UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark one)

[X]    Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended June 30, 2004

or

[  ]    Transitional Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from                      to                     

Commission file number 0-21845

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

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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 WFSG’s 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 July 2004, the stockholders of WFSG approved a proposed amendment to the Company’s certificate of incorporation to change the Company’s name to Beverly Hills Bancorp. The Company has applied to the state of Delaware for the name change and is currently awaiting approval.

     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 and six months ended June 30, 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 (GAAP) 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 and six-month periods ended June 30, 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 and six-month periods ended June 30, 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 $48.7 million, and realized a gain on the sale of approximately $18.5 million before taxes. The final purchase price is subject to adjustment based on WCC’s closing date net asset value as determined jointly by the Company and Merrill Lynch.

     WCC was formed in 1999 pursuant to the Company’s reorganization, and comprised the Company’s Loan Servicing Operations business segment. At the time of its sale, WCC serviced over $6 billion principal balance of loans for more than 500 individual and institutional investors and governmental agencies.

     Effective December 31, 2003, the Company began accounting for WCC 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 “(Loss) income from operations of discontinued segment, net of income tax (benefit) provision.” In accordance with SFAS No. 144, the Company did not record depreciation expense on WCC’s leasehold improvements and equipment from January 1 through April 30, 2004. As a result, the pre-tax income from operations of the discontinued segment, as reported in the accompanying financial statements, was approximately $0.4 million more than the income actually recorded by WCC for that period. Consequently, the gain on sale as reported is $0.4 million less, on a pre-tax basis, than the gain actually realized by the Company, due to the higher basis in WCC for GAAP purposes.

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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 following is summarized financial information for WCC:

     Results of operations for WCC are shown in the table below. The amounts for the quarter and six months ended June 30, 2004 reflect WCC’s results for only the month and four months ended April 30, 2004, respectively.

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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 June 30, 2004, the Company’s banking subsidiary, First Bank of Beverly Hills, F.S.B. (“FBBH” or the “Bank”), had outstanding commitments to fund $15.1 million in mortgage loans.

     The Company may 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 quarter and six months ended June 30, 2004, relate to the events that gave rise to litigation arising from the financial collapse of Capital Consultants LLC (“CCL”). The Company anticipates that the amount of such expenses will decline in future periods.

     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 discontinued operation, and its operating results have been removed from the Company’s consolidated statements of operations and reported separately in a single caption. Accordingly, the discussion in this note concerns the Company’s income tax provision and its deferred tax asset as they relate to its continuing operations only.

     The Company recorded a current tax provision on income from continuing operations of $2.0 million for the quarter ended June 30, 2004, compared with $0.5 million for the quarter ended June 30, 2003. For the six months ended June 30, 2004, the Company’s tax provision on income from continuing operations was $3.4 million, compared with $1.3 million for the six months ended June 30, 2003. The Company’s deferred tax provision (benefit) is determined on a quarterly basis pursuant to an evaluation of its 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.

     The Company’s net deferred tax asset was $20.9 million and $18.1 million, respectively, at June 30, 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 June 30, 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

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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)

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 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.

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. As discussed in Note 3, the Company completed the sale of WCC, which comprised WFSG’s Loan Servicing segment, to Merrill Lynch effective April 30, 2004. Accordingly, the operating results of WCC are presented separately, in a single caption titled “(Loss) income from operations of discontinued segment” 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, purchases of 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, Federal Home Loan Bank (“FHLB”) advances and repurchase agreements. The Bank is a federally chartered savings bank and is regulated by the Office of Thrift Supervision (“OTS”).
•		Mortgage Investment Operations— The Company’s investment subsidiary, Wilshire Funding Corporation (“WFC”), has acquired mortgage-backed securities and pools of performing, sub-performing and non-performing residential and commercial loans. WFC has conducted 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 have consisted primarily of commercial bank financing and co-investors, with debt service repayment terms that generally parallel the cash flows of the underlying collateral. The active acquisition of assets by WFC has been significantly curtailed since 2001, and its current operations consist primarily of the management of its existing asset portfolio.
•		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.

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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)

     Segment data for the three months ended June 30, 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)

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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)

     Segment data for the six months ended June 30, 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)

15

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.” As a result, the Company no longer amortizes goodwill, but tests it for impairment on an annual basis, or more frequently if conditions arise. 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 and six months ended June 30, 2004 the Company recorded amortization expense of $64 and $129, respectively, related to the core deposit intangible. The estimated amortization of the balance for the remainder of 2004 and the succeeding fiscal years is $129 (2004), $130 (2005), and none thereafter.

     There were no changes in the carrying value of goodwill during the quarter ended June 30, 2004. The Company tested goodwill for impairment as of March 31, 2004 and determined that no impairment charge was required.

8. CASH DIVIDEND

     On July 1, 2004, the Company paid its first quarterly dividend, in the amount of $0.125 per common share to stockholders of record as of June 15, 2004. The total dividend payable, approximately $2.6 million, was accrued as of June 30, 2004 and is reflected in the accompanying consolidated statements of financial condition.

