UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark one)

For the quarterly period ended March 31, 2004

or

For the transition period from            to

Commission file number 0-21845

Wilshire Financial Services Group Inc.

(818) 223-8084
(Registrant’s telephone number, including area code)

     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 Rule 12b-2 of the Exchange Act). Yes [  ]  No   [X]

Applicable only to issuers involved in bankruptcy proceedings during the preceding five years:

     Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes [X]  No [  ]

Applicable only to corporate issuers:

     Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES

INDEX

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES

See notes to unaudited interim condensed consolidated financial statements

3

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES

See notes to unaudited interim condensed consolidated financial statements

4

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES

[Continued]

See notes to unaudited interim condensed consolidated financial statements

5

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
(Unaudited)
(Dollars in thousands)

See notes to unaudited interim condensed consolidated financial statements

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WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES

1.

BASIS OF PRESENTATION

     The accompanying interim condensed consolidated financial statements of Wilshire Financial Services Group Inc. and its subsidiaries (“WFSG” or the “Company”) are unaudited and should be read in conjunction with the 2003 Annual Report on Form 10-K. A summary of the Company’s significant accounting policies is set forth in Note 1 to the Consolidated Financial Statements in the 2003 Annual Report on Form 10-K.

     In the opinion of management, all adjustments, other than the adjustments described below, generally comprised of normal recurring accruals necessary for fair presentation of the interim condensed consolidated financial statements, have been included and all intercompany accounts and transactions have been eliminated in consolidation. Operating results for the three months ended March 31, 2004 are not necessarily indicative of the results that may be expected for the year ending December 31, 2004.

     The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual amounts and results could differ from those estimates.

     Certain reclassifications of 2003 amounts were made in order to conform to the 2004 presentation. None of these reclassifications affected previously reported net income.

2.

PER-SHARE DATA

     Basic earnings per share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted average number of common shares and potentially dilutive stock options outstanding during the period. Following is a reconciliation of the number of shares used in the calculation of basic and diluted earnings per share for the quarters ended March 31, 2004 and 2003.

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WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Unaudited)
(Dollars in thousands, except share data and where noted)

     The Company has two stock-based employee compensation plans, the 1999 Equity Participation Plan and the 2002 Equity Participation Plan, pursuant to which stock options have been granted to its directors and certain employees. The Company accounts for these plans under the recognition and measurement principles of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. No stock-based employee compensation cost is 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. Had compensation expense for the Company’s Equity Participation Plans been determined based on the fair value at the grant date consistent with the methods of Statement of Financial Accounting Standards (“SFAS”) No. 123, the Company’s net income and earnings per share for the quarters ended March 31, 2004 and 2003 would have been reduced to the pro-forma amounts indicated below.

3.

SALE OF WILSHIRE CREDIT CORPORATION

     On April 30, 2004 the Company completed the sale of its wholly-owned mortgage servicing subsidiary, Wilshire Credit Corporation (“WCC”), to Merrill Lynch Mortgage Capital Inc. (“Merrill Lynch”) for net proceeds of approximately $48.8 million, and realized a gain on the sale of approximately $19.1 million before taxes. The final purchase price is subject to adjustment based on WCC’s closing date net asset value as determined by the Company and Merrill Lynch.

     WCC was formed in 1999 pursuant to the Company’s reorganization, and comprised WFSG’s Loan Servicing Operations business segment. As of March 31, 2004, WCC serviced $6.0 billion principal balance of loans for more than 500 individual and institutional investors and governmental agencies.

     In the accompanying financial statements, WCC is accounted for as a disposal group held for sale in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” Accordingly, the assets and liabilities of WCC have each been combined and presented as separate captions on the Consolidated Statements of Financial Condition. In addition, WCC’s results of operations have been removed from the Company’s results from continuing operations on the Consolidated Statements of Operations, and have been presented separately in a single caption as “Income from operations of subsidiary held for sale, net of income tax provision.” In accordance with SFAS No. 144, the Company did not record depreciation expense on WCC’s fixed assets for the quarter ended March 31, 2004.

8

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Unaudited)
(Dollars in thousands, except share data and where noted)

     The following is summarized financial information for WCC:

Results of operations for WCC were as follows:

Following is a summary of WCC’s loan servicing portfolio by type of loan:

(1)

WCC’s servicing portfolio at March 31, 2004 and December 31, 2003 also included approximately $0.3 billion unpaid principal balance of non-performing consumer loans in addition to those presented above.

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WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
(Unaudited)
(Dollars in thousands, except share data and where noted)

4.

