SUPERIOR FINANCIAL CORP /AR/ - 10-Q Quarterly Report

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CAUTIONARY STATEMENTS PURSUANT TO SAFE HARBOR PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995

This report contains “forward-looking statements” within the meaning of the federal securities laws. The forward-looking statements in this report are subject to risks and uncertainties that could cause actual results to differ materially from those expressed in or implied by the statements. Factors that may cause actual results to differ materially from those contemplated by such forward-looking statements include, among other things, the following possibilities: (i) deposit attrition, customer loss, or revenue loss in the ordinary course of business; (ii) increases in competitive pressure in the banking industry; (iii) costs or difficulties related to the operation of the businesses of Superior Financial Corp. (“Superior”) are greater than expected; (iv) changes in the interest rate environment which reduce margins; (v) general economic conditions, either nationally or regionally, that are less favorable than expected, resulting in, among other things, a deterioration in credit quality; (vi) changes which may occur in the regulatory environment; (vii) a significant rate of inflation (deflation); (viii) changes in securities markets, and (ix) adjustment to or changes in anticipated accounting of contracts and contingencies including litigation and the anticipated outcomes of litigation. When used in this Report, the words “believes”, “estimates”, “plans”, “expects”, “should”, “may”, “might”, “outlook”, and “anticipates”, and similar expressions as they relate to Superior (including its subsidiaries), or its management are intended to identify forward-looking statements. Readers are cautioned not to place undue reliance on any forward-looking statements made by or on behalf of Superior. Any such statement speaks only as of the date the statement was made or as of such date that may be referenced within the statement. Superior undertakes no obligation to update or revise any forward-looking statements.

Superior Financial Corp. (“Company”) is a unitary thrift holding company organized under the laws of Delaware and headquartered in Little Rock, Arkansas. The Company was organized on November 12, 1997 as SFC Acquisition Corp. for the purpose of acquiring Superior Bank (formerly Superior Federal Bank, F.S.B., the “Bank”) a federally chartered savings institution. The Bank provides a broad line of financial products to small and medium-sized businesses and to consumers, primarily in Arkansas and Oklahoma.

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments considered necessary, consisting of normal recurring accruals, have been included for a fair presentation of the accompanying consolidated financial statements. Operating results for the three months ended March 31, 2003 are not necessarily indicative of the results that may be expected for the entire year or for any other period. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2002.

Total comprehensive income was $3.7 million for the three months ended March 31, 2003 and $1.9 million for the three months ended March 31, 2002. Unrealized gains and losses on investments available for sale are the only items included in other comprehensive income.

In October 1995, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation. Under the provisions of SFAS No. 123, companies can elect to account for stock-based compensation plans using a fair value based method or continue measuring compensation expense for those plans using the intrinsic value method prescribed by APB 25. SFAS No. 123, as amended by SFAS No. 148, requires that companies electing to continue using the intrinsic value method make pro forma disclosures of net income and earnings per share as if the fair value based method of accounting had been applied. The Company elected to account for its stock-based compensation plans using the intrinsic value method. Accordingly, no compensation cost has been recognized for the stock option plans. The pro forma effects on reported net income and earnings per share for the quarters ended March 31, 2003 and 2002, assuming the Company had elected to account for its stock option grants in accordance with SFAS No. 123 is provided in the following table.

The Company computes earnings per share (“EPS”) in accordance with SFAS No. 128. Basic EPS is computed by dividing reported earnings available to common stockholders by weighted average shares outstanding. No dilution for any potentially dilutive securities is included. Diluted EPS includes the dilutive effect of stock options. In computing dilution for stock options, the average share price is used for the period presented. The Company had approximately 180,900 outstanding options to purchase shares that were not included in the dilutive EPS calculation because they would have been antidilutive.

In its annual report on Form 10-K for 2002, the Company disclosed the nature and status of several lawsuits relating to consolidated federal class action security suits, a similar derivative suit pending in state court and other related litigation involving certain of the Company’s former employees. On March 4, 2002, the federal district court for the Eastern Division of Arkansas consolidated Bauman et al v. Superior Financial Corp., et al., Civ No. 4-01-CV-0075668 and Kashima v. Superior Financial Corp., et al., Civ No. 4-02-CV007SWW into a single action encaptioned Teresa Bauman et al. v. Superior Financial Corp., et al., Civ No. 4-01-CV756GH (the “Consolidated Suit”). On April 18, 2002, the Plaintiffs in the Consolidated Suit filed a Consolidated Complaint, which added several individual defendants. On July 10, 2002, the Plaintiffs in the Consolidated Suit filed a second Consolidated Complaint, which added five state law claims against the Company and the individual defendants, consisting of two claims under the Arkansas Deceptive Trade Practice Act and claims for common law fraud, constructive fraud and breach of fiduciary duty. It is not expected that the Company’s liability, if any, would increase as a result of the newly added claims. The Company filed a motion to dismiss the Consolidated Suit in its entirety.

On December 19, 2002, the court entered an order staying the action until March 20, 2003, to provide parties time to discuss a possible settlement of the Consolidated Suit. A mediation was held on January 29, 2003 and another mediation took place in late March. On April 24, 2003, the Company reached an agreement in principle to settle the Bauman litigation (the consolidated federal class action securities suits, a similar derivative suit pending in state court and other related litigation involving the Company’s former employees).

The settlement agreements are subject to final court approval and call for the Company and its insurance carrier to pay sums well within the Company’s policy limits and materially less than the Company’s estimate of the costs of litigation. The Company’s contribution to the settlement is approximately $475,000 pretax, or $0.04 diluted earnings per share, which amount has been expensed in the first quarter of 2003.

deliberation, the jury returned a verdict in favor of Jones & Mackey Construction Company, LLC, in the amount of $5,796,000. The damages were specified as $410,000 for breach of contract, $211,000 for detrimental reliance, $175,000 for defamation and $5,000,000 in punitive damages related to the claim of defamation.

Superior Bank filed an appropriate post-trial motion seeking to set aside or reduce the amount of the verdict. The Bank maintained, among other things, that a single verdict imposing liability for both breach of contract and detrimental reliance was fatally inconsistent and that there was insufficient evidence in the record at trial to support a finding of defamation underlying the award of punitive damages. The Bank also maintained that the punitive damages award was excessive.

On July 22, 2002, the trial court ruled on the motion and overturned the verdict imposing liability for detrimental reliance. The Bank will appeal the remainder of the verdict. On appeal, the Bank expects to raise the issues presented in the post-trial motion, as well as numerous, material errors at trial. Among these are claims that the trial court erred in allowing jurors to question witnesses, in allowing evidence of the Bank’s financial condition before a finding of liability and in submitting improper instructions to the jury.

