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UNITED STATES

For the fiscal year ended December 31, 2002

o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]

For the transition period from                               to                               .

Commission File Number: 001-31251

Registrant’s telephone number, including area code: (207) 761-8500

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

Securities registered pursuant to Section 12(g) of the Act: Not Applicable

      Indicate by check mark whether the Registrant (1) has filed all reports required by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

      Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

      Indicate by check mark whether the Registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes þ No o

      As of June 28, 2002, the aggregate market value of the 147,095,337 shares of Common Stock of the Registrant issued and outstanding on such date, excluding the approximately 891,640 shares held by all directors and executive officers of the Registrant as a group (which does not include unexercised stock options), was $3.8 billion. This figure is based on the last sale price of $25.70 per share of the Registrant’s Common Stock on June 28, 2002, as reported in The Wall Street Journal on July 1, 2002. Although directors of the Registrant and executive officers of the Registrant and its subsidiaries were assumed to be “affiliates” of the Registrant for purposes of this calculation, the classification is not to be interpreted as an admission of such status.

      Number of shares of Common Stock outstanding as of February 28, 2003: 164,186,259

DOCUMENTS INCORPORATED BY REFERENCE

      List hereunder the following documents if incorporated by reference and the part of the Form 10-K into which the document is incorporated:

      Portions of the definitive Proxy Statement for the Annual Meeting of Stockholders to be held on April 22, 2003 are incorporated by reference into Part III, Items 10-13 of this Form 10-K.

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BANKNORTH GROUP, INC.

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FORWARD-LOOKING STATEMENTS

      In the normal course of business, we, in an effort to help keep our shareholders and the public informed about our operations, may from time to time issue or make certain statements, either in writing or orally, that are or contain forward-looking statements, as that term is defined in the U.S. federal securities laws. Generally, these statements relate to business plans or strategies, projected or anticipated benefits from acquisitions made by or to be made by us, projections involving anticipated revenues, earnings, profitability or other aspects of operating results or other future developments in our affairs or the industry in which we conduct business. Forward-looking statements may be identified by reference to a future period or periods or by the use of forward-looking terminology such as “anticipate,” “believe,” “expect,” “intend,” “plan,” “estimate” or similar expressions.

      Although we believe that the anticipated results or other expectations reflected in our forward-looking statements are based on reasonable assumptions, we can give no assurance that those results or expectations will be attained. Forward-looking statements involve risks, uncertainties and assumptions (some of which are beyond our control), and as a result actual results may differ materially from those expressed in forward-looking statements. Factors that could cause actual results to differ from forward-looking statements include, but are not limited to, the following, as well as those discussed elsewhere herein:

	•	our investments in our businesses and in related technology could require additional incremental spending, and might not produce expected deposit and loan growth and anticipated contributions to our earnings;
	•	general economic or industry conditions could be less favorable than expected, resulting in a deterioration in credit quality, a change in the allowance for loan and lease losses or a reduced demand for credit or fee-based products and services;
	•	changes in the domestic interest rate environment could reduce net interest income and could increase credit losses;
	•	the conditions of the securities markets could change, which could adversely affect, among other things, the value or credit quality of our assets, the availability and terms of funding necessary to meet our liquidity needs and our ability to originate loans and leases;
	•	changes in the extensive laws, regulations and policies governing financial holding companies and their subsidiaries could alter our business environment or affect our operations;
	•	the potential need to adapt to industry changes in information technology systems, on which we are highly dependent, could present operational issues or require significant capital spending;
	•	competitive pressures could intensify and affect our profitability, including as a result of continued industry consolidation, the increased availability of financial services from non-banks, technological developments such as the internet or bank regulatory reform;
	•	acquisitions may result in large one-time charges to income, may not produce revenue enhancements or cost savings at levels or within time frames originally anticipated and may result in unforeseen integration difficulties; and
	•	acts or threats of terrorism and actions taken by the United States or other governments as a result of such acts or threats, including possible military action, could further adversely affect business and economic conditions in the United States generally and in our principal markets, which could have an adverse effect on our financial performance and that of our borrowers and on the financial markets and the price of our common stock.

      You should not put undue reliance on any forward-looking statements. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to update them in light of new information or future events except to the extent required by federal securities laws.

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PART I.

      We, Banknorth Group, Inc., are a Maine corporation and a registered bank holding company and financial holding company under the Bank Holding Company Act of 1956, as amended. We conduct business from our headquarters in Portland, Maine and, as of December 31, 2002, 326 banking offices located in Maine, New Hampshire, Massachusetts, Vermont, New York and Connecticut. At December 31, 2002, we had consolidated assets of $23.4 billion and consolidated shareholders’ equity of $2.1 billion. Based on total assets at that date, we are one of the 35 largest commercial banking organizations in the United States.

      Our principal asset is all of the capital stock of Banknorth, NA, a national bank which was initially formed as a Maine-chartered savings bank in the mid-19th century. Effective January 1, 2002, we consolidated all of our other banking subsidiaries and our trust company subsidiary into Banknorth, NA, which was known as “Peoples Heritage Bank” prior to these consolidations. Banknorth, NA operates under the trade name “Peoples Heritage Bank” in Maine, “Bank of New Hampshire” in New Hampshire and “Evergreen Bank” in New York to take advantage of the strong brand identity associated with the names of these predecessor banks. Banknorth, NA operates under its name elsewhere in our market areas. Through Banknorth, NA we offer a full range of banking services and products to individuals, businesses and governments throughout our market areas, including commercial, consumer and trust and investment services.

      Unless the context otherwise requires, the words “Banknorth,” “we,” “our” and “us” herein refer to Banknorth Group, Inc. and its subsidiaries.

Business

      Our principal business consists of attracting deposits from the general public through our offices and using these deposits to originate loans secured by first mortgage liens on existing single-family (one-to-four units) residential real estate and existing multi-family (over four units) residential and commercial real estate, construction loans, commercial business loans and leases and consumer loans. We also provide various mortgage banking services and investment management services, as well as, through subsidiaries of Banknorth, NA, engage in equipment leasing, investment planning, securities brokerage and insurance brokerage activities. We also invest in investment securities and other permitted investments.

      We derive our income principally from interest charged on loans and leases and, to a lesser extent, from interest and dividends earned on investments. We also increasingly derive income from non-interest sources such as fees received in connection with various lending services, deposit services, trust and investment management services, investment planning services and merchant and electronic banking services, as well as insurance brokerage commissions and, from time to time, gains on the sale of assets. Our principal expenses are interest expense on deposits and borrowings, operating expenses, provisions for loan and lease losses and income tax expense. Funds for activities are provided principally by deposits, advances from the Federal Home Loan Bank, securities sold under repurchase agreements, amortization and prepayments of outstanding loans, maturities and sales of investment securities and other sources.

      Through Banknorth, NA we provide extensive trust and investment management services to our customers. We offer employee benefit trust services in which we act as trustee, custodian, administrator and/or investment advisor, among other things, for employee benefit plans and for corporate, self-employed, municipal and not-for-profit employers located throughout our market areas. In addition, we serve as trustee of both living trusts and trusts under wills and in this capacity hold, account for and manage financial assets, real estate and special assets. Custody, estate settlement and fiduciary tax services, among others, also are offered by us. Assets held in a fiduciary capacity by us are not included in our consolidated balance sheet for financial reporting purposes.

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      We are subject to extensive regulation and supervision under federal and state banking laws. For additional information in this regard, see “Supervision and Regulation” below.

Acquisitions

      Our profitability and market share have been enhanced in recent years through internal growth and acquisitions of both financial and nonfinancial institutions. We continually evaluate acquisition opportunities and frequently conduct due diligence in connection with possible acquisitions. As a result, acquisition discussions and, in some cases, negotiations frequently take place and future acquisitions involving cash, debt or equity securities can be expected. Acquisitions typically involve the payment of a premium over book and market values, and therefore, some proforma dilution of our book value and net income per common share may occur in connection with any future transactions. Moreover, acquisitions commonly result in significant one-time charges against earnings, although cost-savings, especially incident to in-market acquisitions, frequently are anticipated, as are revenue enhancements.

Subsidiaries and Other Equity Investments

      Our only direct subsidiaries at December 31, 2002 were Banknorth, NA, Northgroup Realty, Inc., an acquired subsidiary which holds certain commercial real estate located in Burlington, Vermont, Northgroup Captive Insurance, Inc. and the financing vehicles Peoples Heritage Capital Trust I, Banknorth Capital Trust I, Banknorth Capital Trust II and Ipswich Statutory Trust I. For additional information on these trusts, see Note 15 to the Consolidated Financial Statements included in Item 8 hereof. Northgroup Captive Insurance, Inc. is a subsidiary formed in 2002 to self-insure against certain risks of Banknorth. Northgroup Captive, Inc. has, in turn, formed a subsidiary — Northgroup Sponsored Captive Insurance Co. — to provide a vehicle for other entities to self-insure against certain risks.