COMMITMENTS, CONTINGENCIES AND OFF-BALANCE SHEET RISK

     At March 31, 2004, the Company’s banking subsidiary, First Bank of Beverly Hills, F.S.B. (“FBBH” or the “Bank”), had outstanding commitments to fund $25.2 million in mortgage loans and to purchase $1.3 million of new loans.

     The Company expects to incur additional expenses in connection with legal costs for a prior officer. These costs, which totaled approximately $0.3 million and $0.5 million, respectively, for the quarters ended March 31, 2004 and 2003, relate to the events that gave rise to litigation arising from the financial collapse of Capital Consultants LLC (“CCL”).

     The Company on May 13, 2002 entered into a settlement agreement to resolve the litigation arising from CCL’s collapse and has completed all of its obligations under the settlement agreement. Management, after consultation with legal counsel, believes that this litigation will be dismissed in the next few months.

5.

INCOME TAXES

     The Company files consolidated federal and state income tax returns with its eligible subsidiaries. As discussed in Note 3, the Company completed the sale of its wholly-owned loan servicing subsidiary, WCC, to Merrill Lynch effective April 30, 2004. Consequently, the Company’s consolidated income tax returns for the year ending December 31, 2004 will include WCC’s operating results only for the period from January 1 through April 30, 2004.

     In the accompanying consolidated financial statements, WCC is accounted for as a disposal group held for sale, and its assets and liabilities and operating results have each been removed from the Company’s consolidated statements of financial condition and operations, respectively, and reported separately in a single caption. Accordingly, the discussion in this note concerns primarily the Company’s income tax provision and its deferred tax asset as they relate to its continuing operations.

     The Company recorded a current tax provision on income from continuing operations of approximately $1.4 million for the quarter ended March 31, 2004, compared with $0.8 million for the quarter ended March 31, 2003. The Company’s deferred tax provision (benefit) is determined on a quarterly basis pursuant to an evaluation of WFSG’s net deferred tax asset. These deferred tax assets and liabilities represent the tax effect of future deductible or taxable amounts. They are attributable to carryforwards, such as net operating losses and capital losses, and also to temporary differences between amounts that have been recognized in the financial statements and amounts that have been recognized in the income tax returns. An effective tax rate of approximately 41% is applied to each attribute in determining the amount of the related deferred tax asset or liability. Decreases (increases) in the net deferred tax asset are recorded as a deferred tax provision (benefit) in the consolidated statements of operations.

     WFSG’s net deferred tax asset was approximately $17.6 million and $18.1 million, respectively, at March 31, 2004 and December 31, 2003. In accounting for the deferred tax asset, the Company applies SFAS No. 109, “Accounting for Income Taxes.” SFAS No. 109 requires, among other things, that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax asset will not be realized. Management believes that it is more likely than not that the Company will realize a portion of the deferred tax asset and has recorded the valuation allowance accordingly. As benefits relating to the Company’s pre-reorganizational (before June 10, 1999) period are realized and the valuation allowance is reduced, the tax effect is recorded as an increase to stockholders’ equity in accordance with the American Institute of Certified Public Accountants Statement of Position 90-7, Financial Reporting by Entities in Reorganization Under the Bankruptcy Code (“SOP 90-7”), and not as a tax benefit in the statement of operations. As benefits relating to the Company’s post-reorganizational period are realized, the tax effect will be recorded as a tax benefit in the consolidated statements of operations.

     As of March 31, 2004, the Company had U.S. net operating loss carryforwards and capital loss carryforwards of approximately $109 million and $5 million, respectively, and also has state net operating loss carryforwards. The federal carryforward period runs through 2023. However, in June 2002 the Company experienced a change in control as set forth by Section 382 of the Internal Revenue Code. In general, a change in control is defined as a greater than 50% ownership shift as measured over the prior three-year period. As a result of the change in control, the Company’s net operating loss carryforwards and capital loss carryforwards that were generated prior to the change in control are subject to a limitation on

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WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(Unaudited)
(Dollars in thousands, except share data and where noted)

the amount that may be used annually to offset taxable income. The Company has determined that the amount of this limitation is approximately $6 million per year and believes that its valuation allowance against the deferred tax asset provides adequately for this limitation.

     Beginning with the year ending December 31, 2004, the Company will be determining its utilization of net operating and capital loss carryforwards on an annual, rather than quarterly, basis. As a result, the tax effect from the utilization of WFSG’s loss carryforwards will not be reflected in the Company’s quarterly financial statements.