The outcome of the appeal is too uncertain to predict with any assurance. If the judgment as entered is affirmed on appeal, discharge of a judgment of $5,585,000, plus judicial interest, would have a material adverse effect on the Company’s financial condition and operating results. However, the Bank has entered into discussions with its insurance carrier to determine the extent of coverage available in the event the verdict is affirmed on appeal. As of March 31, 2003, the Bank had paid $276,000 and accrued an additional $250,000 in professional fees and costs for a total of $526,000, which exceeds the Company’s $500,000 insurance deductible. The Bank has not recorded additional liability for the damages awarded in the initial jury verdict.

The Company is involved in various lawsuits and litigation matters on an ongoing basis as a result of its day-to-day operations. However, except as otherwise disclosed herein, the Company does not believe that any of these or any threatened lawsuits and litigation matters will have a materially adverse effect on the Company or its business.

Effective March 31, 2003, the Company retired its 8.65% Senior notes with an aggregate principal balance of $51.0 million. These notes were issued on April 1, 1998, in connection with the acquisition of the Bank by the Company. The Company retired the Senior notes with a combination of cash, a bank credit facility amounting to $20.0 million and the issuance of $15.0 million in trust preferred securities. The average cost of the combined new debt structure is approximately 5.0% at current interest rates.

The Company announced on May 1, 2003, the authorization to repurchase up to 405,000 shares of common stock on the open market. The repurchased shares will be used in connection with the Company’s stock option plan and for other general and corporate purposes. This was the fifth stock repurchase program authorized by the Board. Under the previous four programs, the Company repurchased a total of 1,844,401 shares of common stock or approximately 18% of the outstanding shares.

The Company is a unitary thrift holding company. The Company was organized in November 1997 as SFC Acquisition Corp. for the purpose of acquiring the Bank. On April 1, 1998 the Company financed the acquisition of 100% of the common stock of the Bank in a purchase transaction through a private placement of the Company’s common stock and debt. Prior to the acquisition of the Bank on April 1, 1998, the Company did not have any operations other than the costs associated with the private placement offering of common stock and debt. The Bank is a federally chartered savings bank. The following Management’s Discussion and Analysis of Financial Condition and Results of Operations analyzes the major elements of the Company’s consolidated balance sheets as of March 31, 2003 and December 31, 2002 and statements of income for the three months ended March 31, 2003 and March 31, 2002. Readers of this report should refer to the unaudited consolidated financial statements and other financial data presented throughout this report to fully understand the following discussion and analysis.

The Bank is a federally chartered and insured savings bank subject to extensive regulation and supervision by the Office of Thrift Supervision (“OTS”), as its chartering agency, and the Federal Deposit Insurance Corporation (“FDIC”), as the insurer of its deposits. In addition, the Company is a registered savings and loan holding company subject to OTS regulation, examination, supervision and reporting.

The Company provides a wide range of retail and small business services including noninterest bearing and interest bearing checking, savings and money market accounts, certificates of deposit, and individual retirement accounts. In addition, the Company offers an extensive array of real estate, consumer, small business and commercial real estate loan products. Other financial services include automated teller machines, debit card, Internet banking, credit-related life and disability insurance, safe deposit boxes, telephone banking, discount investment brokerage and full-service investment advisory services.

The Company has been effective in establishing primary banking relationships with lower- to middle-income market segments through the successful execution of its “totally free checking” programs. This has resulted in the Company serving over 189,000 households with average noninterest revenue of approximately $150 per account annually. The Bank attracts primary banking relationships in part through the customer-oriented service environment created by the Bank’s personnel.

The significant accounting policies of the Company and its subsidiaries are provided in Note 1 of the consolidated financial statements included in the Annual Report of Form 10-K for the year ended December 31, 2002. These policies in conjunction with the disclosures presented in the other notes, provide information on how significant assets and liabilities are valued in the consolidated financial statements and how those values are determined. The accounting policies of the Company involving significant estimates or assumptions by management, which have or could potentially have, a material impact on the carrying value of certain assets and liabilities, and also an impact on comprehensive income, are considered critical accounting policies. The Company recognizes that the accounting treatment for loan losses, goodwill impairment, amortization/accretion of premiums/discounts on investments, and accounting for income taxes are considered critical accounting policies.

Accounting for the allowance for loan losses. Management frequently evaluates the adequacy of the allowance for loan losses and takes into consideration the following factors: the Bank’s past loan loss experience, inherent risks in the loan portfolio, specific problem loans, the ability of the borrower to repay the loan, the estimated value of the collateral securing the loan, and the current local and regional economic and business conditions. Management believes that the current estimates and assumptions have resulted in an allowance that is presented in accordance with accounting principles generally accepted in the United States and reasonably reflects the inherent risk level of the loan portfolio. However, given changes in the economy, increased nonperforming loans, changes to borrowers’ financial condition, and other factors that could impact credit quality, there can be no assurances that further increases to the allowance for loan losses might not be required.

Accounting for goodwill impairment. The Company recently adopted SFAS 142, which no longer allows the amortization of goodwill, but requires that goodwill be tested annually for impairment and any resulting impairment be charged to net income in the year of the impairment test. The test used to determine the existence of impairment requires estimates in the resulting calculation of impairment. Since the Company currently has approximately $56.3 million of goodwill on the consolidated balance sheet, any resulting impairment based upon estimates used by management could have a significant impact on the Company’s financial results.

Accounting for the amortization/accretion of premiums/discounts on investments. The overall return or yield earned on investments depends on the amount of interest collected over the amortization of any premiums or discounts. The premiums and

discounts are recognized in income using the level-yield method over the assets remaining lives adjusted for anticipated prepayments. Since these prepayments are frequently impacted by changes in interest rates, the amortization schedule is periodically adjusted for the existing as well as anticipated prepayment activity. This adjustment can result in potential changes to interest earned on this component of the investment portfolio and the resulting interest earned on replacement investment securities, which can potentially have a significant impact on the future financial results of the Company.

Accounting for income taxes. The Company utilizes the liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based upon differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. Management exercises significant judgment in the evaluation of the amount and timing of the recognition of the resulting tax assets and liabilities and the judgments and estimates required for the evaluation are periodically updated based upon changes in business factors and the tax laws.

The Company’s primary asset is its investment in 100% of the common stock of the Bank and the Company’s operations are funded primarily from the operations of the Bank.

The Company recorded net income of $3.8 million, resulting in diluted earnings per share of $0.44 for the quarter ended March 31, 2003. The quarterly financial results represented increases of $57,000 in net income and $0.01 diluted earnings per share above the comparable quarter of 2002. The increase was attributed to higher levels of noninterest income, which was mostly offset by increased expense levels, including a nonrecurring legal settlement expense, and slightly lower net interest income. These changes are discussed in greater detail under the headings “Net Interest Income”, “Noninterest Income” and “Noninterest Expense”. Return on average assets amounted to 0.89% and return on average equity amounted to 11.63% for the Company for the quarter ended March 31, 2003 compared to 0.90% and 12.71%, respectively, for the comparable quarter of 2002. The Bank results for the first quarter of 2003 for return on average assets were 1.22% and return on average equity were 11.35% compared to 1.19% and 11.43%, respectively, for the comparable quarter of 2002.