      Set forth below is a brief description of certain of our indirect non-banking subsidiaries and certain other equity investments.

      Insurance Brokerage Activities. We conduct insurance brokerage activities through Banknorth Insurance Group, Inc., which holds all of the outstanding stock of Morse, Payson & Noyes Insurance, the largest insurance brokerage firm in Maine. Morse Payson & Noyes Insurance also conducts business in (i) New Hampshire under the trade name A.D. Davis Insurance, (ii) Massachusetts through Catalano Insurance Agency Inc., a wholly-owned subsidiary of Morse, Payson & Noyes Insurance, and under the trade names Waters Insurance Agency and Palmer Goodell Insurance Agency, (iii) Connecticut through Arthur A. Watson & Co., Inc., a wholly-owned subsidiary of Morse Payson & Noyes Insurance and (iv) upstate New York under the trade name Community Insurance Agencies.

      Investment Planning and Securities Brokerage Activities. We conduct investment planning and securities brokerage activities through Bancnorth Investment Planning Group, Inc. We also offer, through Bancnorth Investment Planning Group, investments in mutual funds and annuities throughout our market areas. Bancnorth Investment Planning Group offers its services to individuals and small businesses from its office located in Portland, Maine and from certain of our other locations in Maine, Massachusetts, New Hampshire, Vermont, New York and Connecticut. Sales professionals at Bancnorth Investment Planning Group are registered representatives of Primevest Financial Services, Inc., a registered broker/ dealer, and all securities brokerage activities are conducted through Primevest Financial Services, Inc. The sales professionals receive referrals from our branch offices throughout our market areas.

      In addition to the foregoing, Bancnorth Investment Planning Group conducts insurance sales activities directly in Maine, New Hampshire, Connecticut, Vermont and New York and indirectly, through its wholly-owned insurance agency, Bancnorth Investment and Insurance Agency, Inc., in Massachusetts. Bancnorth Investment Planning Group, either directly or through other agencies, offers life insurance and long-term care insurance products in conjunction with the sales of investments and annuities.

      Equipment Leasing Activities. We conduct equipment leasing activities through Banknorth Leasing Corp. This company is headquartered in Portland, Maine and engages in direct equipment leasing

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      Other Equity Investments. We hold certain other equity investments, primarily through Banknorth, NA and Four Eighty-One Corp., a wholly-owned subsidiary of Banknorth, NA. At December 31, 2002, these investments consisted of (i) $51.8 million of interests in limited partnerships formed for the purpose of investing in real estate for lower-income families, elderly housing projects and/or the preservation or restoration of historically or architecturally significant buildings or structures and (ii) an aggregate of $14.9 million of interests in limited partnerships which invest in small business investment companies and equity investments in entities which generally are intended to promote community welfare. For additional information about these investments see Note 19 to the Consolidated Financial Statements included in Item 8 hereof.

Competition

      We are subject to vigorous competition in all aspects and areas of our business from banks and other financial institutions, including savings and loan associations, savings banks, finance companies, credit unions and other providers of financial services, such as money market mutual funds, brokerage firms, consumer finance companies and insurance companies. We also compete with non-financial institutions, including retail stores that maintain their own credit programs and governmental agencies that make available low-cost or guaranteed loans to certain borrowers. Certain of these competitors are larger financial institutions with substantially greater resources, lending limits, larger branch systems and a wider array of commercial banking services than us. Competition from both bank and non-bank organizations will continue.

      The banking industry is experiencing rapid changes in technology. In addition to improving customer services, effective use of technology increases efficiency and enables financial institutions to reduce costs. Technological advances also likely will enhance competition by enabling more companies to provide financial resources. As a result, our future success will depend in part on our ability to address our customers’ needs by using technology. We cannot assure you that we will be able to effectively develop new technology-driven products and services or be successful in marketing these products to our customers. Many of our competitors have far greater resources than we have to invest in technology.

Employees

      We had approximately 6,600 full-time equivalent employees as of December 31, 2002. None of these employees is represented by a collective bargaining agent, and we believe that we enjoy good relations with our personnel.

Supervision and Regulation

      The following discussion sets forth certain of the material elements of the regulatory framework applicable to bank holding companies and their subsidiaries and provides certain specific information relevant to Banknorth. The regulatory framework is intended primarily for the protection of depositors and the insurance funds administered by the FDIC and not for the protection of security holders. To the extent that the following information describes statutory and regulatory provisions, it is qualified in its entirety by reference to the particular statutory and regulatory provisions. A change in applicable statutes, regulations or regulatory policy may have a material effect on our business.

      General. Banknorth currently is registered as a bank holding company and a financial holding company under the Bank Holding Company Act of 1956, as amended. As such, we are subject to regulation, supervision and examination by the Federal Reserve Board. We also are registered as a Maine financial institution holding company under Maine law and as such are subject to regulation and examination by the Superintendent of Banking of the State of Maine. Banknorth, NA is a national bank subject to regulation, supervision and examination by the Office of the Comptroller of the Currency

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      Financial Modernization. Effective March 11, 2000, the Gramm-Leach-Bliley Act permits bank holding companies to become financial holding companies and thereby affiliate with securities firms and insurance companies and engage in other activities that are financial in nature and which are not authorized for bank holding companies. A bank holding company may become a financial holding company if each of its subsidiary banks is “well capitalized” under the prompt corrective action provisions of the Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”) and the applicable regulations thereunder, is “well managed” and has at least a satisfactory rating under the Community Reinvestment Act by filing a declaration with the Federal Reserve Board that the bank holding company seeks to become a financial holding company. Banknorth became a financial holding company effective January 25, 2002.

      No regulatory approval is required for a financial holding company to acquire a company, other than a bank or savings association, engaged in activities that are financial in nature or incidental to activities that are financial in nature, as determined by the Federal Reserve Board. The Gramm-Leach-Bliley Act defines “financial in nature” to include securities underwriting, dealing and market making; sponsoring mutual funds and investment companies; insurance underwriting and agency; merchant banking activities; and activities that the Federal Reserve Board has determined to be closely related to banking. A national bank also may engage, subject to limitations on investment, in activities that are financial in nature, other than insurance underwriting, insurance company portfolio investment, real estate development and real estate investment, through a financial subsidiary of the bank, if the bank is well capitalized, well managed and has at least a “satisfactory” Community Reinvestment Act rating. Subsidiary banks of a financial holding company or national banks with financial subsidiaries must continue to be well capitalized and well managed in order to continue to engage in activities that are financial in nature without regulatory actions or restrictions, which could include divestiture of the financial in nature subsidiary or subsidiaries. In addition, a financial holding company or a bank may not acquire a company that is engaged in activities that are financial in nature unless each of the subsidiary banks of the financial holding company or the bank has a Community Reinvestment Act rating of “satisfactory” or better.

      Bank Acquisitions. Pursuant to the Bank Holding Company Act, we are required to obtain the prior approval of the Federal Reserve Board before acquiring more than 5% of any class of voting stock of any bank that is not already majority owned by us. Pursuant to the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the “Interstate Banking and Branching Act”), a bank holding company became able to acquire banks in states other than its home state beginning September 29, 1995, without regard to the permissibility of such acquisitions under state law, but subject to any state requirement that the bank has been organized and operating for a minimum period of time, not to exceed five years, and the requirement that the bank holding company, prior to or following the proposed acquisition, controls no more than 10% of the total amount of deposits of insured depository institutions in the United States and less than 30% of such deposits in that state (or such lesser or greater amount set by state law).

      The Interstate Banking and Branching Act also authorizes banks to merge across state lines, subject to certain restrictions, thereby creating interstate branches. Pursuant to the Interstate Banking and Branching Act, a bank also may open new branches in a state in which it does not already have banking operations if the state enacts a law permitting such de novo branching.

      Capital and Operational Requirements. The Federal Reserve Board, the OCC and the FDIC have issued substantially similar risk-based and leverage capital guidelines applicable to U.S. banking organizations such as Banknorth and Banknorth, NA. In addition, those regulatory agencies may from time to time require that a banking organization maintain capital above the minimum levels, whether because of its financial condition or actual or anticipated growth. The Federal Reserve Board risk-based guidelines define a three-tier capital framework. “Tier 1 capital” generally consists of common and qualifying preferred stockholders’ equity, less certain intangibles and other adjustments. “Tier 2 capital” and “Tier 3

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      The sum of Tier 1, Tier 2 and Tier 3 capital, less investments in unconsolidated subsidiaries, represents qualifying “total capital,” at least 50% of which must consist of Tier 1 capital. Risk-based capital ratios are calculated by dividing Tier 1 capital and total capital by risk-weighted assets. Assets and off-balance sheet exposures are assigned to one of four categories of risk weights, based primarily on relative credit risk. The minimum Tier 1 risk-based capital ratio is 4% and the minimum total risk-based capital ratio is 8%. At December 31, 2002, our Tier 1 risk-based capital and total risk-based capital ratios under these guidelines were 9.66% and 12.15%, respectively.