     WCC’s allocable share of the consolidated income tax provision was approximately $0.3 million for the first quarters of both 2004 and 2003. At March 31, 2004 and December 31, 2003, WCC’s total deferred tax asset, representing the tax effect of net future deductions, was $3.7 million.

6.

OPERATING SEGMENTS

     The Company reports segment data in accordance with the accounting principles discussed in Note 1 to the consolidated financial statements in the 2003 Annual Report on Form 10-K. Effective the second quarter of 2003, the Company redefined its reportable operating segments in order to reflect a complete separation of its investment operations from its servicing operations. Consequently, the operating results of the Company’s investment subsidiary, Wilshire Funding Corporation (“WFC”), are reported as an individual business segment (“Mortgage Investments”), separate from those of its loan servicing subsidiary, WCC (“Loan Servicing”). (In prior periods, the results of WCC and WFC were combined into one operating segment known as “Specialty Servicing and Finance Operations”.) The results for the quarter ended March 31, 2003 have been revised to give effect to the new segments.

     As discussed in Note 3, the Company completed the sale of WCC to Merrill Lynch effective April 30, 2004. Accordingly, the operating results of WCC are presented separately, in a single caption titled “Income from operations of subsidiary held for sale” in the Company’s condensed consolidated statements of operations.

     The operating segments differ in terms of regulatory environment, funding sources and asset acquisition strategies, as described below:

•		Banking Operations—Through FBBH, the Company conducts a banking business focused primarily on specialty-niche products, including commercial and multi-family real estate lending, investments in residential whole loans, and investments in primarily AAA-rated and government agency mortgage-backed securities. The primary sources of liquidity for the Bank’s acquisitions and originations are wholesale certificates of deposit, retail deposits, FHLB advances and repurchase agreements. The Bank is a federally chartered savings bank and is regulated by the OTS.
•		Mortgage Investment Operations— The Company’s investment subsidiary, WFC, acquires mortgage-backed securities and pools of performing, sub-performing and non-performing residential and commercial loans. WFC conducts certain of these activities with an institutional investor where such investments align the Company’s interests with those of the institutional investor. WFC’s funding sources consist primarily of commercial bank financing and co-investors, with debt service repayment terms that generally parallel the cash flows of the underlying collateral.
•		Holding Company and Miscellaneous Operations—The Company’s Holding Company and Miscellaneous Operations consist of other operating revenues and expenses not directly attributable to the aforementioned business segments. In addition, this segment includes interest expense on the $20.6 million of junior subordinated notes payable issued in July 2002 and eliminations of intercompany accounts and transactions.

11

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(Unaudited)
(Dollars in thousands, except share data and where noted)

     Segment data for the quarters ended March 31, 2004 and 2003 are as follows:

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WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(Unaudited)
(Dollars in thousands, except share data and where noted)

13

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(Unaudited)
(Dollars in thousands, except share data and where noted)

7.

INTANGIBLE ASSETS

     In June 2000, FBBH acquired a branch location and recorded goodwill of $3,393 and a core deposit intangible of $1,294. Through December 31, 2001, the goodwill was amortized on a straight-line basis over an estimated useful life of 15 years. In January 2002 the Company adopted SFAS No. 142, “Goodwill and Other Intangible Assets,” and, as a result, no longer amortizes goodwill, but tests it at least annually for impairment. The Company will continue to amortize the core deposit intangible over an estimated useful life of 5 years.

     Following is a summary of the Company’s intangible assets:

     For the quarter ended March 31, 2004 the Company recorded amortization expense of $65 related to the core deposit intangible. The estimated amortization of the balance for the remainder of 2004 and the succeeding fiscal years is $194 (2004), $129 (2005), and none thereafter.

     There were no changes in the carrying value of goodwill during the quarter ended March 31, 2004. The Company tested goodwill for impairment as of March 31, 2004 and determined that no impairment charge was required.

     The Company’s purchased mortgage servicing rights (PMSRs) totaled approximately $0.2 million at March 31, 2004 and $0.25 million at December 31, 2003. Amortization expense for PMSRs was $0.1 million for the quarter ended March 31, 2004, and $0.2 million for the quarter ended March 31, 2003. The estimated amortization expense of the March 31, 2004 balance of PMSRs for the remainder of 2004 and the five succeeding fiscal years is $77 thousand (2004), $58 thousand (2005), $32 thousand (2006), $17 thousand (2007), $10 thousand (2008), and $6 thousand (2009). The estimated amortization expense is based only on currently held PMSRs and on current information regarding loan payments and prepayments. Actual results may vary as a result of changes in the rate of prepayments and other market factors.