Included in the first quarter results was the cost of the Company’s recently announced litigation settlement related to the consolidated federal class action securities suits, a similar derivative suit pending in state court and other related litigation involving certain of the Company’s former employees. The Company’s contribution to the settlement was approximately $475,000 pretax, or $0.04 per diluted earnings per share.

Total assets were $1.75 billion at March 31, 2003, reflecting an increase of $13.8 million from the level at December 31, 2002. Cash and cash equivalents of $114.6 million at March 31, 2003 increased by $30.2 million, or 35.7%, from the level of $84.4 million at December 31, 2002. The growth of interest-bearing deposits coupled with a decline in loans receivable during the quarter resulted in the increased level of cash and cash equivalents. Loans receivable of $1.05 billion at March 31, 2003 declined by $39.7 million, or 3.7%, from the level at December 31, 2002 due to the continued high level of residential mortgage refinancing caused by the current low interest rate environment. Additionally, indirect auto loan originations contributed to the decline as zero percent financing offered by the automotive industry finance competitors hindered the Bank’s ability to offset maturing auto loans. Mortgage

servicing rights of $8.6 million for the period ended March 31, 2003 grew $2.1 million, or 31.4%, from the December 31, 2002 level due primarily to the purchase of mortgage servicing rights of loans serviced for others. In addition, the Company invested $15.0 million in Bank Owned Life Insurance (BOLI) during the first quarter of 2003 to offset the rising cost of employee benefits.

Total deposits amounted to $1.25 billion at March 31, 2003, which reflects an increase of $38.7 million, or 3.2% above the December 31, 2002 level. Increased customer account balances and the stock market uncertainty enabled the deposit levels to rise during the first quarter. Notes payable amounted to $20.0 million for the quarter ended March 31, 2003 as a new bank credit facility was established to enable the Company to pay off the Senior notes due on April 1, 2003. Senior notes declined by $51.0 million at March 31, 2003 as a result of the retirement of the debt on March 31, 2003, which was replaced, as previously mentioned, by a $20.0 million bank credit facility and also a new trust preferred issue of $15.0 million (the Senior notes and trust preferred are discussed in detail below). Custodial escrow balances of $11.7 million at March 31, 2003 were $4.3 million, or 58.6% higher than the balance at December 31, 2002, reflecting a higher level of serviced mortgage loans and the timing of tax and insurance payments.

Net interest income represents the amount by which interest income on interest-earning assets, including investments and loans, exceeds interest expense incurred on interest-bearing liabilities, including deposits, Federal Home Loan Bank (“FHLB”) borrowings and other borrowings. Net interest income is the principal source of earnings. Interest rate fluctuations, as well as changes in the amount and type of earning assets and interest-bearing liabilities, combine to affect net interest income. Factors that determine the level of net interest income include the volume of earning assets and interest-bearing liabilities, yields and rates paid, fee income from portfolio loans, the level of nonperforming loans and other non-earning assets, and the amount of noninterest-bearing liabilities supporting earning assets.

Net interest income for the quarter ended March 31, 2003 amounted to $13.5 million, which represented a decline of $502,000, or 3.6%, from the quarter ended March 31, 2002. The primary reason for the decline was a reduction in the net interest margin year over year, which was partially offset by a higher level of interest-earnings assets in the first quarter of 2003 relative to the prior years’ comparable quarter.

The table below provides the key components of the Company’s net interest income and compares the results for the quarters ended March 31, 2003 and 2002.

Average interest–earning assets increased $18.0 million to $1.56 billion in the first quarter of 2003 from $1.55 billion in the first quarter of 2002. The major contributors to the increase were $10.2 million in growth in the loan portfolio, mainly commercial loans, and an increase in the investment portfolio of $31.5 million. These increases were partially offset by a reduction in interest-bearing deposits and loans available for sale. Average interest-bearing liabilities of $1.47 billion in the first quarter of 2003 increased $25.0 million from $1.45 billion in the first quarter of 2002 mainly as a result of an increase in interest-bearing deposits, primarily savings and interest-bearing demand deposits.

Net interest margin (net interest income on a tax-equivalent basis divided by average earning assets) for the Company of 3.55% for the first quarter of 2003 declined by 27 basis points from 3.82% recorded in the first quarter of 2002. The decline in the yield of interest-earning assets of 70 basis points (6.39% versus 7.09%) was primarily responsible for the change in net interest margin since the improvement in rates paid on interest-bearing liabilities of 50 basis points (3.01% versus 3.51%) year over year was insufficient to cover the loss of yield.

The provision for loan losses for the first quarter of 2003 amounted to $1.1 million and declined by $200,000 from the level of the first quarter of 2002 consistent with a decline in loans receivable and other changes in credit quality. The allowance for loan losses improved to 1.30% of loans receivable at March 31, 2003 versus 1.28% at December 31, 2002 and 1.16% at March 31, 2002.

Nonperforming loans, real estate owned and foreclosed property totaled $8.1 million at March 31, 2003, represented an increase of $184,000, or 2.3% from the level at December 31, 2002, but declined by $5.2 million, or 39.2% from the results at March 31, 2002. The allowance for loan losses at March 31, 2003 of $13.6 million declined modestly from $13.8 million at December 31, 2002 consistent with the decline in the loan portfolio and other changes in credit quality. The coverage ratio (allowance for loan losses relative to nonperforming loans) amounted to 198% at March 31, 2003, 215% at December 31, 2002 and 117% at March 31, 2002.

Noninterest income for the quarter ended March 31, 2003 was $9.7 million, which resulted in an increase of $1.5 million, or 17.7% above the level for the period ended March 31, 2002. Total noninterest income represented 41.8% of the total revenue for the first quarter of 2003 versus 37.0% for the comparable quarter of 2002.

Service charges on deposit accounts, which consist primarily of insufficient funds fees to customers, were $6.4 million for the first quarter of 2003, amounting to a decline of $194,000, or 3.0% from the level recorded in the first quarter of 2002 due to a slight decline in the number of household accounts and an increase in average balances maintained by the Bank’s customers. Mortgage operations recorded fee income of $1.1 million for the current quarter, which amounted to an increase of $416,000, or 61.7%, above the level for the first quarter of 2002. This increase was attributed to a higher level of serviced mortgage loans ($981 million at March 31, 2003 versus $898 million at March 31, 2002) as well as gains on the securitization and sale of a pool of mortgage loans and sales of mortgage loans during the first quarter of 2003.