9. NEW ACCOUNTING PRONOUNCEMENTS

     In March 2004, the Financial Accounting Standards Board ratified the consensus reached in November 2003 by the Emerging Issues Task Force on Issue 03-01, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.” The consensus requires certain quantitative and qualitative disclosures for debt and marketable equity securities classified as available-for-sale or held-to-maturity under SFAS Nos. 115 and 124 that are impaired at the balance sheet date but for which an other-than-temporary impairment has not been recognized. The consensus also provides guidance for determining when an investment is other-than-temporarily impaired. This guidance is effective for periods beginning after June 15, 2004. The Company is currently evaluating the impact that this guidance will have on its financial condition and results of operations.

10. SUBSEQUENT EVENT

     In August 2004, the Federal Home Loan Bank of San Francisco increased the Bank’s authorized borrowing limit for FHLB advances from 35% to 40% of the Bank’s total assets as of the previous quarter-end.

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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 April 30, 2004, Wilshire Financial Services Group Inc. 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 $48.7 million, and realized a gain on the sale of approximately $18.5 million before taxes. The final sales proceeds are subject to adjustment based on WCC’s final net asset value as determined jointly by the Company and Merrill Lynch.

     Subsequent to the sale of WCC, we have operated primarily as a unitary bank holding company. Our business strategy is focused on the growth and profitability of our banking segment through increased lending and investment activity, and on the management of the existing asset portfolio in our Mortgage Investment segment. We believe that our success in implementing this strategy 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 AND SIX MONTHS ENDED JUNE 30, 2004 COMPARED TO QUARTER AND SIX MONTHS ENDED JUNE 30, 2003

     Our consolidated net income for the quarter ended June 30, 2004 was $13.3 million, or $0.62 per diluted share, compared with $1.4 million, or $0.07 per diluted share, for the quarter ended June 30, 2003. For the six-month period ended June 30, 2004, our net income was $15.8 million, or $0.74 per diluted share, compared with $3.0 million, or $0.15 per diluted share, for the six months ended June 30, 2003.

     As a result of the sale of WCC, we have presented WCC’s operating results under the “Discontinued operations” caption, separate and apart from “Income from continuing operations” in our consolidated statements of operations for the periods presented. Our income from continuing operations for the quarter and six months ended June 30, 2004 was $2.7 million ($0.12 per diluted share) and $4.6 million ($0.22 per diluted share), respectively, compared with $0.7 million ($0.03 per diluted share) and $1.8 million ($0.09 per diluted share) for the quarter and six months ended June 30, 2003. Pre-tax income from continuing operations was $4.7 million and $8.1 million, respectively, for the quarter and six months ended June 30, 2004, compared with $1.2 million and $3.1 million for the corresponding 2003 periods.

     Our results from discontinued operations for the quarterly and six-month periods ended June 30, 2004 reflect WCC’s net loss for of $0.2 million for the month of April 2004 and WCC’s net income of $0.3 million for the four months ended April 30, 2004, respectively. WCC recorded net income of $0.7 million and $1.2 million, respectively, for the quarter and six months ended June 30, 2003.

     Our consolidated stockholders’ equity increased by $12.4 million during the six months ended June 30, 2004, to $137.9 million, or $6.40 per diluted share. This increase reflects our net income for the year to date and the sale of

17

additional shares of common stock pursuant to the exercise of stock options, partially offset by a cash dividend of $2.6 million on the Company’s common stock and net after-tax unrealized losses of $4.0 million on our portfolio of available-for-sale securities and hedging instruments.

     The increase in income from continuing operations for the second quarter of 2004 over the second quarter of 2003 was due primarily to a $2.8 million increase in consolidated net interest income, reflecting significant lending and investment activity at our banking subsidiary, FBBH. In addition, we realized a $0.7 million increase in other income and a $0.8 million decrease in consolidated operating expenses. These factors were partially offset by a loan loss provision of $0.1 million for the quarter ended June 30, 2004, which, when compared with recaptures of loan losses of $0.7 million for the quarter ended June 30, 2003, represents an overall increase in provision of $0.8 million.

     Our results for the six months ended June 30, 2004 versus the comparable 2003 period reflect a $4.1 million increase in net interest income, a $1.1 million increase in other income, and a $0.7 million decrease in consolidated operating expenses. These increases in income were partially offset by a loan loss provision of $0.2 million for the six-month period ended June 30, 2004, compared with loan loss recaptures of $0.7 million in the corresponding 2003 period, for an overall increase in provision of $0.9 million.

     Following is a discussion of the operating results of the Company’s Banking Operations and Mortgage Investment Operations segments, and its discontinued Loan Servicing Operations.

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

     The following table compares income before taxes for FBBH for the quarters and six-month periods ended June 30, 2004 and 2003.