8.

LEGAL MATTERS

     WFSG on May 13, 2002 entered into an agreement to resolve litigation which arose from the financial collapse of CCL in September 2000. All parties have completed all of their obligations under the settlement agreement, including the Company’s purchase of the 49.99% minority interest in WCC in October 2002. The execution of the settlement agreement does not affect WFSG’s complete denial of all such claims. Management, after consultation with legal counsel, believes that this litigation will be dismissed in the next few months.

     The Company is a defendant in other legal actions arising from transactions conducted in the ordinary course of business. Some of these claims involve individual borrowers demanding material amounts for alleged damages. Management, after consultation with legal counsel, and based on prior experience with consumer claims, believes the ultimate liability, if any, arising from such actions will not materially affect the Company’s financial position, consolidated results of operations or cash flows.

9.

SUBSEQUENT EVENTS

     On April 30, 2004, the Company completed the sale of WCC, its wholly-owned mortgage servicing subsidiary, to Merrill Lynch. See Note 3 to the condensed consolidated financial statements for further discussion. Upon the sale of WCC, WFSG’s corporate headquarters were relocated and consolidated with the headquarters of FBBH at 23901

14

WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(Unaudited)
(Dollars in thousands, except share data and where noted)

Calabasas Road, Suite 100, Calabasas, California 91302. WCC will continue to operate at its current Beaverton, Oregon location.

     On April 30, 2004, the Company announced the initiation of a regular quarterly cash dividend in the amount of $0.125 per share. The first dividend is payable July 1, 2004 to stockholders of record on June 15, 2004.

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WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

     The following discussion and analysis should be read in conjunction with the Interim Condensed Consolidated Financial Statements of Wilshire Financial Services Group Inc. and the notes thereto included elsewhere in this filing. References in this filing to “Wilshire Financial Services Group Inc.,” “WFSG,” the “Company,” “we,” “our,” and “us” refer to Wilshire Financial Services Group Inc. and our wholly owned subsidiaries, unless the context indicates otherwise.

     Through the quarter ended March 31, 2004, Wilshire Financial Services Group Inc., a financial services company, conducted operations in three principal business segments: (1) community banking operations (referred to herein as our “Banking Operations”) through our wholly-owned subsidiary, First Bank of Beverly Hills, F.S.B. (“FBBH” or the “Bank”); (2) specialized mortgage loan servicing operations through Wilshire Credit Corporation (“WCC”); and (3) mortgage investment operations through Wilshire Funding Corporation (“WFC”).

Sale of Wilshire Credit Corporation

     On April 30, 2004, we completed the sale of WCC, our wholly-owned loan servicing subsidiary, to Merrill Lynch Mortgage Capital Inc. (“Merrill Lynch”), a division of Merrill Lynch & Co., New York, NY, for net proceeds of approximately $48.8 million, and realized a gain on the sale of $19.1 million before taxes. The final sales proceeds are subject to adjustment based on WCC’s final net asset value as determined by WFSG and Merrill Lynch.

     Subsequent to the sale of WCC, we will operate primarily as a unitary bank holding company. Our business strategy will be focused on the growth and profitability of our remaining Banking and Mortgage Investments segments, through increased lending and investment activity. We believe that our success in implementing this dual strategy in these two segments depends primarily on our ability to (1) evaluate and manage both credit risk and interest-rate risk and (2) employ financial leverage such that cash flows from the underlying investments generally match the debt service requirements.

RESULTS OF OPERATIONS—QUARTER ENDED MARCH 31, 2004 COMPARED TO QUARTER ENDED MARCH 31, 2003

     Our consolidated net income for the quarter ended March 31, 2004 was $2.4 million, or $0.11 per diluted share, compared with $1.6 million, or $0.08 per diluted share, for the quarter ended March 31, 2003.

     As a result of the sale of WCC, we have presented the operating results of WCC as “Income from operations of subsidiary held for sale,” separate and apart from “Income from continuing operations” in the condensed consolidated statements of operations for the quarterly periods presented. Our income from continuing operations for the quarter ended March 31, 2004 was $1.9 million, or $0.09 per diluted share, compared with approximately $1.1 million, or $0.05 per diluted share, for the quarter ended March 31, 2003. Pre-tax income from continuing operations was $3.4 million for the first quarter of 2004, compared with $1.9 million for the first quarter of 2003. WCC’s net income was approximately $0.5 million for the first quarters of both 2004 and 2003.