      The “leverage ratio” requirement is determined by dividing Tier 1 capital by adjusted average total assets. Although the stated minimum ratio is 3%, most banking organizations are required to maintain ratios of at least 100 to 200 basis points above 3%. At December 31, 2002, our leverage ratio was 7.13%.

      Federal bank regulatory agencies require banking organizations that engage in significant trading activity to calculate a capital charge for market risk. Significant trading activity means trading activity of at least 10% of total assets or $1 billion, whichever is smaller, calculated on a consolidated basis for bank holding companies. Federal bank regulators may apply the market risk measure to other banks and bank holding companies as the agency deems necessary or appropriate for safe and sound banking practices. Each agency may exclude organizations that it supervises that otherwise meet the criteria under certain circumstances. The market risk charge will be included in the calculation of an organization’s risk-based capital ratios.

      FDICIA identifies five capital categories for insured depository institutions (“well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized” and “critically undercapitalized”) and requires the respective U.S. federal regulatory agencies to implement systems for “prompt corrective action” for insured depository institutions that do not meet minimum capital requirements within such categories. FDICIA imposes progressively more restrictive constraints on operations, management and capital distributions, depending on the category in which an institution is classified. Failure to meet the capital guidelines could also subject a banking institution to capital raising requirements. An “undercapitalized” bank must develop a capital restoration plan and its parent holding company must guarantee that bank’s compliance with the plan. The liability of the parent holding company under any such guarantee is limited to the lesser of 5% of the bank’s assets at the time it became undercapitalized or the amount needed to comply with the plan. Furthermore, in the event of the bankruptcy of the parent holding company, such guarantee would take priority over the parent’s general unsecured creditors. In addition, FDICIA requires the various regulatory agencies to prescribe certain non-capital standards for safety and soundness related generally to operations and management, asset quality and executive compensation and permits regulatory action against a financial institution that does not meet such standards.

      The various federal bank regulatory agencies have adopted substantially similar regulations that define the five capital categories identified by FDICIA, using the total risk-based capital, Tier 1 risk-based capital and leverage capital ratios as the relevant capital measures. Such regulations establish various degrees of corrective action to be taken when an institution is considered undercapitalized. Under the regulations, a “well capitalized” institution must have a Tier 1 capital ratio of at least 6%, a total capital ratio of at least 10% and a leverage ratio of at least 5% and not be subject to a capital directive order. An “adequately capitalized” institution must have a Tier 1 capital ratio of at least 4%, a total capital ratio of at least 8% and a leverage ratio of at least 4%, or 3% in some cases. Under these guidelines, Banknorth, NA is considered “well capitalized.”

      The Federal bank regulatory agencies also have adopted regulations which mandate that regulators take into consideration concentrations of credit risk and risks from non-traditional activities, as well as an institution’s ability to manage those risks, when determining the adequacy of an institution’s capital. That evaluation will be made as part of the institution’s regular safety and soundness examination. Banking agencies also have adopted final regulations requiring regulators to consider interest rate risk (when the

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      Distributions. We derive funds for cash distributions to our stockholders primarily from dividends received from our banking subsidiary. Banknorth, NA is subject to various regulatory policies and requirements relating to the payment of dividends, including requirements to maintain capital above regulatory minimums. The appropriate U.S. federal regulatory authority is authorized to determine under certain circumstances relating to the financial condition of the bank or bank/financial holding company that the payment of dividends would be an unsafe or unsound practice and to prohibit payment thereof.

      In addition to the foregoing, the ability of us and Banknorth, NA to pay dividends may be affected by the various minimum capital requirements and the capital and non-capital standards established under FDICIA, as described above. Our right and the right of our stockholders and creditors to participate in any distribution of the assets or earnings of our subsidiaries is further subject to the prior claims of creditors of such subsidiaries.

      “Source of Strength” Policy. According to Federal Reserve Board policy, bank/financial holding companies are expected to act as a source of financial strength to each subsidiary bank and to commit resources to support each such subsidiary. This support may be required at times when a bank/ financial holding company may not be able to provide such support. Similarly, under the cross-guarantee provisions of the Federal Deposit Insurance Act, in the event of a loss suffered or anticipated by the FDIC — either as a result of default of a banking or thrift subsidiary of a bank/financial holding company such as Banknorth or related to FDIC assistance provided to a subsidiary in danger of default — the other banking subsidiaries of such bank/ financial holding company may be assessed for the FDIC’s loss, subject to certain exceptions.

      Community Investment and Consumer Protection Laws. In connection with its lending activities, Banknorth, NA is subject to a variety of federal laws designed to protect borrowers and promote lending to various sectors of the economy and population. Included among these are the federal Home Mortgage Disclosure Act, Real Estate Settlement Procedures Act, Truth-in-Lending Act, Equal Credit Opportunity Act, Fair Credit Reporting Act and Community Reinvestment Act.

      The Community Reinvestment Act requires insured institutions to define the communities that they serve, identify the credit needs of those communities and adopt and implement a “Community Reinvestment Act Statement” pursuant to which they offer credit products and take other actions that respond to the credit needs of the community. The responsible federal banking regulator must conduct regular Community Reinvestment Act examinations of insured financial institutions and assign to them a Community Reinvestment Act rating of “outstanding,” “satisfactory,” “needs improvement” or “unsatisfactory.” In 2002, the Community Reinvestment Act rating of Banknorth, NA was “outstanding.”

      Miscellaneous. Banknorth, NA is subject to certain restrictions on loans to Banknorth or its non-bank subsidiaries, on investments in the stock or securities thereof, on the taking of such stock or securities as collateral for loans to any borrower, and on the issuance of a guarantee or letter of credit on behalf of Banknorth or its non-bank subsidiaries. Banknorth, NA also is subject to certain restrictions on most types of transactions with Banknorth or its non-bank subsidiaries, requiring that the terms of such transactions be substantially equivalent to terms of similar transactions with non-affiliated firms.

      Regulatory Enforcement Authority. The enforcement powers available to federal banking regulators is substantial and includes, among other things, the ability to assess civil money penalties, to issue cease-and-desist or removal orders and to initiate injunctive actions against banking organizations and institution-affiliated parties, as defined. In general, these enforcement actions may be initiated for violations of laws

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      Sarbanes-Oxley Act of 2002. On July 30, 2002, President George W. Bush signed into law the Sarbanes-Oxley Act of 2002, which generally establishes a comprehensive framework to modernize and reform the oversight of public company auditing, improve the quality and transparency of financial reporting by those companies and strengthen the independence of auditors. Certain of the new legislation’s more significant reforms are noted below.

	•	The new legislation creates a public company accounting oversight board which is empowered to set auditing, quality control and ethics standards, to inspect registered public accounting firms, to conduct investigations and to take disciplinary actions, subject to SEC oversight and review. The new board will be funded by mandatory fees paid by all public companies. The new legislation also improves the Financial Accounting Standards Board, giving it full financial independence from the accounting industry.
	•	The new legislation strengthens auditor independence from corporate management by, among other things, limiting the scope of consulting services that auditors can offer their public company audit clients.
	•	The new legislation heightens the responsibility of public company directors and senior managers for the quality of the financial reporting and disclosure made by their companies. Among other things, the new legislation provides for a strong public company audit committee that will be directly responsible for the appointment, compensation and oversight of the work of the public company auditors.
	•	The new legislation contains a number of provisions to deter wrongdoing. CEOs and CFOs will have to certify that company financial statements fairly present the company’s financial condition. If a misleading financial statement later resulted in a restatement, the CEO and CFO must forfeit and return to the company any bonus, stock or stock option compensation received in the twelve months following the misleading financial report. The new legislation also prohibits any company officer or director from attempting to mislead or coerce an auditor. Among other reforms, the new legislation empowers the SEC to bar certain persons from serving as officers or directors of a public company; prohibits insider trades during pension fund “blackout periods;” directs the SEC to adopt rules requiring attorneys to report securities law violations; and requires that civil penalties imposed by the SEC go into a disgorgement fund to benefit harmed investors.
	•	The new legislation imposes a range of new corporate disclosure requirements. Among other things, the new legislation requires public companies to report all off-balance-sheet transactions and conflicts, as well as to present any pro forma disclosures in a way that is not misleading and in accordance with requirements to be established by the SEC. The new legislation also accelerated the required reporting of insider transactions, which now generally must be reported by the end of the second business day following a covered transaction; requires that annual reports filed with the SEC include a statement by management asserting that it is responsible for creating and maintaining adequate internal controls and assessing the effectiveness of those controls; and requires companies to disclose whether or not they have adopted an ethics code for senior financial officers, and, if not, why not, and whether the audit committee includes at least one “financial expert,” a term which is to be defined by the SEC in accordance with specified requirements. The new legislation also requires the SEC, based on certain enumerated factors, to regularly and systematically review corporate filings.
	•	The new legislation contains provisions which generally seek to limit and expose to public view possible conflicts of interest affecting securities analysts.
	•	Finally, the new legislation imposes a range of new criminal penalties for fraud and other wrongful acts, as well as extends the period during which certain types of lawsuits can be brought against a company or its insiders.

