVANCES

Federal and state banking regulations place certain restrictions on
dividends paid and loans or advances made to Sterling by its subsidiary banks.
The amount of dividends that may be paid from the subsidiary banks to Sterling
totals $48,024,000 at December 31, 2002. However, dividends paid by the
subsidiary banks would be prohibited if the effect thereof would cause the
banks' capital to be reduced below applicable minimum capital requirements.

Under current Federal Reserve regulations, the subsidiary banks are limited
to the amounts they may loan to their affiliates, including Sterling. Loans to a
single affiliate may not exceed 10%, and the aggregate of loans to all
affiliates may not exceed 20% of each bank subsidiary's capital and surplus (as
defined by regulation). At December 31, 2002, the maximum amount available for
loans to Sterling totaled $18,811,000.

NOTE 21 -- FAIR VALUE OF FINANCIAL INSTRUMENTS

The fair value of a financial instrument is the current amount that would
be exchanged between willing parties, other than in a forced liquidation. Fair
value is best determined based upon quoted market prices. However, in many
instances, there are no quoted market prices for Sterling's various financial
instruments. In cases where quoted market prices are not available, fair values
are based on estimates using present value or other valuation techniques. Those
techniques are significantly affected by the assumptions used, including the
discount rate and estimates of future cash flows. Accordingly, the fair value
estimates may not be realized in an immediate settlement of the instrument. FASB
Statement No. 107, Disclosures about Fair Value of Financial Instruments,
excludes certain financial instruments and all nonfinancial instruments from its
disclosure requirements. Accordingly, the aggregate fair value amounts presented
may not necessarily represent the underlying fair value of Sterling.

The following methods and assumptions were used by Sterling in estimating
fair value disclosures for financial instruments.

Cash and cash equivalents: The carrying amounts of cash, due from banks
and federal funds sold approximate fair value.

Interest-bearing deposits in banks and short-term investments: The carrying
amounts of interest-bearing deposits and short-term investments maturing within
90 days approximate their fair values. Fair values of other interest-bearing
deposits and short-term investments are estimated using discounted cash flows
analyses based on current rates for similar type instruments.

Securities: Fair values for securities, excluding restricted equity
securities, are based on quoted market prices, if available. If a quoted market
price is not available, fair value is estimated using quoted market prices for
similar securities. The carrying value of restricted stock approximates fair
value based on the redemption provisions of the security.

Mortgage loans held for sale: Fair values of mortgage loans held for sale
are based on commitments on hand from investors or prevailing market prices.

Loans receivable: Fair values for loans are estimated using discounted
cash flow analyses, using interest rates currently being offered for loans with
similar terms to borrowers of similar credit quality. Lease contracts are
specifically exempt from fair value reporting and are not included in this
table.

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Deposit liabilities: The fair values disclosed for demand deposits (e.g.,
interest and non-interest checking, passbook savings and certain types of money
market accounts) are, by definition, equal to the amount payable on demand at
the reporting date (i.e. their carrying amount). Fair values for fixed-rate
certificates of deposits are estimated using a discounted cash flow calculation
that applies interest rates currently being offered on certificates to a
schedule of aggregated expected monthly maturities on time deposits.

Short-term borrowings: The carrying amounts of short-term borrowings
maturing within 90 days and floating rate short-term borrowings approximate
their fair values. Fair values of other short-term borrowings are estimated
using discounted cash flow analyses based on Sterling's current incremental
borrowing rates for similar types of borrowing arrangements.

Long-term debt: The fair values of Sterling's long-term debt are estimated
using discounted cash flow analyses based on current incremental borrowings
rates for similar types of borrowing arrangements.

Accrued interest: The carrying amounts of accrued interest approximate
fair value.

Derivative assets and liabilities: The fair values for derivative
instruments are based on cash flow projection models obtained from third
parties.

Off-balance sheet instruments: Fair values for off-balance sheet,
credit-related financial instruments are based on fees currently charged to
enter into similar agreements, taking into account the remaining terms of the
agreements and the counterparties' credit standing. The fair values of
off-balance sheet instruments are not significant at December 31, 2002, and
2001.