     Our consolidated stockholders’ equity increased by $5.3 million for the quarter ended March 31, 2004 to $130.8 million, or $6.10 per diluted share. The increase reflects our net income for the quarter and the sale of additional shares of common stock pursuant to the exercise of stock options. In addition, we recorded an increase in after-tax unrealized gains of $0.6 million on our portfolio of available-for-sale securities and hedging instruments. WFSG’s increase in stockholders’ equity for the quarter ended March 31, 2004 does not reflect the utilization of our net operating loss or capital loss carryforwards. We will determine the utilization, if any, of our carryforwards on an annual, rather than quarterly, basis commencing in 2004.

16

     The increase in our income from continuing operations for the first quarter of 2004 as compared with the first quarter of 2003 was due primarily to a $1.25 million increase in consolidated net interest income, reflecting significant loan origination activity at our banking subsidiary. In addition, consolidated other income increased by $0.4 million, primarily as a result of gains on sales of investment securities. These increases were partially offset by slight increases in other operating expenses and provision for loan losses.

     Following is a discussion of the operating results of the Company’s three business segments: our Banking Operations, Loan Servicing Operations, and Mortgage Investment Operations.

FIRST BANK OF BEVERLY HILLS, F.S.B.

     The following table compares income before taxes for FBBH for the quarters ended March 31, 2004 and 2003.

Net Interest Income

     The following table sets forth information regarding the Bank’s income from interest-earning assets and expenses from interest-bearing liabilities for the quarters ended March 31, 2004 and 2003 (dollars in thousands):

     The Bank’s net interest income was $6.5 million for the quarter ended March 31, 2004, compared with $4.8 million for the quarter ended March 31, 2003. The net interest spread increased by 42 basis points, from 2.11% to 2.53%, and the net interest margin increased from 2.52% to 2.80% for the same periods.

17

     The increase in net interest income was primarily attributable to the Bank’s significant loan originations and purchases in the first quarter of 2004 and late 2003, utilizing new deposits and low-cost borrowings as funding sources. As a result, the Bank’s total average interest-earning assets increased by $159.6 million from the first quarter of 2003 to the first quarter of 2004. This increase in earning-asset volume more than offset the effects of the 60-basis point decline in overall yield, resulting in a $1.0 million increase in interest income.

     The continuing low interest-rate environment has impacted the Bank’s interest-bearing liabilities to a greater extent than its interest-earning assets. For the quarter ended March 31, 2004, the Bank’s overall cost of funds was 2.62%, a 102-basis point decline from the cost of funds for the quarter ended March 31, 2003. As a result, the Bank’s interest expense decreased by $0.7 million from the first quarter of 2003 to the first quarter of 2004, despite a $158.3 million increase in total average interest-bearing liabilities.

     The Bank’s interest income on mortgage-backed and other investment securities was $2.6 million for the quarter ended March 31, 2004, compared with $2.9 million for the quarter ended March 31, 2003. This decrease was due to a 44-basis point drop in average yield, from 4.35% to 3.91%, partially offset by a $4.5 million increase in average balance. Utilizing new debt facilities and certificates of deposit, the Bank purchased $108.6 million in AAA-rated mortgage-backed and other investment securities in the third and fourth quarters of 2003 and an additional $105.2 million in the first quarter of 2004.

     The Bank’s interest income on loans for the quarter ended March 31, 2004 was $9.4 million, compared with $8.1 million for the quarter ended March 31, 2003. The increase was due to a $151 million increase in the average balance of loans in the first quarter of 2004 as compared with first quarter of 2003, partially offset by a 77-basis point drop in yield, from 6.63% to 5.86%. The Bank originated and purchased a total of $184.5 million in new commercial and multi-family loans during the first quarter of 2004, contributing to the $1.3 million increase in loan interest income despite the continuing decline in interest rates.

     FBBH’s interest expense on deposits decreased by $0.1 million from the quarter ended March 31, 2003 to the quarter ended March 31, 2004. The decrease was due to a 98-basis point decline in cost, from 3.33% for the first quarter of 2003 to 2.35% for the first quarter of 2004, which slightly offset the effects of the $140.1 million increase in average balance. The Bank raised significant new certificates of deposit in the first quarter of 2004 as it approached its authorized limits on FHLB advance borrowings.