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Taxation

      We are subject to those rules of federal income taxation generally applicable to corporations under the Internal Revenue Code. Banknorth and its subsidiaries, as members of an affiliated group of corporations within the meaning of Section 1504 of the Internal Revenue Code, file a consolidated federal income tax return, which has the effect of eliminating or deferring the tax consequences of inter-company distributions, including dividends, in the computation of consolidated taxable income.

      We also are subject to various forms of state taxation under the laws of Maine, New Hampshire, Massachusetts, Vermont, New York and Connecticut as a result of the business which we conduct in these states.

Statistical Disclosure by Bank Holding Companies

      The following information, included under Items 6, 7 and 8 of this report, is incorporated by reference herein.

      Table 1 — Three-Year Average Balance Sheets, which presents average balance sheet amounts, related taxable equivalent interest earned or paid and related average yields earned and rates paid and is included in Item 7;

      Table 2 — Changes in Net Interest Income, which presents changes in taxable equivalent interest income and expense for each major category of interest-earning assets and interest-bearing liabilities and is included in Item 7;

      Table 5 — Securities Available for Sale and Held to Maturity, which presents information regarding carrying values of investment securities by category of security and is included in Item 7;

      Table 6 — Maturities of Securities, which presents information regarding the maturities and weighted average yield of investment securities by category of security and is included in Item 7;

      Table 7 — Composition of Loan Portfolio, which presents the composition of loans and leases by category of loan and lease and is included in Item 7;

      Table 8 — Scheduled Contractual Amortization of Certain Loans and Leases at December 31, 2002, which presents maturities and sensitivities of loans and leases to changes in interest rates and is included in Item 7;

      Table 15 — Five Year Schedule of Nonperforming Assets, which presents information concerning non-performing assets and accruing loans 90 days or more overdue and is included in Item 7;

      “Credit Risk Management” and Note 1 to the Consolidated Financial Statements, which discuss our policies for placing loans on non-accrual status, as well as in the case of the former potential problem loans, which are included in Items 7 and 8, respectively;

      Table 12 — Five-Year Table of Activity in the Allowance for Loan and Lease Losses, included in Item 7;

      Table 13 — Allocation of the Allowance for Loan and Lease Losses — Five Year Schedule, included in Item 7;

      Table 14 — Net Charge-offs as a Percent of Average Loans and Leases Outstanding, included in Item 7;

      Table 1 — Three-Year Average Balance Sheets, which includes average balances of deposits by category of deposit and is included in Item 7;

      Table 11 — Maturity of Certificates of Deposit of $100,000 or more at December 31, 2001, included in Item 7;

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      “Selected Financial Data,” which presents return on assets, return on equity, dividend payout and equity to assets ratios and is included in Item 6; and

      Note 12 to the Consolidated Financial Statements, which includes information regarding short-term borrowings and is included in Item 8.

      For additional information regarding our business and operations, see “Selected Financial Data” in Item 6 hereof, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 hereof and the Consolidated Financial Statements in Item 8 hereof.

Availability of Information

      We make available on our web site, which is located at http://www.banknorth.com, our annual report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K on the date which we electronically file these reports with the Securities and Exchange Commission. Investors are encouraged to access these reports and the other information about our business and operations on our web site.

Item 2.     Properties

      At December 31, 2002, we conducted business from our executive offices at Two Portland Square, Portland, Maine and 326 offices located in Maine, New Hampshire, Massachusetts, Vermont, New York and Connecticut.

      The following table sets forth certain information with respect to our offices as of December 31, 2002.

      For additional information regarding our premises and equipment and lease obligations, see Notes 7 and 19 respectively, to the Consolidated Financial Statements included in Item 8 hereof.

Item 3.     Legal Proceedings

      We are involved in routine legal proceedings occurring in the ordinary course of business which in the aggregate are believed by us to be immaterial to our financial condition and results of operations.

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

PART II.

      Our common stock is traded on the New York Stock Exchange, Inc. The following table sets forth the high and low prices of the common stock as reported on the New York Stock Exchange, Inc. and the dividends declared per share of common stock for the periods indicated.

      As of December 31, 2002, there were 150,578,767 shares of common stock outstanding which were held by approximately 15,800 holders of record. Such number of record holders does not reflect the number of persons or entities holding stock in nominee name through banks, brokerage firms and other nominees.

      We have historically paid quarterly dividends on our common stock and currently intend to continue to do so in the foreseeable future. Our ability to pay dividends depends on a number of factors, however, including restrictions on the ability of Banknorth, NA to pay dividends under federal laws and regulations, and as a result there can be no assurance that dividends will be paid in the future.

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(1)	Certain amounts of prior periods have been restated to conform with current presentation.
(2)	Special charges consist of merger charges, charter consolidation costs, asset write-downs and branch closing costs where applicable.
(3)	Net interest income calculated on a fully-taxable equivalent basis divided by average interest-earning assets.
(4)	Cash dividends paid divided by net income.
(5)	Nonperforming assets consist of nonperforming loans, other real estate owned, repossessed assets and investment securities placed on non-accrual status.

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      The discussion and analysis which follows focuses on the results of operations of Banknorth Group, Inc. during 2002, 2001, and 2000 and its financial condition at December 31, 2002 and 2001. The Consolidated Financial Statements and related notes should be read in conjunction with this review. Certain amounts in years prior to 2002 have been reclassified to conform to the 2002 presentation.

General

      Banknorth Group, Inc. is a Maine corporation and a registered bank holding company and financial holding company under the Bank Holding Company Act of 1956, as amended. We conduct business from our headquarters in Portland, Maine and, as of December 31, 2002, from our 326 banking offices located in Maine, New Hampshire, Massachusetts, Vermont, New York and Connecticut. At December 31, 2002, we had consolidated assets of $23.4 billion and consolidated shareholders’ equity of $2.1 billion. Based on total assets at that date, we are one of the 35 largest commercial banking organizations in the United States.

      Our principal asset is all of the capital stock of Banknorth, NA (the “Bank”), which operates under the trade name “Peoples Heritage Bank” in Maine, “Bank of New Hampshire” in New Hampshire and “Evergreen Bank” in New York to take advantage of the strong brand identity associated with the names of these predecessor banks. The Bank operates under its own name elsewhere in our market areas. Through the Bank, we offer a full range of banking services and products to individuals, businesses and governments throughout our market areas, including commercial banking, consumer banking and investment management and investment planning services. In addition, Banknorth Insurance Group, Inc., a subsidiary of the Bank, offers insurance brokerage services.

      We are subject to extensive regulation and supervision under federal and state banking laws. See “Regulation and Supervision” under Item 1.

      Our primary business segments are Community Banking, Insurance Brokerage, Investment Planning and Investment Management. Our community banking business, which represents over 90% of our consolidated income, consists of attracting deposits from the general public and using such deposits and other sources of funds to originate commercial business loans and leases, commercial real estate loans, residential mortgage loans and a variety of consumer loans and leases. In addition to keeping loans for our own portfolio, we sell residential mortgage loans into the secondary market. We also invest in mortgage-backed securities and securities issued by the United States Government and agencies thereof, as well as other securities. Our Insurance Brokerage business earns commissions on insurance brokerage activities, our Investment Planning business earns commissions from the sale of third party mutual funds, annuities, stocks and bonds and our Investment Management business reflects fees from trust and investment management operations.

      Our goal is to sustain profitable, controlled growth by focusing on increasing our loan and deposit market share in New England and upstate New York; developing new financial products, services and delivery channels; closely managing yields on earning assets and rates on interest-bearing liabilities; increasing noninterest income through, among other things, expanded investment management, investment planning and insurance brokerage services, and controlling the growth of noninterest expenses. It is also part of our business strategy to supplement internal growth with targeted acquisitions of other financial institutions and insurance agencies in our current or contiguous market areas. See “Acquisitions” below and under Item 1.

      We strive to maintain a diversified loan and deposit mix and strong asset quality. We are focused on improving efficiencies as we integrate all of our acquisitions. We will continue to evaluate our operations and organizational structures to ensure they are closely aligned with our goal of maximizing earnings per share growth.