The estimated fair values and related carrying or notional amounts of
Sterling's financial instruments are as follows:

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 22 -- CONDENSED FINANCIAL STATEMENTS OF PARENT COMPANY

Financial information pertaining only to Sterling Financial Corporation is
as follows:

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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 23 -- SEGMENT REPORTING

Changes in Sterling's organization structure and on acquisition during 2002
resulted in a modification to its reportable segments. During the first quarter
of 2002, Sterling acquired Equipment Finance, Inc. creating a new reportable
segment, commercial finance. On January 1, 2002, the wealth management division
of Bank of Lancaster County and the investment services division of Bank of
Hanover were combined into a single legal entity, Sterling Financial Trust
Company. In addition, during the second quarter of 2001, Pennbanks

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Insurance Company's operations began, resulting in insurance-related activity.
The trust and the insurance segments of the corporation do not meet the
thresholds for reportable segment reporting; therefore, they are included in the
all other category. Prior to 2002, the trust and insurance segments were
included in community banking and related services.

Sterling, as a result of the modification in structure, now has three
reportable segments: 1) community banking and related services, 2) leasing
operations, and 3) commercial finance. The community-banking segment provides
financial services to consumer, businesses, and governmental units in south
central Pennsylvania and northeastern Maryland. These services include providing
various types of loans to customers, accepting deposits, and other typical
banking services. The leasing segment provides vehicle and equipment financing
alternatives to businesses primarily located in south central Pennsylvania and
northeastern Maryland, although assets are located throughout the United States.
The commercial finance segment specializes in financing forestry and
land-clearing equipment through more than 150 equipment dealer locations ranging
from Maine to Florida.

The December 31, 2001 and 2000 segment information has been restated to
conform with the new segment reporting structure, with the exception of assets,
which have not been restated due to immateriality.

The accounting policies of the segments are the same as those described in
the summary of significant accounting policies. Transactions between segments,
principally loans, were at terms consistent with that which would be obtained
from a third party.

Sterling's reportable segments are strategic business units that offer
different products and services. They are managed separately because each
segment appeals to different markets and, accordingly, requires different
technology and marketing strategies. Sterling's chief operating decision maker
utilizes interest income, interest expense, noninterest income, non-interest
expense, and the provision for income taxes in making decisions and determining
resources to be allocated to the segments.

Sterling does not have operating segments other than those reported above.
Parent company and treasury function income is included in the community-banking
segment, as the majority of effort of these functions is related to this
segment.

Sterling does not have a single external customer from whom it derives 10%
or more of its revenue.

74

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Information about reportable segments, and reconciliation of such
information to the consolidated financial statements follows (in thousands):

75

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 24 -- QUARTERLY FINANCIAL DATA (UNAUDITED)

The following is a summary of the quarterly results of operations for the
years ended December 31 follows:

ITEM 9 -- CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

Not applicable.

ITEM 10 -- DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Incorporated by reference is the information appearing under the headings
"Information about Nominees and Continuing Directors" and "Executive Officers"
in the 2003 annual Meeting Proxy Statement.

Section 16(a) of the Securities Exchange Act of 1934 requires Sterling's
directors, executive officers and shareholders who beneficially own more than
10% of Sterling's outstanding equity stock to file initial reports of

76

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

ownership and reports of changes in ownership of common stock and other equity
securities of Sterling with the Securities and Exchange Commission. Based on a
review of copies of such reports we received, and on the statements of the
reporting persons, Sterling believes that all Section 16(a) filing requirements
were complied with in a timely fashion during 2002.

ITEM 11 -- EXECUTIVE COMPENSATION

Incorporated by reference is the information under the headings "Executive
Compensation" and "Sterling Financial Corporation Directors' Compensation" in
the 2003 Annual Meeting Proxy Statement.

ITEM 12 -- SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

Incorporated by reference is the information appearing under the headings
"Principal Holders" and "Beneficial Ownership of Executive Officers, Directors
and Nominees" in the 2003 Annual Meeting Proxy Statement.