     The Bank’s interest expense on borrowings for the quarter ended March 31, 2004 was approximately $2.5 million, compared with $3.0 million for the quarter ended March 31, 2003. The decrease in the first quarter of 2004 was due to a 98-basis point decline in the average cost, from 4.03% to 3.05%, reflecting the continuing declining interest-rate environment. The lower average cost in 2004 was partially offset by an $18.2 million increase in the average borrowing balance, as the Bank obtained additional FHLB advances to finance its earning-asset acquisitions.

Provision for Loan Losses

     Provisions for losses on loans are charged to operations to maintain an allowance for losses on the loan portfolio at a level which the Bank believes is adequate based on an evaluation of the inherent risks in the portfolio. The Bank’s evaluation is based on an analysis of the loan portfolio, historical loss experience, current economic conditions and trends, collateral values, and other relevant factors. Based on its quarterly evaluations of the adequacy of its loan loss reserves, the Bank did not record a provision for loan losses in the first quarter of 2004 or 2003.

Realized Gains on Sales

     The Bank sold approximately $17.7 million of mortgage-backed securities for a realized gain of $0.3 million during the quarter ended March 31, 2004, with no such sales activity in the first quarter of 2003.

18

Compensation and Employee Benefits Expense

     The Bank’s compensation and employee benefits expense totaled approximately $1.6 million for the first quarter of 2004, compared with $1.1 million for the first quarter of 2003. This increase was due to an increase in bonus expense, primarily as a result of the level of loan fundings in the first quarter of 2004.

Other Expenses

     The Bank’s other expenses totaled approximately $1.3 million for the quarter ended March 31, 2004, compared with a similar amount for the quarter ended March 31, 2003. Costs remained largely consistent in most expense categories, reflecting the Bank’s efforts to control overhead.

Changes in Financial Condition – First Bank of Beverly Hills

     Following are condensed statements of financial condition for FBBH as of March 31, 2004 and December 31, 2003:

     Mortgage-Backed and Other Securities Available for Sale. The Bank’s total portfolio of mortgage-backed securities (MBS) available for sale increased by $76.3 million during the quarter ended March 31, 2004. This increase was due to $105.2 million in purchases of AAA-rated and agency MBS during the quarter, in addition to $1.3 million in unrealized gains on the portfolio. These increases were partially offset by principal repayments of $22.3 million and sales of $7.6 million of MBS.

     The Bank’s portfolio of other investment securities available for sale decreased by approximately $10.1 million during the quarter ended March 31, 2004, as a result of the sale of government agency securities.

     Loans, net. The Bank’s portfolio of loans, net of discounts and allowances, increased by approximately $143.2 million in the first quarter of 2004. The Bank originated $98.9 million of predominantly commercial mortgage loans and purchased an additional $85.6 million of multi-family loans. These additions to the portfolio were partially offset by $39.1 million of principal repayments and $1.9 million of foreclosures during the quarter.

19

     Real Estate Owned, net. The Bank’s portfolio of real estate owned, net increased by approximately $1.7 million for the quarter ended March 31, 2004. This increase was due to $1.9 million in new foreclosures, partially offset by $0.2 million in sales and write-downs of properties.

     Deposits. The Bank’s deposits increased by $162.7 million during the first quarter of 2004, primarily due to a significant increase in brokered certificates of deposit. The Bank used the funds generated by these new deposits primarily for commercial loan originations. As part of an ongoing strategy to reduce its cost of funds, the Bank generally seeks to utilize lower-costing debt facilities in lieu of deposits as its primary funding source, and, throughout 2002 and the first two quarters of 2003, permitted the run-off of higher-rate certificates of deposit. However, due to authorized limits on its FHLB advance borrowings, the Bank from time to time must raise new CDs to finance its acquisitions of interest-earning assets.

     Short-Term Borrowings. The Bank’s short-term borrowings decreased by $13.0 million during the quarter ended March 31, 2004. This decrease was due to repayments of $48.0 million of repurchase agreements, partially offset by renewals totaling $35.0 million. These borrowings are used primarily to finance the Bank’s purchases of mortgage-backed and other investment securities.

     FHLB Advances. The Bank’s FHLB advances increased by $68.0 million for the quarter ended March 31, 2004. During the quarter, the Bank secured $230.0 million in new advances, the proceeds from which provided the financing for the Bank’s asset acquisitions discussed above. These new advances were partially offset by maturities of $162.0 million. The Bank’s FHLB advances are currently limited to 35% of its total assets as of the previous quarter-end.