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      Reflecting trends in the national economy, our market area generally witnessed a decline in economic growth in 2002, and interest rate decreases in 2002 and 2001 began to compress our net interest margin in the second quarter of 2002. Although these developments have not had a materially adverse affect on us to date, we continue to monitor them closely as discussed herein. The economies and real estate markets in our primary market areas will continue to be significant determinants of the quality of our assets in future periods and, thus, our results of operations, liquidity and financial condition. We believe future economic activity will depend on consumer confidence, personal consumption expenditures and business expenditures for new capital equipment. For a description of other factors which could affect our financial performance and that of our common stock, see “Forward-Looking Statements” at the beginning of this report.

     Acquisitions

      We completed four acquisitions in 2002 and at December 31, 2002 our proposed acquisition of American Financial Holdings, Inc. was pending. The following table describes the acquisitions for the years ended 2002, 2001 and 2000. The 2002 acquisitions were accounted for as purchases, and as such, were included in our results of operations from the date of acquisition.

Acquisitions 2002 – 2000

(1)	Accounted for as a purchase.
(2)	Accounted for as a pooling.

      For additional information regarding our acquisitions in 2002, see Note 3 to the Consolidated Financial Statements.

Results of Operations

     Comparison of 2002 and 2001

     Overview

      We reported net income of $298.6 million or $1.99 per diluted share in 2002, compared to $238.8 million or $1.68 per diluted share in 2001. Return on average assets and return on average equity were 1.39% and 16.25% in 2002 compared to 1.29% and 16.48% in 2001, respectively. The improved results were attributable to increases in our net interest margin, contributions from acquisitions and the discontinuance of goodwill amortization due to the required adoption of new financial accounting standards in July 2001 and January 2002.

      Net interest income and noninterest income increased 17% and 14% during 2002, respectively. The increase in net interest income was attributable to the acquisitions in 2002 and 2001 and an 8 basis point increase in the net interest margin. The small increase in the net interest margin reflected pressure on

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      The provision for loan and lease losses of $44.3 million in 2002 exceeded net charge-offs of $38.7 million and increased $2.4 million compared to 2001. The coverage ratio (allowance for loan and lease losses to nonperforming loans) was 319% at December 31, 2002 compared to 252% at December 31, 2001. Noninterest expenses, excluding special charges, increased 13% in 2002 due primarily to increases in salaries and benefits, equipment and occupancy expenses, primarily resulting from our acquisitions, and the write-off of the branch automation project. Noninterest expense was also impacted by the adoption of new accounting standards that required the discontinuation of amortization of goodwill effective January 1, 2002. Amortization expense on goodwill amounted to $11.9 million in 2001.

     Net Interest Income

      Net interest income is the difference between interest income on earning assets such as loans, leases and securities, and interest expense paid on liabilities such as deposits and borrowings, and continues to be our largest source of net revenue. Net interest income is affected by changes in interest rates and by changes in the amount and composition of interest-earning assets and interest-bearing liabilities.

      Net interest income on a fully taxable-equivalent basis increased by $115.3 million, or 17%, during 2002 due largely to an increase in interest-earning assets. Average earning assets increased $2.5 billion, or 15%, for the year ended 2002 compared to the year ended 2001 as a result of acquisitions and internal growth on commercial and consumer loans. Average loans and leases increased by $2.0 billion, or 18%, in 2002 compared to 2001. Excluding acquisitions, average loans and leases increased by approximately $363 million, or 3%, primarily as a result of increases in commercial business loans and leases and commercial real estate loans, offset by a reduction in residential real estate loans. Average securities increased $479.8 million, or 8%, in 2002 due primarily to acquisitions. Average deposits increased $2.0 billion, or 16% during 2002. Excluding acquisitions, average deposits increased by approximately $216 million, or 2%, as strong growth in demand and money market accounts was offset by declines in higher costing certificates of deposit. Average borrowings increased $464.8 million, or 11%, in 2002 compared to 2001, primarily due to acquisitions.

      The net interest margin increased to 4.07% in 2002 from 3.99% during 2001, an increase of 8 basis points. Several factors contributed to this increase, including non-interest-bearing deposits comprising a higher percentage of our total funding base in 2002 versus 2001 and the momentum from Federal Reserve Board interest rate cuts during 2001 carrying over to 2002. Information on average balances, yields and rates for the past three years can be found in Table 1. Table 2 shows the changes from 2001 to 2002 in tax equivalent net interest income by category due to changes in rate and volume. Information on interest rate sensitivity can be found under “Asset-Liability Management” below.

     Provision and Allowance for Loan and Lease Losses

      We recorded a provision for loan and lease losses in 2002 of $44.3 million, as compared to a $41.9 million provision in 2001, which reflected an increase in our classified loans resulting from the uncertain and slowing economy and an increase in net charge-offs. Net charge-offs were $38.7 million in 2002 compared to $36.9 million in 2001. Net charge-offs to average loans outstanding was 0.29% in 2002, as compared to 0.33% in 2001.

      The allowance for loan and lease losses amounted to $208.3 million at December 31, 2002, as compared to $189.8 million at December 31, 2001. The increase was due to acquisitions and the provision. The allowance to total portfolio loans and leases at December 31, 2002 and 2001 was 1.48% and 1.49%, respectively. The ratio of the allowance for loan and lease losses to nonperforming loans was 319% at December 31, 2002 and 252% at December 31, 2001. Nonperforming assets were $68.9 million, or 0.29%

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      The allowance for loan and leases losses is maintained at a level determined to be adequate by management to absorb future charge-offs of loans and leases deemed uncollectable. This allowance is increased by provisions charged to income and by recoveries on loans previously charged off. Arriving at an appropriate level of allowance for loan and lease losses necessarily involves a high degree of judgment and is determined based on management’s ongoing evaluation. As discussed under “Critical Accounting Policies,” we believe that the methods used by us in determining the allowance for loan and lease losses constitute a critical accounting policy. Although we utilize judgment in providing for losses, for the reasons discussed under “Critical Accounting Policies” and “Credit Risk Management — Nonperforming Assets,” there can be no assurance that we will not have to increase the amount of our provision for loan and lease losses in future periods.

      For information about the allocation of and activity in our allowance for loan and lease losses, see Tables 12 and 13.

     Noninterest Income

      Noninterest income was $274.5 million in 2002 compared to $240.5 million in 2001. This increase was primarily due to increases of $9.5 million in deposit services income, $7.4 million in loan fee income, $6.0 million in net securities gains, $5.7 million in merchant and electronic banking income and $5.1 million in insurance commissions, which more than offset a $2.6 million decrease in mortgage banking services income.

      Deposit services income of $82.1 million in 2002 increased 13% from 2001 and was attributable to volume and fee increases in checking account and overdraft fees, which were in part due to acquisitions.

      Insurance brokerage commissions income was $44.4 million and $39.4 million in 2002 and 2001, respectively, an increase of 13%. The increase was partly attributable to the acquisition of Community Insurance Agencies, Inc. (“Community”) in the third quarter of 2002, which generated commission income of $2.4 million in 2002.

      Merchant and electronic banking income of $38.1 million in 2002 increased 17% from 2001 due to increases in the volume of transactions processed. This income represents fees and interchange income generated by the use of our ATMs, ATM and debit cards issued by us along with charges to merchants for credit card transactions processed, net of third-party costs directly attributable to handling these transactions.

      Trust and investment management services income of $32.5 million decreased 5% during 2002 primarily due to broad-based declines in the stock market, which adversely impacted fees that are dependent upon the market value of assets. Assets under management were $8.1 billion and $8.5 billion at December 31, 2002 and 2001, respectively, a decrease of 5%.

      Loan fee income amounted to $21.9 million and $14.5 million during 2002 and 2001, respectively, an increase of 51%. Loan fee income includes letter of credit fees, late charges, transaction fees on refinancings and other loan related fees. The $7.4 million increase in fee income in 2002 was primarily due to increased volumes, refinancing activity and acquisitions.

      Income from bank owned life insurance (“BOLI”) was $20.0 million and $18.4 million in 2002 and 2001, respectively. BOLI represents life insurance on the lives of certain employees who have provided positive consent allowing the Bank to be the beneficiary of such policies. The 9% increase in income reflected an increase in cash surrender value and included additional income resulting from a $40 million purchase of BOLI in the first quarter of 2002, which resulted in higher cash surrender value. The cash

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      Investment planning services income of $11.6 million increased 40% during 2002 primarily due to sales of fixed annuities. Investment planning services income is primarily comprised of commissions earned from the sale of third party mutual funds, annuities, stocks and bonds.