Gains on sale of investments amounted to $771,000 for the quarter ended March 31, 2003 as compared to $211,000 for the comparable quarter of 2002, an increase of $560,000 or 265%.

Other income of $1.3 million for the quarter ended March 31, 2003 reflected an increase of $670,000, or 105%, above the level for the period ended March 31, 2002. Included in the quarterly results for 2003 was the addition of Bank Owned Life Insurance (BOLI) that generated an increase in the cash surrender value of the asset of $509,000. In addition, revenue from insurance operations increased year over year due to increased bank customer referrals.

Noninterest expense for the quarter ended March 31, 2003 totaled $16.5 million, which amounted to an increase of $1.2 million above the comparable quarter of 2002. Increases in salaries and employee benefits, equipment expense and other expense accounted for a majority of the expense year over year. The Company’s efficiency ratio (total noninterest expense divided by the combination of noninterest income and the tax-equivalent net interest income, excluding gains and losses on investments and assets) was 72.59% for the first quarter of 2003 versus an efficiency ratio of 68.46% for the first quarter of 2002.

Salaries and employee benefits expense of $8.0 million for the three months ended March 31, 2003, increased by $519,000, or 6.9%, above the level recorded for the three months ended March 31, 2002. The increase was attributed to annual salary merit increases for Bank personnel and an increase in employee benefits expense coupled with an increase in commissions for the mortgage operations and the insurance subsidiaries related to increased revenue.

Equipment expense for the quarter ended March 31, 2003 amounted to $997,000 compared to $840,000 for the comparable quarter of 2002. The $157,000 equipment expense increase was due to 11 new ATMs, two new retail branches that were partially offset by the sale of two older retail branches in December 2002 and new equipment in the operations center related to the final stages of the data processing conversion in 2002.

Other expense of $3.1 million for the quarter ended March 31, 2003 amounted to an increase of $381,000, or 13.9%, above the recorded amount for the quarter ended March 31, 2002. The increase in other expense is related to the Company’s recently announced legal settlement of the consolidated federal class action securities suits and related litigation, which amounted to $475,000 of expense. (See Note 4 to the consolidated financial statements in Item 1 of this Form 10-Q).

Income tax expense for the quarter ended March 31, 2003 of $1.7 million reflected a decline of $76,000, or 4.2%, from the quarter ended March 31, 2002. The effective tax rate for the first quarter of 2003 was 31.1% as compared to 32.4% for the first quarter of 2002.

The effects of inflation on the local economy and on the Company’s operating results have been relatively modest for the past

several years. Since substantially all of the Bank’s assets and liabilities are monetary in nature, such as cash, investments, loans and deposits, their values are less sensitive to the effects of inflation than to changing interest rates, which do not necessarily change in accordance with inflation rates. The Company tries to control the impact of interest rate fluctuations by managing the relationship between its interest sensitive assets and liabilities.

The aggregate amount of certificates of deposit with a minimum denomination of $100,000 was approximately $188.7 million at March 31, 2003 and $173.3 million at December 31, 2002.

During the first quarter of 2003, the Company invested $15.0 million in BOLI to help offset the rising cost of employee benefits. Income, which is accounted for using the cash surrender value method, for the first quarter amounted to $509,000. BOLI investment income is exempt from federal and state income tax and related costs of the insurance is not deductible. The BOLI is invested primarily in high-grade corporate bonds and mortgage backed securities.

Effective March 31, 2003, the Company retired its 8.65% Senior notes with an aggregate principal balance of $51.0 million. The Company retired the Senior notes with a combination of cash, a renewal of a bank credit facility amounting to $20.0 million and the issuance of $15.0 million of trust preferred securities, which is discussed below. The notes were originally issued on April 1, 1998, in connection with the acquisition of the Bank by the Company. At current interest rates, the average cost of the combined new debt structure is approximately 5.0%.

Guaranteed Preferred Beneficial Interest in the Company’s Subordinated Debentures

On December 18, 2001, Superior Statutory Trust I sold to investors $25.0 million of trust preferred securities. The proceeds were used to purchase $25.8 million in principal amount of floating rate junior subordinated debentures of the Company. The Company has, through various contractual arrangements, fully and unconditionally guaranteed all obligations of Superior Statutory Trust I on a subordinated basis with respect to the preferred securities. Subject to certain limitations, the preferred securities qualify as Tier I capital and are presented in the consolidated balance sheets as “Guaranteed preferred beneficial interest in the Company’s subordinated debentures.” The sole asset of Superior Statutory Trust I is the subordinated debentures issued by the Company. Both the preferred securities of Superior Statutory Trust I and the subordinated debentures of the Company will mature on December 18, 2031; however, they may be prepaid, subject to regulatory approval, prior to maturity at any time on or after December 18, 2006, or earlier upon certain changes in tax or investment company laws or regulatory capital requirements.

The interest rate on the Company’s subordinated debentures is LIBOR plus 3.60% adjusted quarterly, which was 4.88% at March 31, 2003 and 5.01% at December 31, 2002. This interest rate is subject to a cap of 12.5% annually. Distributions are paid quarterly.

On March 26, 2003, Superior Statutory Trust II sold to investors $15.0 million of trust preferred securities. The proceeds were used to purchase $15.5 million in principal amount of fixed rate junior subordinated debentures of the Company. The contractual

arrangements, guarantee of obligations, the qualifications as Tier I capital, and the balance sheet presentation for Superior Statutory Trust II are essentially the same as Superior Statutory Trust I. Both the preferred securities and the subordinated debentures of the Company will mature on March 26, 2033. However, they may be prepaid, subject to regulatory approval, prior to maturity at any time on or after March 26, 2008, or earlier upon certain changes in tax or investment company laws or regulatory capital requirements.

The interest rate on the Company’s subordinated debentures for Superior Statutory Trust II is fixed for five years at 6.40% at which time the rate will revert to a floating rate, which will be based upon the three month LIBOR plus 3.15% adjusted quarterly. Distributions will be paid quarterly.

Asset and liability management is concerned with the timing and magnitude of repricing assets compared to liabilities. It is the objective of the Company to generate stable growth in net interest income and to attempt to control risks associated with interest rate movements. In general, management’s strategy is to reduce the impact of changes in interest rates on its net interest income by maintaining a favorable match between the maturities or repricing dates of its interest-earning assets and interest-bearing liabilities. The Company’s asset and liability management strategy is formulated and monitored by the Asset Liability Committee, which is composed of 10 senior officers of the Company, in accordance with policies approved by the Company’s Board of Directors. This committee meets regularly to review, among other things, the sensitivity of the Company’s assets and liabilities to interest rate changes, the book and market values of assets and liabilities, unrealized gains and losses, purchase and sale activity, and maturities of investments and borrowings. The Asset Liability Committee also approves and establishes pricing and funding decisions with respect to the Company’s overall asset and liability composition. The Committee reviews the Company’s liquidity, cash flow flexibility, maturities of investments, deposits and borrowings, retail and institutional deposit activity, current market conditions, and interest rates on both a local and national level.