ITEM 13 -- CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Incorporated by reference is the information appearing under the heading
"Transaction with Directors and Executive Officers" in the 2003 Annual Meeting
Proxy Statement and under "Notes to Consolidated Financial Statements -- Note
X -- Related Party Transactions" located elsewhere in this Form 10-K.

ITEM 14 -- CONTROLS AND PROCEDURES

Sterling maintains a system of controls and procedures designed to provide
reasonable assurance as to the reliability of the financial statements and other
disclosures included in this report, as well as to safeguard assets from
unauthorized use or disposition. Sterling's management evaluated the
effectiveness of the design and operation of our disclosure controls and
procedures under the supervision and with the participation of management,
including our Chief Executive Officer and Chief Financial Officer, within 90
days prior to the filing date of this report. Based upon that evaluation, our
Chief Executive Officer and Chief Financial Officer concluded that our
disclosure controls and procedures are effective in timely alerting them to
material information required to be included in our periodic Securities and
Exchange Commission filings. No significant changes were made to our internal
controls or other factors that could significantly affect these controls
subsequent to the date of their evaluation.

ITEM 15 -- EXHIBITS, FINANCIAL STATEMENTS AND REPORTS ON FORM 8-K

(a) The following documents are filed as part of this report:
The financial statements listed on the index set forth in Item 8 of
this Annual Report on Form 10-K are filed as part of this Annual
Report.
Financial statement schedules -- all schedules are omitted because
they are either not applicable, the data are not significant or the
required information is shown in the financial statements or the
notes thereto or elsewhere herein.
Exhibits -- the following is a list of Exhibits required by Item
601 of Regulation S-K and are incorporated by reference herein or
annexed to this Annual Report.
3(i) Amended Articles of Incorporation. (Incorporated by
reference to Exhibit 3(i) to Registrant's Current Report on
Form 8-K, dated April 30, 2002, filed with the Commission on
May 15, 2002.)
3(ii) Amended Bylaws. (Incorporated by reference to Exhibit 3(ii)
to Registrant's Current Report on Form 8-K, dated and filed
with the Commission on April 25, 2000.)

77

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

4.1 Amended Articles of Incorporation. (Incorporated by
reference to Exhibit 3(i) to Registrant's Current Report on
Form 8-K, dated April 30, 2002, and filed with the
Commission on May 15, 2002.)
4.2 Amended Bylaws. (Incorporated by reference to Exhibit 3(ii)
to Registrant's Current Report on form 8-K, dated and filed
with the Commission on April 25, 2000.)
10.1 1996 Stock Incentive Plan (Incorporated by reference to
Exhibit 4.3 of Registration Segment No. 333-103069 on Form
S-8, filed with the Commission on February 10, 2003.)
10.2 Dividend Reinvestment and Stock Purchase Plan (Incorporated
by reference to Registration Statement No. 33-55131 on Form
S-3, filed with the Commission on August 18, 1994, and as
amended by Registrant's Rule 424 (b) prospectus, filed with
the Commission on December 23, 1998, and by Amendment No. 1,
filed with the Commission on January 16, 2001.)
10.3 Stock Disposition Agreement, dated September 6, 2001, by and
between Howard E. Groff, Sr., and Sterling Financial
Corporation. (Incorporated by reference to Exhibit 99.1 in
Registrant's Current Report on Form 8-K, dated September 6,
2001, and filed with the Commission on September 26, 2001.)
10.4 1997 Directors Stock Compensation Plan and Policy.
(Incorporated by reference to Exhibit 4.3 to Registrant's
Registration Statement No. 333-28101 on Form S-8, filed with
the Commission on May 30, 1997.)
10.5 Supplemental Executive Retirement Agreement, dated April 22,
2002, between Sterling Financial Corporation and John
Stefan. (Incorporated by reference to Exhibit 10.1 to
Registrant's Current Report on Form 8-K, dated April 30,
2002, filed with the Commission on May 15, 2002.)
10.6 Consulting Agreement and General Release, dated April 22,
2002, between Sterling Financial Corporation and John E.
Stefan. (Incorporated by reference to Exhibit 10.2 to
Registrant's Current Report on Form 8-K, dated April 30,
2002, filed with the Commission on May 15, 2002.)
10.7 Employment Agreement, dated December 18, 2001, between
Sterling Financial Corporation, Bank of Lancaster County,
N.A. and J. Roger Moyer, Jr. (Incorporated by reference to
Exhibit 10.6 to Registrant's Statement No. 333-75650 on Form
S-4, filed with the Commission on January 16, 2002.)
10.8 Employment Agreement, dated July 23, 2002, between Sterling
Financial Corporation, Bank of Lancaster County, N.A. and
Thomas P. Dautrich. (Incorporated by reference to Exhibit 10
to Registrant's Quarterly Report on 10-Q for the
quarter-ended June 30, 2002, filed with the Commission on
August 14, 2002.)
10.9 Employment Agreement, dated as of February 28, 2002, between
Sterling Financial Corporation, Bank of Lancaster County,
N.A. and J. Bradley Scovill. (Incorporated by reference to
Exhibit 10.10 to Registrant's Annual Report on Form 10-K for
the year ended December 31, 2001, filed with the Commission
March 27, 2002.)
10.10 Change in Control Agreement, dated as of July 27, 2000,
between Sterling Financial Corporation, Bank of Hanover, and
Chad M. Clabaugh.
10.11 Change in Control Agreement, dated as of November 29, 2000,
between Sterling Financial Corporation, Bank of Hanover, and
D. Kathleen Phillips.
21 Subsidiaries of the Registrant
99.1 Certification of Principal Executive Officer
99.2 Certification of Principal Financial Officer