      Mortgage banking services income of $8.5 million during 2002 decreased $2.6 million or 23% from $11.1 million during 2001. This decrease was primarily due to a $1.4 million decline in residential mortgage servicing income and a $2.9 million writedown of mortgage servicing rights, which were partially offset by a $2.3 million increase in residential mortgage sales income. Strong originations and refinancings in 2002, prompted by lower interest rates, led to profitable pricing, delivery and sales of conforming fixed-rate loans. Our portfolio of residential mortgages serviced for investors was $701.3 million at December 31, 2002 compared to $964.0 million and $1.6 billion at December 31, 2001 and 2000, respectively. Mortgage loans serviced for others decreased as a result of principal payments, loan prepayments and a sale of mortgage servicing rights in the first quarter of 2001. Also, since January 1, 2001, substantially all residential loans sold by us into the secondary market have been sold on a servicing-released basis. As a result, new mortgage servicing rights assets are not being created as loans are sold. Capitalized mortgage servicing rights decreased from $8.5 million at December 31, 2001 to $3.6 million at December 31, 2002 as we recorded amortization expense of $3.3 million and valuation write-downs of $2.9 million in 2002. See Table 3 and Note 9 to the Consolidated Financial Statements.

      Net securities gains amounted to $7.3 million and $1.3 million during 2002 and 2001, respectively. Of the $7.3 million of net securities gains in 2002, $6.0 million was recorded in the fourth quarter of 2002 on sales of $152.0 million of mortgage-backed securities. Net securities gains in 2001 included a $2 million write-down reflecting an other than temporary decline in the value of a trust preferred security. Gains from the sale of securities are subject to market and economic conditions and, as a result, there can be no assurance that gains reported in prior periods will be achieved in the future.

      Other noninterest income amounted to $8.1 million and $8.4 million during 2002 and 2001, respectively. In 2002, other noninterest income included $7.3 million of premium income on covered call options related to mortgage-backed securities and $1.9 million of commissions on official checks, which were offset in part by $2.8 million in losses on venture capital investments in small business investment companies and start-up ventures in our market area. In 2001, other noninterest income included $3.3 million of premium income recognized on covered call options related to mortgage-backed securities, $3.1 million of commissions on official checks, a gain of $1.3 million on the sale of a limited partnership interest and a $929 thousand gain on the sale of an equity interest in an ATM network.

     Noninterest Expense

      Noninterest expense was $579.4 million in 2002 compared to $509.3 million in 2001. Excluding special charges, write-off of certain costs incurred in connection with a branch automation project (discussed below) and the effect of goodwill amortization in 2001, noninterest expense in 2002 was $558.5 million compared to $489.8 million in 2001, an increase of $68.7 million or 14%. This increase was primarily due to our acquisitions in 2002. The increased noninterest expense in 2002 was primarily due to increases in salaries and benefits, equipment expense and occupancy expense. The efficiency ratio improved to 54.10% during 2002 from 55.34% in 2001 primarily as a result of the efficiencies created by the integration of recent acquisitions, as well as operating improvements.

      Salaries and benefits expense of $311.4 million increased by $50.1 million or 19% from $261.3 million during 2002. The increase was primarily due to additional employees from purchase acquisitions and higher levels of incentive compensation. The total number of full-time equivalent employees was approximately 6,596 at December 31, 2002 compared to 5,960 at December 31, 2001. Pension expense (which is included in salaries and benefits expense) was $5.3 million and $3.0 million for the years ended

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      Data processing expense increased 5% to $40.7 million in 2002 from $38.7 million during 2001. The increase was primarily attributable to continued investments in information technology, increased transaction volume and vendor rate increases related to acquisitions. These increases were offset by a change in check processing. Beginning in July 2002, check processing was insourced and the primary costs are now recorded in salaries and benefits. Previously a third-party vendor handled check processing and its charges were recorded as data processing costs.

      Occupancy expense in 2002 increased 14% to $52.4 million from $45.9 million in 2001. The $6.5 million increase was primarily due to the cost of new facilities and additional facilities from acquisitions. Equipment expense increased $6.4 million or 18% in 2002 compared to 2001 due to increased depreciation on new technology equipment and software (eg. e-commerce and imaging).

      Advertising and marketing expense amounted to $17.2 million and $11.9 million for the years ended December 31, 2002 and 2001, respectively. The $5.3 million increase was primarily attributable to acquisitions in 2002 and additional expenses for the introduction of our products in new market areas.

      Amortization of goodwill was $0 and $11.9 million for the years ended December 31, 2002 and 2001, respectively. In accordance with SFAS No. 142, the amortization of goodwill was discontinued effective January 1, 2002 and goodwill must now be reviewed for impairment at least annually. We perform impairment reviews quarterly and no adjustments have yet been required. Amortization of identifiable intangible assets amounted to $6.5 million and $10.2 million for the years ended December 31, 2002 and 2001, respectively. The decline was largely due to our reclassification of unidentifiable intangible assets associated with branch acquisitions from intangible assets to goodwill in accordance with SFAS No. 147. SFAS No. 147 was issued in October 2002 and requires that unidentifiable intangible assets related to branch acquisitions, which meet the definition of the acquisition of a business, be recorded as goodwill and therefore not be amortized but be subject to impairment reviews. SFAS No. 147 amended SFAS No. 72, which previously required that these unidentifiable intangibles be amortized over a term not to exceed the estimated remaining life of the long-term interest-earning assets acquired. Banknorth had two branch acquisitions in the 1990s that were covered by the provisions of SFAS No. 147, with a total of $34.7 million of unidentifiable intangible assets remaining as of December 31, 2001. Banknorth adopted SFAS No. 147 retroactive to January 1, 2002 and reclassified $34.7 million of intangible assets to goodwill.

      Special charges amounted to $14.7 million and $7.6 million during 2002 and 2001, respectively. Special charges include expenses related to acquisitions, charter consolidation costs, branch closing costs and certain asset write-downs. For a tabular analysis of our special charges, see Note 11 to the Consolidated Financial Statements.

      In 2002, $6.2 million of previously capitalized costs related to a branch automation project were written off. The costs were incurred during the early phases of a multi-phase project to update all teller and platform workstations and software in our branch network. These costs included direct vendor fees, capitalized salaries, hardware and project specific software. Design concerns and cost overruns prompted a thorough review of the long-term viability of the project in its current form. In October 2002, management met with the lead software vendor to discuss concerns related to cost overruns and project design. To comply with contract provisions, shortly after this meeting, the vendor was notified of our intent to terminate the branch automation contract. In December 2002, we determined it was not prudent to continue development and decided to abandon the project. A total of $9.1 million had been capitalized on this project. The impairment charge was determined based on a review of all costs incurred. Management concluded that $6.2 million should be written-off related to the abandonment of that project and that

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      Other noninterest expense, which is comprised primarily of general and administrative expenses, increased $2.1 million in 2002. See Table 4 for a detail of other noninterest expenses for each of the years ended December 31, 2002, 2001 and 2000.

     Taxes

      Our effective tax rate was 33% in 2002 and 34% in 2001. The decline in the effective tax rate was due primarily to the adoption of SFAS No. 142 under which goodwill is no longer amortized for book purposes as of January 1, 2002. Prior to January 1, 2002, we amortized goodwill that was not deductible on our tax return.

     Extraordinary Item

      During the fourth quarter of 2001, we prepaid $174.6 million of Federal Home Loan Bank borrowings and incurred a prepayment penalty of $6.0 million ($3.9 million net of tax), which was recorded as an extraordinary item. The FHLB borrowings, which had relatively high rates, were prepaid to improve our interest rate position and net interest margin in future periods. These FHLB borrowings had a weighted average cost of 5.62% and a weighted average maturity of two years.

     Cumulative Effect of Accounting Change

      We adopted SFAS No. 133, as amended by SFAS No. 138, effective January 1, 2001 and recognized an after-tax loss from the cumulative effect of adoption of $290 thousand. This was recorded as a net unrealized loss on forward sale commitments and commitments to originate rate-locked loans at December 31, 2000, which hedged residential mortgage loans held for sale.

     Comprehensive Income

      Our comprehensive income amounted to $373.0 million and $313.9 million during 2002 and 2001, respectively. Comprehensive income differed from our net income in 2002 because of a $77.3 million net unrealized gain on securities, a $2.1 million net unrealized loss on cash flow hedges and an $825 thousand unrealized loss on a minimum pension liability. Our comprehensive income differed from our net income in 2001 because of a $74.8 million net unrealized gain on securities and a $274 thousand net hedging gain on cash flow hedges. For additional information, see the Consolidated Statements of Changes in Shareholders’ Equity in the Consolidated Financial Statements.