The Company reports to the Board of Directors rate sensitive assets minus rate sensitive liabilities divided by total earning assets on a cumulative basis quarterly. The Company estimates that a 100- basis-point change in interest rates would have no significant impact on its net interest income over a twelve-month period. The Committee regularly reviews interest rate risk exposure by forecasting the impact of alternative interest rate environments on net interest income. The interest rate sensitivity (“GAP”) is defined as the difference between interest-earning assets and interest-bearing liabilities maturing or repricing within a given time period. A GAP is considered positive when the amount of interest rate sensitive assets exceeds the amount of interest rate sensitive liabilities. A GAP is considered negative when the amount of interest rate sensitive liabilities exceeds interest rate sensitive assets. During a period of rising interest rates, a negative GAP would tend to adversely affect net interest income, while a positive GAP would tend to result in an increase in net interest income. During a period of falling interest rates, a negative GAP would tend to result in an increase in net interest income, while a positive GAP would tend to affect net interest income adversely. While the interest rate sensitivity GAP is a useful measurement and contributes toward effective asset and liability management, it is difficult to predict the effect of changing interest rates solely on the measure. Because different types of assets and liabilities with the same or similar maturities may react differently to changes in overall market rates or conditions, changes in interest rates may affect net interest income positively or negatively even if an institution were perfectly matched in each maturity category.

Shortcomings are inherent in any GAP analysis since certain assets and liabilities may not move proportionally as interest rates change. Consequently, as the interest rate environment has become more volatile, the Company’s management has increased monitoring its net interest rate sensitivity position and the effect of various interest rate environments on earnings.

U.S. money market interest rate market presents the primary risk exposure to the Company. In measuring and managing interest rate risk, the Company uses GAP analysis, net interest income simulation, and economic value equity modeling. There have been no material changes in the Company’s analysis of interest rate risk since its Report on Form 10-K for fiscal year 2002.

Stockholders’ equity increased by $97,000 to $133.0 million at March 31, 2003 from $132.9 million at December 31, 2002. Retained earnings of $56.4 million at March 31, 2003 increased by $2.8 million, or 5.2%, from the balance of $53.6 million at December 31, 2002. This increase was primarily attributed to net income during the quarter, which was mostly offset by the increase in treasury stock at March 31, 2003 of $2.6 million, or 12.2%, above the December 31, 2002 level associated with the repurchase of 142,000 shares of common stock. Dividends paid to shareholders of the Company’s common stock during the first quarter amounted to $1.1 million, which was equivalent to $0.125 per share.

The Company is a unitary thrift holding company and, as such, is subject to regulation, examination and supervision by the OTS.

The Bank is also subject to various regulatory requirements administered by the OTS. 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 the Company’s and the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Company’s and the Bank’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Company’s and the Bank’s capital amounts and classification 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 the Bank to maintain minimum amounts and ratios (set forth in the table below) of tangible and core capital (as defined in the regulations) to adjusted total assets (as defined), and of total capital (as defined) and Tier 1 to risk weighted assets (as defined). Management believes that, as of March 31, 2003, the Bank meets all capital adequacy requirements to which it is subject.

The most recent notification from the OTS categorized the Bank as “well capitalized” under the regulatory framework for prompt corrective action. To be categorized as “well capitalized” the Bank must maintain minimum total, tangible, and core capital ratios as set forth in the table below. There are no conditions or events since that notification that management believes have changed the institution’s category.

The Company’s and the Bank’s actual capital amounts and ratios as of March 31, 2003 and December 31, 2002 are presented below (amounts in thousands):

Management is aware of the risks inherent in lending and continually monitors risk characteristics of the loan portfolio. The Company’s policy is to maintain the allowance for loan losses at a level believed adequate by management to absorb potential loan losses within the portfolio. Management’s determination of the adequacy of the allowance is performed by an internal loan review committee and is based on risk characteristics of the loans, including loans deemed impaired in accordance with SFAS No. 114, past loss experience, economic conditions and such other factors that deserve recognition. Additions to the allowance are charged to operations.

The following table presents, for the periods indicated, an analysis of the Company’s allowance for loan losses and other related data.

The Company continuously monitors its underwriting procedures in an attempt to maintain loan quality. Additionally, the Company is executing a strategy of achieving more balance between the amount of commercial, mortgage, and consumer loans outstanding. This strategy has resulted in growth of commercial, construction, commercial real estate, and consumer direct loans while mortgage loans and indirect consumer loans have declined.

The provisions to the allowance for loan losses are based on management’s judgment and evaluation of the loan portfolio using both objective and subjective criteria. The objective criteria used by the Company to assess the adequacy of its allowance for loan losses and required additions to such allowance are (i) an internal grading system, (ii) a peer group analysis, and (iii) a historical analysis. In addition to these objective criteria, the Company subjectively assesses adequacy of the allowance for loan losses and the need for additions thereto, with consideration given to the nature and volume of the portfolio, overall portfolio quality, review of specific problem loans, national, regional and local business and economic conditions that may affect the borrowers’ ability to pay or the value of collateral securing the loans, and other relevant factors. The Company’s allowance for loan losses was $13.6 million at March 31, 2003 and $13.9 million at December 31, 2002, or 1.30% and 1.28% of total loans, respectively. While management believes the current allowance is adequate, changing economic and other conditions may require future adjustments to the allowance for loan losses.

The Company uses an internal credit grading system in determining the adequacy of the allowance for loan losses. This analysis assigns grades to all loans except owner-occupied 1-4 family residential loans and consumer loans. Graded loans are assigned to one of nine risk reserve allocation percentages. The loan grade for each individual loan is determined by the loan officer at the time it is made and changed from time to time to reflect an ongoing assessment of loan risk. Loan grades are reviewed on specific loans from time to time by senior management and as part of the Company’s internal loan review process. Owner-occupied 1-4 family residential and consumer loans are assigned a reserve allocation percentage based on past due status and the level of cumulative net charge-offs for the three preceding calendar years.