     Net Worth. The Bank’s total net worth increased by approximately $10.4 million in the first quarter of 2004. The Bank earned net income for the quarter of $2.5 million and recorded $0.8 million in net after-tax unrealized gains on its portfolio of available-for-sale securities and hedging instruments. In addition, in March 2004 WFSG contributed $7.1 million of capital to the Bank through the forgiveness of a portion of the Bank’s income tax liability to WFSG, in accordance with a tax-sharing agreement between the Company and the Bank.

Regulatory Capital Requirements

     Federally insured savings associations such as FBBH are required to maintain minimum levels of regulatory capital. Those standards generally are as stringent as the comparable capital requirements imposed on national banks. The OTS has indicated that the capital level of FBBH exceeds the minimum requirement for “well capitalized” status under provisions of the Prompt Corrective Action Regulation.

     The following table sets forth the Bank’s regulatory capital ratios at March 31, 2004.

Regulatory Capital Ratios

Liquidity and Capital Resources

     Liquidity is the measurement of the Bank’s ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund investments, purchase pools of loans, and make payments for general business purposes. The Bank’s sources of liquidity include wholesale and retail deposits, FHLB advances (up to

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35% of the Bank’s total assets as of the previous quarter-end), repurchase agreements, whole loan and mortgage-backed securities sales, and net interest income. Liquidity in the Bank’s operations is actively managed on a daily basis and periodically reviewed by the Bank’s Board of Directors.

     At March 31, 2004 the Bank’s cash balances totaled approximately $25.0 million, compared with $15.5 million at December 31, 2003. The increase in cash was primarily due to the generation of significant deposits and new borrowings during the quarter, partially offset by new loan originations and purchases of loans and mortgage-backed securities.

     At March 31, 2004, the Bank had approximately $558.5 million of certificates of deposit. Scheduled maturities of certificates of deposit during the 12 months ending March 31, 2005 and thereafter amounted to approximately $462.8 million and approximately $95.7 million, respectively. Wholesale deposits generally are more responsive to changes in interest rates than core deposits, and thus are more likely to be withdrawn by the investor upon maturity as changes in interest rates and other factors are perceived by investors to make other investments more attractive. Bank management continues its effort to reduce its exposure to interest rate changes by utilizing funding sources whose repricing characteristics more closely match those of the Bank’s interest-earning assets.

     In 2001 the OTS rescinded the regulatory requirement that institutions maintain an average daily balance of liquid assets of at least 4% of its liquidity base. Even though the percentage requirement has been eliminated, each bank is still required by the OTS to maintain adequate liquidity to assure safe and sound operation. It is the Bank’s responsibility to determine the appropriate level of liquidity to be maintained.

LOAN SERVICING OPERATIONS

     WFSG has conducted its Loan Servicing Operations through WCC, our servicing subsidiary which was formed pursuant to our June 10, 1999 reorganization. As discussed earlier, on April 30, 2004 the Company completed the sale of WCC to Merrill Lynch Mortgage Capital Inc. Consequently, WCC’s results of operations have been removed from the Company’s results from continuing operations on the accompanying Consolidated Statements of Operations, and have been presented separately in a single caption as “Income from operations of subsidiary held for sale” for the quarters ended March 31, 2004 and 2003.

     The following table compares WCC’s income before taxes for the quarters ended March 31, 2004 and 2003.

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Servicing Income

     The components of WCC’s servicing income are reflected in the following table:

     WCC’s total servicing income for the quarter ended March 31, 2004 was $8.3 million, compared with $7.8 million for the quarter ended March 31, 2003. The increase was due primarily to the growth in WCC’s servicing volume, as shown in the table below. Through new contractual agreements and servicing rights acquisitions, WCC increased its portfolio of serviced loans by approximately $0.9 billion since March 31, 2003, despite significant loan principal repayments precipitated by the continuing low-interest rate environment. As a result of this growth, WCC’s total servicing revenues and ancillary fees (including late charges) increased by approximately 21% from the first quarter of 2003 to the first quarter of 2004.

     Net servicing income has continued to be negatively impacted by the prevailing low interest-rate environment, which has triggered extremely rapid prepayments of loans comprising our serviced asset base. These accelerated prepayments have resulted in significant amortization expense on our purchased mortgage servicing rights (PMSRs) over the past three years (though the increases from the first quarter of 2003 to the first quarter of 2004 shown above are attributable also to the larger portfolio volume). In addition, as a result of rapid prepayments on serviced loans, WCC continued to incur significant prepayment interest shortfall expense, representing the interest required to be paid to securitization trusts in accordance with WCC’s servicing agreements.

     The following table sets forth the composition of loans serviced by WCC by type of loan at the dates indicated.