      Our available for sale investment portfolio had net unrealized gains (losses) of $181.3 million, $62.0 million and ($53.1) million, ($117.5 million, $40.3 million and ($34.5) million net of applicable income tax effects, respectively) at December 31, 2002, 2001 and 2000, respectively. The improvement related to lower prevailing interest rates. For additional information, see Note 4 to the Consolidated Financial Statements. The change in value of our liabilities, which tend to fall in rising interest rate environments and rise in falling interest rate environments, is not included in “other comprehensive income.”

     Segment Reporting

      Our primary business segments are Community Banking, Insurance Brokerage, Investment Planning and Investment Management. The Community Banking segment represents over 90% of the combined revenues and income of the consolidated group, and thus, is the only reporting segment as defined by SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information.” Insurance Brokerage reflects commissions on insurance brokerage activities, Investment Planning reflects commissions from the sale of third party mutual funds, annuities, stocks and bonds and Investment Management

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Fourth Quarter Summary

      In the fourth quarter of 2002, we had net income of $77.1 million, or $0.52 per diluted share, as compared to $61.6 million, or $0.42 per diluted share in the fourth quarter of 2001. Results for the quarters ended December 31, 2002 and 2001 were reduced by special charges (which included merger-related costs, branch consolidation costs, certain asset write-downs and branch closings). The results for the fourth quarter ended December 31, 2002 also included a $6.2 million write-off of certain capitalized costs incurred in connection with a branch automation project and net securities gains of $6.7 million. The fourth quarter of 2001 included $3.0 million of goodwill amortization, which ceased January 1, 2002 under new accounting rules.

      Annualized return on average equity (“ROE”) and return on average assets (“ROA”) were 15.75% and 1.35%, respectively for the quarter ended December 31, 2002 and were 14.45% and 1.23%, respectively, for the comparable quarter last year.

      Results for the fourth quarter of 2002 improved over the fourth quarter of 2001 due primarily to increased net interest income, which increased by 6% as a result of purchase acquisitions and, to a lesser extent, internal growth. The net interest margin for the quarter ended December 31, 2002 was 3.86%, a decrease of 27 basis points from the fourth quarter last year. This decrease was primarily due to long-term rates declining more than short-term rates and the effects of prepayments on mortgage-related assets. Noninterest income totaled $84.4 million and $63.6 million, an increase of $20.8 million, or 33%, for the quarters ended December 31, 2002 and 2001, respectively. The increase was primarily due to increases of $6.7 million in net securities gains, $2.9 million in deposit services income, $2.9 million in mortgage banking services income and $2.6 million in insurance brokerage commissions income. Noninterest expenses increased by 15% due primarily to acquisitions. The efficiency ratio was 55.68% in the fourth quarter of 2002 compared to 54.76% in the comparable period last year. The increase in the efficiency ratio was due in part to the write-off of the branch automation project. See Table 17 “Fourth Quarter Summary” and Note 25 in the Consolidated Financial Statements for selected quarterly data for the years ended December 31, 2002 and 2001.

Comparison of 2001 and 2000

      Our consolidated total assets increased by $2.9 billion, or 16%, from $18.2 billion at December 31, 2000 to $21.1 billion at December 31, 2001. This increase was primarily attributable to the acquisition of Andover in the fourth quarter of 2001. Shareholders’ equity totaled $1.8 billion and $1.3 billion at December 31, 2001 and 2000, respectively. The increase was primarily attributable to net earnings and the issuance of stock for an acquisition in the fourth quarter of 2001.

      We reported net income of $238.8 million for 2001, or $1.68 per diluted share, compared with net income of $191.7 million, or $1.32 per diluted share, for 2000. Return on average assets and return on average equity were 1.29% and 16.48%, respectively, for 2001 and 1.05% and 15.69%, respectively, for 2000.

      Net interest income on a fully taxable-equivalent basis totaled $686.3 million during 2001, as compared with $609.7 million in 2000. The $76.6 million, or 13%, increase in 2001 was primarily attributable to an 87 basis point decrease in average rates paid on interest-bearing liabilities, which more than offset a 50 basis point decrease in the average yield on interest-earning assets. As a result, the net interest margin increased 39 basis points to 3.99% compared to 3.60% in 2001 and 2000, respectively.

      The provision for loan and lease losses was $41.9 million in 2001 compared to a $23.8 million provision in 2000. Net charge-offs were $36.9 million in 2001 compared to $25.3 million in 2000. The ratio of the allowance to nonperforming loans at December 31, 2001 was 252% compared to 249% at December 31, 2000. The allowance for loan and lease losses represented 1.49% of total loans at December 31, 2001

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      Noninterest income was $240.5 million and $211.2 million for the years ended December 31, 2001 and 2000, respectively. Increases of $5.6 million in deposit services income and $13.6 million in insurance brokerage commissions more than offset a $10.8 million decrease in mortgage banking services income related to the sale of the mortgage servicing rights portfolio. Deposit services income of $72.6 million reflected 8% growth from 2000. The 53% increase in insurance brokerage commissions reflected our purchase acquisitions of insurance agencies in Massachusetts and Connecticut late in the third quarter of 2000.

      Noninterest expense was $509.3 million for 2001 compared with $502.5 million for 2000. Excluding special charges, noninterest expense in 2001 was $501.7 million compared to $459.5 million in 2000, an increase of $42.2 million, or 9%. The increase in 2001 was primarily due to increases in salaries and benefits and occupancy expense and as a result of acquisitions. The efficiency ratio improved to 55.34% during 2001 from 61.67% in 2000 primarily as a result of the efficiencies created by the integration of acquired companies, as well as operating improvements.

      Our comprehensive income amounted to $313.9 million and $282.6 million during 2001 and 2000, respectively. Comprehensive income differed from our net income in 2001 primarily because of a $74.8 million net unrealized gain on securities and a $274 thousand hedging gain on cash flow hedges. For additional information, see the Consolidated Statements of Shareholders’ Equity in the Consolidated Financial Statements.

Financial Condition

      Our consolidated total assets increased by $2.3 billion, or 11%, from $21.1 billion at December 31, 2001 to $23.4 billion at December 31, 2002. Total average assets were $21.5 billion and $18.5 billion for the years ended December 31, 2002 and 2001, respectively. These increases were primarily due to the acquisitions in 2002 and 2001. See the acquisitions table under “General — Acquisitions.” Shareholders’ equity totaled $2.1 billion and $1.8 billion at December 31, 2002 and 2001, respectively.

      The securities portfolio is utilized for several purposes. It serves as a vehicle to manage interest rate and prepayment risk, generates interest and dividend income from the investment of excess funds, provides liquidity to meet liquidity requirements and is used as collateral for public deposits and wholesale funding sources.

      The average balance of the securities portfolio, which consists of securities available for sale and securities held to maturity, was $6.4 billion in 2002 and $5.9 billion in 2001, an increase of $480 million. The portfolio is comprised primarily of U.S. Government and agency securities and mortgage-backed securities, most of which are seasoned 15-year federal agency securities. Other securities in the portfolio are collateralized mortgage obligations, which include securitized residential real estate loans held in REMICS, and asset-backed securities. The majority of securities available for sale are rated AAA or equivalently rated. In 2002, the portfolio was managed to mitigate prepayment risk by purchasing U. S. Government agency securities as mortgage-backed securities were paid down. The average yield on securities was 5.52% during the year ended December 31, 2002, compared to 6.29% for the year ended December 31, 2001, which reflects declines in interest rates during 2002. See Table 5 for a detail of securities available for sale and held to maturity and Table 6 for information regarding the contractual maturity of our debt securities at December 31, 2002.

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      Securities available for sale are carried at fair value and had net unrealized gains of $181.3 million and $62.0 million at December 31, 2002 and 2001, respectively. See Note 4 to the Consolidated Financial Statements. These unrealized gains do not impact net income or regulatory capital but are recorded as adjustments to shareholders’ equity, net of related deferred income taxes. Unrealized gains, net of related deferred income taxes, are a component of our “Comprehensive Income” contained in the Consolidated Statement of Changes in Shareholders’ Equity.

      Total loans and leases (including loans held for sale) averaged $13.2 billion during the year ended December 31, 2002 compared to $11.2 billion for the previous year, an increase of $2.0 billion, or 18%. This increase was primarily attributable to acquisitions and growth in commercial real estate loans. Average loans as a percent of average earning assets was 67% and 65% for the years ended December 31, 2002 and 2001, respectively.

      Residential real estate loans (including loans held for sale) averaged $2.6 billion and $2.3 billion in 2002 and 2001, respectively, including the effects of acquisitions. While residential real estate loans increased $345 million, acquisitions accounted for $754 million resulting in a net decrease in the portfolio of $409 million. This decrease was primarily due to increased refinancing activity and prepayments in a declining interest rate environment. Mortgage loans held for sale amounted to $128.6 million and $117.7 million at December 31, 2002 and 2001, respectively. The increase in loans held for sale compared to last year was due primarily to higher origination volumes resulting from declining interest rates. We are currently selling substantially all 30-year conforming fixed-rate loans that we originate.