The Company subjectively assesses the adequacy of the allowance for loan losses by considering the nature and volume of the portfolio, overall portfolio quality, review of specific problem loans, national, regional and local business and economic conditions that may affect the borrowers’ ability to pay or the value of collateral securing the loans, and other relevant factors. Although the Company does not determine the overall allowance based upon the amount of loans in a particular type or category (except in the case of owner-occupied 1-4 family residential and consumer installment loans), risk elements attributable to

particular loan types or categories are considered in assigning loan grades to individual loans. These risk elements include the following: (i) for non-farm/non-residential loans and multifamily residential loans, the debt service coverage ratio (income from the property in excess of operating expenses compared to loan payment requirements), operating results of the owner in the case of owner-occupied properties, the loan to value ratio, the age and condition of the collateral and the volatility of income, property value and future operating results typical of properties of that type; (ii) for construction and land development loans, the perceived feasibility of the project including the ability to sell developed lots or improvements constructed for resale or ability to lease property constructed for lease, the quality and nature of contracts for presale or preleasing if any, experience and ability of the developer and loan to value ratios; (iii) for commercial and industrial loans, the operating results of the commercial, industrial or professional enterprise, the borrower’s business, professional and financial ability and expertise, the specific risks and volatility of income and operating results typical for businesses in that category and the value, nature and marketability of collateral. In addition, for each category the Company considers secondary sources of income and the financial strength of the borrower and any guarantors.

Management reviews the allowance on a quarterly basis to determine whether the amount of regular monthly provision should be increased or decreased or whether additional provisions should be made to the allowance. The allowance is determined by management’s assessment and grading of individual loans in the case of loans other than owner-occupied 1-4 family residential and consumer loans and specific reserves made for other categories of loans. The total allowance amount is available to absorb losses across the Company’s entire portfolio.

Nonperforming assets at March 31, 2003 were $8.1 million, compared to $7.9 million at December 31, 2002. This resulted in a ratio of nonperforming assets to loans plus other real estate of 0.77% and 0.72% at March 31, 2003 and December 31, 2002, respectively. Nonaccrual loans were $6.9 million and $6.5 million at March 31, 2003 and December 31, 2002, respectively. Other real estate and foreclosed property declined from $1.4 million at December 31, 2002 to $1.2 million at March 31, 2003. The following table presents information regarding nonperforming assets as of the dates indicated:

The Company has well-developed procedures in place to maintain a high quality loan portfolio. These procedures begin with approval of lending policies and underwriting guidelines by the Board of Directors, low individual lending limits for officers, Officers Loan Committee approval for large credit relationships and effective loan documentation procedures. The loan review department identifies and analyzes weaknesses in the portfolio and reports credit risk grade changes on a quarterly basis to Bank management and directors. The Company also maintains a well-developed monitoring process for credit extensions. The Company has established underwriting guidelines to be followed by its officers. The Company also monitors its delinquency levels for any negative or adverse trends, and collection efforts are centralized. The Company also has procedures to bring rapid resolution of nonperforming loans and prompt and orderly liquidation of real estate, automobiles and other forms of collateral.

The Company generally places a loan on nonaccrual status and ceases accruing interest when loan payment performance is deemed unsatisfactory. All loans past due 90 days, (except for the finance company that places loans on nonaccrual at 120 days) however, are placed on nonaccrual status unless the loan is both well collateralized and in the process of collection. Cash payments received while a loan is classified as nonaccrual are recorded as a reduction of principal as long as doubt exists as to collection. The Company is sometimes required to revise a loan’s interest rate or repayment terms in a troubled debt restructuring. The Company regularly updates appraisals on loans collateralized by real estate, particularly those categorized as nonperforming loans and potential problem loans. In instances where updated appraisals reflect reduced collateral values, an evaluation of the borrower’s overall financial condition is made to determine the need, if any, for possible write-downs or appropriate additions to the allowance for loan losses.

As of March 31, 2003, the Company had $631,091 non-government sponsored accruing loans that were contractually past due 90 days or more. The Company continues to accrue interest for government sponsored loans such as FHA insured and VA

guaranteed loans which are past due 90 or more days, as the interest on these loans is insured by the federal government. The aggregate unpaid balance of accruing government-sponsored loans past due 90 days or more was $4.5 million and $5.9 million as of March 31, 2003 and December 31, 2002, respectively.

The Company records real estate acquired by foreclosure at the lesser of the outstanding loan balance, net of any reduction in basis, or the fair value at the time of foreclosure, less estimated costs to sell.

In the second quarter of 1999, Superior purchased from a secondary servicer an assignment of an approximately $52.0 million portfolio of FHA insured and VA guaranteed mortgages on a servicing-retained basis. The purchase contract provided that Superior would receive a pass through net yield of 7.13% and that the loans would be paid off upon foreclosure and the servicer’s receipt of the individual claims from either FHA or VA. In the third quarter of 1999, the primary seller/servicer filed a voluntary petition for relief under Chapter 11 of the Bankruptcy Code which was subsequently converted to a Chapter 7 proceeding in which Superior has filed a $3.7 million proof of claim. Superior then entered into a fee-based sub-servicing agreement with the secondary servicer.

In the fourth quarter of 2000, Superior’s management became aware of, and brought to the secondary servicer’s attention, increasing discrepancies in the two companies’ respective net valuations of the portfolio. At this time, management also notified the secondary servicer that Superior regarded the secondary servicer as in breach of certain representations and warranties made in connection with the assignment. The two companies have entered into ongoing discussions to resolve these differences.

Although the secondary servicer continues to remit principal and interest collections to Superior, the Company decided to recognize any interest income on the portfolio only after it had received payments sufficient to recover remaining portfolio balances. Consequently, no net interest income was recognized on the portfolio in 2001 or 2002. Superior has applied this cost recovery method in accounting for these assets during the first quarter of 2003.

Approximately $3.8 million of principal balance of loans plus receivables were sold in December 2002. The residual balance of the portfolio was approximately $8.1 million, net at March 31, 2003 and $9.9 million, net at December 31, 2002. Since there is no readily available market for the remaining portfolio, there is no assurance that the remaining portfolio can be converted to cash at its current carrying value.

For quantitative and qualitative disclosures about market risk, see Management’s Discussion and Analysis of Financial Condition and Results of Operations “Interest Rate Sensitivity-Liquidity”, see page 14.

The Company maintains disclosure controls and procedures, which are designed to ensure that information required to be disclosed by the Company in the reports it files or submits under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

In February 2003, an evaluation of the effectiveness of the Company’s disclosure controls and procedures was conducted under the supervision of, and reviewed by, the Company’s Chief Executive Officer and Chief Financial Officer. Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures were adequate and designed to ensure that material information relating to the Company would be made known to the Chief Executive Officer and Chief Financial Officer by others within those entities, particularly during the periods when periodic reports under the Exchange Act are being prepared. Furthermore, there have been no significant changes in the Company’s internal controls or in other factors (including any corrective actions with regard to significant deficiencies or material weaknesses in the Company’s internal controls) that could significantly affect those controls subsequent to the February 2003 evaluation. Refer to the Certifications by the Company’s Chief Executive Officer and Chief Financial Officer following the signature page of this report.