78

STERLING FINANCIAL CORPORATION AND SUBSIDIARIES

Copies of the Exhibits referenced above will be provided to Shareholders without
charge by writing to Shareholder Relations, Sterling Financial Corporation, 101
North Pointe Boulevard, Lancaster, PA 17601-4133.

(b) Reports on Form 8-K

During the quarter ended December 31, 2002, the registrant filed the
following reports on Form 8-K.

79

SIGNATURES

Pursuant to the requirements of section 13 or 15(d) of the securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

STERLING FINANCIAL CORPORATION

By: /s/ J. ROGER MOYER, JR.
------------------------------------
J. Roger Moyer, Jr.
President, Chief Executive Officer
and
Assistant Secretary

80

CERTIFICATION

I, J. Roger Moyer, Jr., President, Chief Executive Officer and Assistant
Secretary, certify, that:

1. I have reviewed this annual report on Form 10-K of Sterling Financial
Corporation;

2. Based on my knowledge, the annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this annual report;

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;

4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:

(a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;

(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date
of this annual report (the "Evaluation Date"); and

(c) Presented in this annual report our conclusion about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):

(a) All significant deficiencies in the design or operation of the
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data and
have identified for the registrant's auditors any material weaknesses
in internal controls; and

(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officer and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect the
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant deficiencies
and material weaknesses.

Date: March 18, 2003 By: /s/ J. ROGER MOYER, JR.
-------------------------------------------------------
J. Roger Moyer, Jr.
President, Chief Executive Officer and
Assistant Secretary

81

CERTIFICATION

I, J. Bradley Scovill, Senior Executive Vice President, Chief Financial Officer
and Treasurer certify, that:

1. I have reviewed this annual report on Form 10-K of Sterling Financial
Corporation;

2. Based on my knowledge, the annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this annual report;

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;

4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:

(a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;

(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date
of this annual report (the "Evaluation Date"); and

(c) Presented in this annual report our conclusion about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):

(a) All significant deficiencies in the design or operation of the
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data and
have identified for the registrant's auditors any material weaknesses
in internal controls; and

(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officer and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect the
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant deficiencies
and material weaknesses.

Date: March 18, 2003 By: /s/ J. BRADLEY SCOVILL
-------------------------------------------------------
J. Bradley Scovill
Senior Executive Vice President,
Chief Financial Officer and Treasurer

82

Exhibit Index

Exhibits Required Pursuant to Item 601 of Regulation S-K

Page (in
accordance
with
sequential
Item numbering
No. Description system)
--- ----------- -------

3(i) Amended Articles of Incorporation. (Incorporated by reference to
Exhibit 3(i) to Registrant's Current Report on Form 8-K, dated
April 30, 2002, filed with the Commission on May 15, 2002.)