(1) WCC’s servicing portfolio as of the above dates included approximately $0.3 billion unpaid principal balance of non-performing consumer loans in addition to those reflected in the table.

Other Income

     WCC’s other income increased by approximately $0.4 million from the quarter ended March 31, 2003 to the quarter ended March 31, 2004, primarily as a result of an increase in miscellaneous gains from recoveries of servicer advances in excess of the advances’ carrying values.

Interest Expense

     WCC’s interest expense was $0.1 million for the first quarters of both 2004 and 2003, as its overall average borrowing balances under its debt facilities were similar for both periods.

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Compensation and Employee Benefits Expense

     WCC’s compensation and employee benefits totaled $6.1 million for the quarter ended March 31, 2004, compared with $5.1 million for the quarter ended March 31, 2003. This increase was primarily due to an increase in WCC’s employee head count, which resulted from two factors: (1) the continuing growth of its loan servicing operations and (2) the transfer of some existing employees to WCC’s payroll in the second quarter of 2003 as part of the Company’s reallocation of certain operating expenses among its business segments. Those employees remain with WCC subsequent to its sale, and the Company will no longer incur their related compensation expense. WCC also incurred increases in other employee benefits expenses such as payroll taxes and 401(k) match as a result of WCC’s payout of all vacation and sick time that had accrued as of December 31, 2003.

Other Expenses

     WCC’s other expenses totaled $1.7 million for the quarter ended March 31, 2004, compared with approximately $1.8 million for the first quarter of 2003. In the first quarter of 2004, for consolidated financial reporting purposes, the Company did not record depreciation expense on WCC’s leasehold improvements and equipment, in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” (WCC’s depreciation expense would have been approximately $0.3 million if WCC were not accounted for as a disposal group held for sale.) WCC incurred slight increases in other expense categories as a result of the Company’s reallocation of certain expenses among its operating segments in the second quarter of 2003.

Changes in Financial Condition – Wilshire Credit Corporation

     Following are condensed statements of financial condition for WCC as of March 31, 2004 and December 31, 2003:

     Discounted Loans, net. WCC’s discounted loans, net decreased by $78 thousand for the quarter ended March 31, 2004, primarily as a result of a provision for losses.

     Servicer Advance Receivables, net. Servicer advance receivables, net increased by approximately $3.5 million during the quarter ended March 31, 2004. This increase resulted primarily from new advances made by WCC in January 2004, partially offset by subsequent recoveries of advances on loans previously made.

     Purchased Mortgage Servicing Rights, net. WCC’s purchased mortgage servicing rights, net (PMSRs) decreased by $1.4 million during the first quarter of 2004. WCC incurred $1.2 million of amortization of PMSRs during the quarter, and also recorded an impairment of $0.2 million.

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     Short-Term Borrowings and Investment Financing. WCC’s short-term borrowings and investment financing increased by a net of $0.3 million during the quarter ended March 31, 2004. WCC’s borrowings under its commercial bank line of credit increased by $1.5 million during the quarter, and provided funding for WCC’s new servicer advances. This increase in the line-of-credit borrowing was partially offset by $1.2 million in paydowns on WCC’s servicer acquisition notes, which financed previous acquisitions of PMSRs.

Liquidity and Capital Resources

     WCC’s sources of cash flow have included primarily servicing revenue and lines of credit from commercial banks. The availability of liquidity from our line of credit facilities has been subject to the Company’s maintenance of sufficient available collateral to pledge against such borrowings, and the Company has maintained sufficient capital under the credit agreements. WCC’s liquidity has been actively managed on a daily basis and periodically reviewed by the Company’s Board of Directors to ensure the maintenance of sufficient funds to meet WCC’s operating needs.

     At March 31, 2004, WCC’s liquidity (including cash and unused borrowings under credit facilities) totaled $18.4 million, compared with approximately $18.8 million at December 31, 2003. Adequate credit facilities and other sources of funding have been essential to the continuation of WCC’s ability to purchase servicing assets, secure new contractual servicing agreements, and to meet our advancing obligations under the servicing agreements.

MORTGAGE INVESTMENT OPERATIONS

     WFSG conducts its Mortgage Investment Operations through WFC, our wholly-owned investment subsidiary. Some of WFC’s activities are conducted with a co-investor which has participation interests in the returns generated by the assets that serve as collateral for the loans. The share of such activities held by this co-investor is reflected as “Investor participation interest” in the Company’s consolidated statements of operations.

     The following table compares WFC’s income before taxes for the quarters ended March 31, 2004 and 2003.