In its annual report on Form 10-K for 2002, the Company disclosed the nature and status of several lawsuits relating to consolidated federal class action security suits, a similar derivative suit pending in state court and other related litigation involving certain of the Company’s former employees. See Note 4 to the interim financial statements included in Item 1 of this Form 10-Q. On March 4, 2002, the federal district court for the Eastern Division of Arkansas consolidated Bauman et al. v. Superior Financial Corp., et al., Civ No. 4-01-CV-0075668 and Kashima v. Superior Financial Corp., et al., Civ No. 4-02-CV007SWW into a single action encaptioned Teresa Bauman et al. v. Superior Financial Corp., et al., Civ No. 4-01-CV756GH (the “Consolidated Suit”). On April 18, 2002, the Plaintiffs in the Consolidated Suit filed a Consolidated Complaint, which added several individual defendants. On July 10, 2002, the Plaintiffs in the Consolidated Suit filed a second Consolidated Complaint, which added five state law claims against the Company and the individual defendants, consisting of two claims under the Arkansas Deceptive Trade Practice Act and claims for common law fraud, constructive fraud and breach of fiduciary duty. It is not expected that the Company’s liability, if any, would increase as a result of the newly added claims. The Company filed a motion to dismiss the Consolidated Suit in its entirety.

On May 1, 2000, George S. Mackey and Jones & Mackey Construction Company, LLC filed a Complaint in the Circuit Court of Pulaski County, Arkansas against Superior Bank, a wholly owned subsidiary of the Company. The Complaint alleges a breach of a commitment to lend and related claims, including defamation. On May 20, 2002, after the conclusion of the trial and jury deliberation, the jury returned a verdict in favor of Jones & Mackey Construction Company, LLC, in the amount of $5,796,000. The damages were specified as $410,000 for breach of contract, $211,000 for detrimental reliance, $175,000 for defamation and $5,000,000 in punitive damages related to the claim of defamation.

Exhibit 99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

Current report on Form 8-K, dated as of February 5, 2003, furnishing Regulation FD Disclosure under Item 9 of Form 8-K

Current report on Form 8-K, dated as of February 6, 2003, furnishing Regulation FD Disclosure under Item 9 of Form 8-K

Current report on Form 8-K, dated as of March 20, 2003, furnishing Regulation FD Disclosure under Item 9 of Form 8-K

Current report on Form 8-K, dated as of April 4, 2003, furnishing Regulation FD Disclosure under Item 9 of Form 8-K

Current report on Form 8-K, dated as of April 25, 2003, furnishing Regulation FD Disclosure under Item 9 of Form 8-K

Current report on Form 8-K, dated as of May 1, 2003, furnishing Regulation FD Disclosure under Item 9 of Form 8-K

Pursuant to the requirements 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.

1. I have reviewed this quarterly report on Form 10-Q of Superior Financial Corp.;

2. Based on my knowledge, this quarterly 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 quarterly report;

3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 officers 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 quarterly 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 quarterly report (the “Evaluation Date”); and

c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5. The registrant’s other certifying officers 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 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 officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.



By:		/s/ C. STANLEY BAILEY
		C. Stanley Bailey
		Chairman of the Board and Chief Executive Officer

1. I have reviewed this quarterly report on Form 10-Q of Superior Financial Corp.;

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 quarterly report (the “Evaluation Date”); and

c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

a) all significant deficiencies in the design or operation of 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



By:		/s/ ROBERT A. KUEHL
		Robert A. Kuehl
		Chief Financial Officer

DELAWARE		51-0379417
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

Class		Outstanding at April 25, 2003
Common Stock, $0.01 Par Value		8,281,109

		Page Number
PART I.	FINANCIAL INFORMATION	3

Item 1.	Financial Statements	3

	Consolidated balance sheets, March 31, 2003 and December 31, 2002 (unaudited)	3

	Consolidated statements of income, three months ended March 31, 2003 and March 31, 2002 (unaudited)	4

	Consolidated statements of cash flows, three months ended March 31, 2003 and March 31, 2002 (unaudited)	5

	Notes to consolidated financial statements (unaudited)	6

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	9

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	18

Item 4.	Controls and Procedures	18

PART II.	OTHER INFORMATION	19

Item 1.	Legal Proceedings	19

Item 2.	Changes in Securities and Use of Proceeds	19

Item 3.	Defaults upon Senior Securities	20

Item 4.	Submission of Matters to a Vote of Security Holders	20

Item 5.	Other Information	20

Item 6.	Exhibits and Reports on Form 8-K	20

SIGNATURES		21

	March 31, 2003			December 31, 2002
ASSETS
Cash and cash equivalents	$	114,594		$	84,426
Loans available for sale		9,332			12,970
Loans		1,046,571			1,086,310
Less allowance for loan losses		13,628			13,861

Loans, net		1,032,943			1,072,449
Investments available for sale, net		419,317			413,857
Accrued interest receivable		12,179			12,575
Federal Home Loan Bank stock		17,954			17,844
Premises and equipment, net		46,460			45,806
Mortgage servicing rights, net		8,627			6,565
Goodwill, net		56,260			56,260
Real estate acquired in settlement of loans, net		634			845
Prepaid expense and other assets		28,869			9,794

Total assets	$	1,747,169		$	1,733,391

LIABILITIES AND STOCKHOLDERS’ EQUITY
Liabilities:
Deposits	$	1,249,956		$	1,211,220
Federal Home Loan Bank borrowings		223,000			235,000
Other borrowed funds		50,848			53,961
Note payable		20,000			500
Senior notes		—			50,951
Guaranteed preferred beneficial interest in the Company’s subordinated debentures		40,000			25,000
Custodial escrow balances		11,678			7,363
Other liabilities		18,688			16,494

Total liabilities		1,614,170			1,600,489
Stockholders’ equity:
Preferred stock—$0.01 par value; 1 million shares authorized at March 31, 2003 and December 31, 2002, none issued and outstanding		—			—
Common stock—$0.01 par value; 20 million shares authorized, 10,081,892 issued and outstanding at March 31, 2003 and December 31, 2002		101			101
Capital in excess of par value		94,764			94,764
Retained earnings		56,449			53,636
Accumulated other comprehensive income		5,348			5,498

		156,662			153,999
Treasury stock at cost—1,802,683 and 1,661,448 shares at March 31, 2003 and December 31, 2002, respectively		(23,663	)		(21,097	)

Total stockholders’ equity		132,999			132,902

Total liabilities and stockholders’ equity	$	1,747,169		$	1,733,391

	Three Months Ended
	March 31, 2003		March 31, 2002
Interest Income:
Loans	$	18,962	$	20,943
Investments		5,217		5,560
Interest-bearing deposits		183		288
Other		110		128

Total interest income		24,472		26,919

Interest Expense:
Deposits		5,660		7,547
Federal Home Loan Bank borrowings		3,109		3,103
Other borrowings		2,242		2,306