3(ii) Amended Bylaws. (Incorporated by reference to Exhibit 3(ii)
to Registrant's Current Report on Form 8-K, dated and filed
with the Commission on April 25, 2000.)

4.1 Amended Articles of Incorporation. (Incorporated by reference to
Exhibit 3(i) to Registrant's Current Report on Form 8-K, dated
April 30, 2002, filed with the Commission on May 15, 2002.)

4.2 Amended Articles of Incorporation. (Incorporated by reference to
Exhibit 3(i) to Registrant's Current Report on Form 8-K, dated
April 30, 2002, filed with the Commission on May 15, 2002.)

10.1 1996 Stock Incentive Plan, as amended (Incorporated by
reference to Exhibit 4.3 of Registration Statement No.
333-103069 on Form S-8, filed with the Commission on
February 10, 2003).

10.2 Dividend Reinvestment and Stock Purchase Plan (Incorporated by
reference to Registration Statement No. 33-55131 on Form S-3,
filed with the Commission on August 18, 1994, and as amended by
Registrant's Rule 424 (b) prospectus, filed with the Commission
on December 23, 1998, and by Amendment No. 1, filed with the
Commission on January 16, 2001.)

10.3 Stock Disposition Agreement, dated September 6, 2001, by and
between Howard E. Groff, Sr., and Sterling Financial
Corporation. (Incorporated by reference to Exhibit 99.1 in
Registrant's Current Report on Form 8-K, dated September 6,
2001, and filed with the Commission on September 26, 2001.)

10.4 1997 Directors Stock Compensation Plan and Policy.
(Incorporated by reference to Exhibit 4.3 to Registrant's
Registration Statement No. 333-28101 on Form S-8, filed
with the Commission on May 30, 1997.)

10.5 Supplemental Executive Retirement Agreement, dated April 22,
2002, between Sterling Financial Corporation and John Stefan.
(Incorporated by reference to Exhibit 10.1 to Registrant's
Current Report on Form 8-K, dated April 30, 2002, filed with the
Commission on May 15, 2002.)

10.6 Consulting Agreement and General Release, dated April 22,
2002, between Sterling Financial Corporation and John E.
Stefan. (Incorporated by reference to Exhibit 10.2 to
Registrant's Current Report on Form 8-K, dated April 30,
2002, filed with the Commission on May 15, 2002.)

10.7 Employment Agreement, dated December 18, 2001, between
Sterling Financial Corporation, Bank of Lancaster County,
N.A. and J. Roger Moyer, Jr. (Incorporated by reference to
Exhibit 10.6 to Registrant's Statement No. 333-75650 on Form
S-4, filed with the Commission on January 16, 2002.)

73

10.8 Employment Agreement, dated July 23, 2002, between
Sterling Financial Corporation, Bank of Lancaster County,
N.A. and Thomas P. Dautrich. (Incorporated by reference
to Exhibit 10 to Registrant's Quarterly Report on 10-Q for
the quarter-ended June 30, 2002, filed with the Commission
on August 14, 2002.)

10.9 Employment Agreement, dated as of February 28, 2002,
between Sterling Financial Corporation, Bank of Lancaster
County, N.A. and J. Bradley Scovill. (Incorporated by
reference to Exhibit 10.10 to Registrant's Annual Report
on Form 10-K for the year ended December 31, 2001, filed
with the Commission March 27, 2002.)

10.10 Change in Control Agreement, dated as of July 27, 2000, 75-83
between Sterling Financial Corporation, Bank of Hanover,
and Chad M. Clabaugh

10.11 Change in Control Agreement, dated as of November 29, 84-92
2000, between Sterling Financial Corporation, Bank of
Hanover, and D. Kathleen Phillips.

21 Subsidiaries of the Registrant 93

23 Consent of Ernst & Young, LLP. 94

99.1 Certification of Principal Executive Officer. 95

99.2 Certification of Principal Financial Officer 96

74