Total interest expense		11,011		12,956

Net interest income		13,461		13,963
Provision for loan losses		1,050		1,250

Net interest income after provision for loan losses		12,411		12,713

Noninterest Income:
Service charges on deposit accounts		6,382		6,576
Mortgage operations, net		1,090		674
Income from real estate operations, net		102		100
Gains on sale of investments		771		211
Other		1,309		639

Total noninterest income		9,654		8,200

Noninterest Expense:
Salaries and employee benefits		8,020		7,501
Occupancy expense		1,159		1,174
Data and item processing		1,983		1,909
Advertising and promotion		338		345
Postage and supplies		856		794
Equipment expense		997		840
Other		3,125		2,744

Total noninterest expense		16,478		15,307

Income before income tax expense		5,587		5,606
Income tax expense		1,740		1,816


Net Income	$	3,847	$	3,790

Basic earnings per share	$	0.46	$	0.44

Diluted earnings per share	$	0.44	$	0.43

	Three Months Ended
	March 31, 2003			March 31, 2002
Operating Activities
Net income	$	3,847		$	3,790
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		1,050			1,250
Depreciation		1,253			1,135
Amortization of mortgage servicing rights		447			287
Amortization of premiums on investments		432			270
Amortization of other intangibles		18			—
Loss on sale of real estate		20			8
Gain on sale of investments, net		(771	)		(211	)
Mortgage loans originated for sale		(22,566	)		(15,808	)
Proceeds from sale of mortgage loans held for sale		31,018			18,944
Decrease in accrued interest receivable		396			288
(Increase) decrease in prepaid expenses and other assets		(4,091	)		3,598
Increase (decrease) in custodial escrow balances		4,315			(1,506	)
(Decrease) increase in other liabilities		(1,637	)		7,354

Net cash provided by operating activities		13,731			19,399

Investing Activities
Decrease in loans, net		33,322			14,832
Purchases of investments		(66,905	)		(45,464	)
Proceeds from sale of investments		26,484			10,842
Purchase of FHLB stock		(110	)		(128	)
Purchase of Bank Owned Life Insurance		(15,060	)		—
Proceeds from real estate acquired in settlement of loans		569			445
Principal payments on investments		35,135			28,226
Purchases of premises and equipment		(1,907	)		(2,797	)
Additions to mortgage servicing rights		(2,509	)		(353	)

Net cash provided by investing activities		9,019			5,603

Financing Activities
Net increase in deposits		41,222			35,310
Net FHLB repayments		(12,000	)		(7,000	)
Repayments of other borrowed funds		(3,113	)		(3,339	)
Payment of dividends		(1,060	)		(478	)
Proceeds from note payable		19,500			—
Retirement of Senior notes		(50,951	)		—
Proceeds from issuance of guaranteed preferred beneficial interest in the Company's subordinated debentures		15,000			—
Proceeds from issuance of treasury stock		—			499
Purchases of treasury stock		(1,180	)		—

Net cash provided by financing activities		7,418			24,992

Net increase in cash and cash equivalents		30,168			49,994
Cash and cash equivalents at beginning of period		84,426			97,561

Cash and cash equivalents at end of period	$	114,594		$	147,555

	2003		2002
	(Dollars in thousands, except per share amounts)
Net income, as reported	$	3,847	$	3,790
Stock-based compensation expense, net of tax effect of $65 and $59, respectively		144		122

Net income, as adjusted	$	3,703	$	3,668

Basic earnings per common share, as reported	$	0.46	$	0.44
Basic earnings per common share, as adjusted	$	0.44	$	0.43
Diluted earnings per common share, as reported	$	0.44	$	0.43
Diluted earnings per common share, as adjusted	$	0.43	$	0.42

	Three Months Ended March 31,
	2003		2002
	(In thousands, except per share amounts)

Common shares - weighted average (basic)		8,413		8,593
Common share equivalents - weighted average		299		228

Common shares - weighted average (diluted)		8,712		8,821

Net Income	$	3,847	$	3,790

Basic earnings per common share	$	0.46	$	0.44

Diluted earnings per common share	$	0.44	$	0.43

Dividend declared per common share	$	0.125	$	0.10

	March 31, 2003			March 31, 2002
	(Dollars in thousands)
Average interest-earning assets	$	1,563,733		$	1,545,722
Average interest-bearing liabilities	$	1,474,970		$	1,449,994
Yield on interest-earning assets (tax-equivalent)		6.39	%		7.09	%
Rate paid on interest-bearing liabilities		3.01	%		3.51	%
Net interest spread		3.38	%		3.58	%
Net interest margin		3.55	%		3.82	%

	Company Actual				Bank Actual				Required for Capital Adequacy Purposes				Required to be Categorized as Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio		Amount		Ratio
As of March 31, 2003
Tangible capital to adjusted total assets	$	110,527	6.57	%	$	125,143	7.44	%	$	25,245	1.50	%		N/A	N/A
Core capital to adjusted total assets		110,527	6.57			125,143	7.44			67,320	4.00		$	84,150	5.00	%
Total capital to risk weighted assets		123,930	11.51			138,546	12.90			85,914	8.00			107,393	10.00
Tier 1 capital to risk weighted assets		110,527	10.26			125,143	11.65			N/A	N/A			64,436	6.00

As of December 31, 2002
Tangible capital to adjusted total assets	$	95,546	5.73	%	$	124,624	7.51	%	$	24,900	1.50	%		N/A	N/A
Core capital to adjusted total assets		95,546	5.73			124,624	7.51			66,399	4.00		$	82,999	5.00	%
Total capital to risk weighted assets		109,022	10.00			138,100	12.76			86,881	8.00			108,189	10.00
Tier 1 capital to risk weighted assets		95,546	8.76			124,624	11.52			N/A	N/A			64,913	6.00

	Quarter ended March 31, 2003			Year ended December 31, 2002
	(Dollars in thousands)
Allowance for loan losses, beginning of period	$	13,861		$	12,109
Provision for loan losses		1,050			7,396
Charge-offs		(1,600	)		(7,456	)
Recoveries		317			1,812

Allowance for loan losses, end of period	$	13,628		$	13,861


Allowance to period-end loans		1.30	%		1.28	%
Net charge-offs to average loans		0.48	%		0.53	%
Allowance to period-end nonperforming loans		198	%		215	%

	March 31, 2003			December 31, 2002
	(Dollars in thousands)
Nonaccrual loans	$	6,899		$	6,453
Other real estate and foreclosed property		1,162			1,424

Total nonperforming assets	$	8,061		$	7,877

Nonperforming assets to total loans and other real estate		0.77	%		0.72	%
Nonperforming assets to total assets		0.46	%		0.45	%

/s/ C. STANLEY BAILEY		May 5, 2003
C. Stanley Bailey, Chief Executive Officer		Date

/s/ ROBERT A. KUEHL		May 5, 2003
Robert A. Kuehl, Chief Financial Officer		Date