      Commercial real estate loans averaged $4.3 billion in 2002 and $3.2 billion in 2001, a 33% increase. Acquisitions accounted for approximately $568 million of the $1.1 billion increase.

      Commercial loans and leases averaged $2.7 billion in 2002 and $2.3 billion in 2001, an increase of 14%. Acquisitions accounted for approximately $136 million of the $324 million increase. The remaining increase in 2002 was largely attributable to additional opportunities in certain market areas due to broadening our franchise.

      Consumer loans and leases averaged $3.6 billion in 2002 and $3.4 billion in 2001, an increase of 7%. Acquisitions accounted for approximately $169 million of the $245 million increase. The growth in consumer loans was primarily in indirect automobile loans and home equity loans. Although the internal increase in consumer loans in 2002 was relatively modest, new loan originations have been offset by significant prepayment activity as proceeds of mortgage loans refinancings have been used to pay down consumer loans.

      For a description of the types of loans and leases in our loan and lease portfolio and a breakdown of our consumer loans, see “Credit Risk.”

      Total deposits averaged $14.6 billion during 2002 compared to $12.5 billion during 2001, an increase of 16%. Acquisitions accounted for approximately $1.8 billion of the $2.0 billion increase. The deposit mix also changed favorably in 2002 as certificates of deposit and brokered deposits (which tend to pay higher rates) declined to 33% of average deposits during 2002 from 37% of average deposits during 2001. For additional information about changes in the composition of our deposits, see Table 10.

      Average noninterest-bearing deposits increased 21% in 2002 to $2.6 billion from $2.2 billion in 2001. Acquisitions accounted for approximately $257 million of the $455 million increase. The remainder of the increase reflected strong growth in commercial, government and personal accounts.

      Average interest-bearing deposits increased by $1.6 billion during 2002 to $11.9 billion. Substantially all of this increase resulted from acquisitions. Our existing base of interest-bearing deposits did not increase over the prior year as growth in NOW and money-market accounts were offset by declines in

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      Included within the deposit categories above are government banking deposits, which averaged $1.4 billion in 2002 and $1.2 billion in 2001. Government banking deposits include deposits received from state and local governments, school districts, public colleges/universities, utility districts, public housing authorities and court systems in our market area. Many of these deposits exceed the FDIC insurance coverage amounts and require us to pledge specific collateral or maintain private insurance.

      We use both short-term and long-term borrowings to fund the growth of earning assets in excess of deposit growth. Short-term borrowings, which include federal funds purchased, retail securities sold under agreements to repurchase and other short-term borrowings, amounted to $1.3 billion at December 31, 2002, up $163 million, or 15%, from $1.1 billion at December 31, 2001. See Note 12 to the Consolidated Financial Statements.

      At December 31, 2002, we also had a $110 million unsecured line of credit. The line is renewable every 364 days and, if used, carries interest at LIBOR plus 0.625%. The average balance outstanding under this line of credit during 2002 was $2.1 million.

      Long-term debt includes FHLB advances, subordinated notes, wholesale securities sold under agreements to repurchase, capital lease obligations and other debt with terms greater than one year. Long-term debt was $3.9 billion at December 31, 2002 up from $3.4 billion at December 31, 2001. The increase in long-term debt was primarily due to borrowings assumed in acquisitions.

      At December 31, 2002 and 2001, FHLB borrowings amounted to $2.5 billion and $2.6 billion, respectively. FHLB collateral consists primarily of first mortgage loans secured by single-family properties, certain unencumbered securities and other qualified assets. These borrowings had an average cost of 4.50% during 2002 as compared to 5.30% during 2001. Our additional borrowing capacity with the FHLB at December 31, 2002 was approximately $2.1 billion. See Note 13 to the Consolidated Financial Statements.

      Subordinated notes consisted of $200 million of 7.625% subordinated notes due 2011 issued by our banking subsidiary in 2001. The notes qualify as Tier 2 capital for regulatory purposes.

      At December 31, 2002 and 2001, wholesale securities sold under repurchase agreements amounted to $1.2 billion and $571 million, respectively, and were collaterallized by mortgage-backed securities and U.S. Government obligations. See Note 13 to the Consolidated Financial Statements.

      At December 31, 2002, through subsidiary trusts, we had outstanding $295.1 million of capital securities which qualify as Tier 1 capital for regulatory purposes. See the “Capital” section below.

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Contractual Obligations and Commitments

      We have entered into numerous contractual obligations and commitments. The following table summarizes our contractual cash obligations and other commitments at December 31, 2002.

(1)	Except for liabilities related to employee benefit plans, other liabilities are short term in nature.

      See Note 19 to the Consolidated Financial Statements for more information regarding the nature and business purpose and the importance of all off-balance sheet arrangements.

Risk Management

      The primary goal of our risk management program is to determine how certain existing or emerging issues in the financial services industry affect the nature and extent of the risks faced by us. Based on a periodic self-evaluation, we determine key issues and develop plans and/or objectives to address risk. Our board of directors and management believe that there are seven applicable “risk categories,” consisting of credit, interest rate, liquidity, transaction, compliance, strategic and reputation risk. Each risk category is viewed from a quantity of risk perspective (high, medium or low) coupled with a quality of risk perspective. In addition, an aggregate level of risk is assigned as a whole as well as the direction of risk (stable, increasing or decreasing). Each risk category and the overall risk level is compared to regulatory views on a regular basis and then reported to the board with an accompanying explanation as to the

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      Our board of directors has established the overall strategic direction. It approves our overall risk policies and oversees our overall risk management process. The board has established two board committees, consisting of Audit and Board Risk management, and has charged each committee with overseeing key risks. In addition, there is a management operational risk committee, which is comprised of senior officers in key business lines, which identifies and monitors key operational risks. The Operational Risk Committee reports to the Board Risk Committee on a regular basis.

Credit Risk Management

      The Board Risk Management Committee monitors our credit risk management. Our strategy for credit risk management includes stringent, centralized policies and uniform underwriting criteria for all loans. The strategy also includes diversification on a geographic, industry and customer level, regular credit examinations and quarterly management review of large loans and loans with a deterioration of credit quality. We maintain an internal rating system that provides a mechanism to regularly monitor the credit quality of our loan portfolio. The rating system is intended to identify and measure the credit quality of lending relationships. For consumer loans, we utilize standard credit scoring systems to assess consumer credit risks and to price consumer products accordingly. We strive to identify potential problem loans early, take any necessary charge-offs promptly and maintain adequate reserve levels. See “Results of Operations — Provision and Allowance for Loan and Lease Losses” and Note 1 to the Consolidated Financial Statements.

      Our residential loan portfolio accounted for 17% of the total loan portfolio at December 31, 2002 and 21% at December 31, 2001. Our residential loans are generally secured by single-family homes (one-to-four units) and have a maximum loan to value ratio of 80%, unless the excess is protected by mortgage insurance. At December 31, 2002, 0.24% of our residential loans were nonperforming, as compared to 0.32% at December 31, 2001, as nonperforming residential real estate loans decreased by $2.6 million while the total residential loan portfolio decreased by $244.9 million. Net charge-offs to average residential loans outstanding for the year ended December 31, 2002 was (.01%.)

      Our commercial real estate loan portfolio accounted for 34% of the total loan portfolio at December 31, 2002 and 32% at December 31, 2001. This portfolio consists primarily of loans secured by income-producing commercial real estate (including office and industrial buildings), service industry real estate (including hotels and health care facilities), multi-family (over four units) residential properties and retail trade real estate (food stores). These loans generally are secured by properties located in the New England states and upstate New York. At December 31, 2002, 0.37% of our commercial real estate loans were nonperforming, as compared to 0.42% at December 31, 2001. Net charge-offs to average commercial real estate loans outstanding for the year ended December 31, 2002 was .03%.

      Our commercial business loan and lease portfolio accounted for 21% of the total loan portfolio at December 31, 2002 compared to 19% at December 31, 2001. Commercial business loans and leases are generally made to small to medium size businesses located within our market areas. These loans are not concentrated in any particular industry, but reflect the broad-based economy of New England and upstate New York. Commercial loans consist primarily of loans secured by various equipment, machinery and other corporate assets, as well as loans to provide working capital to businesses in the form of lines of credit. Through a subsidiary, we also offer direct equipment leases, which amounted to $102.9 million at December 31, 2002. We do not emphasize the purchase of participations in syndicated commercial loans. At December 31, 2002, we had $205 million of outstanding participations in syndicated commercial loans and had an additional $295 million of unfunded commitments related to these participations. At December 31, 2002, 1.10% of our commercial business loans were nonperforming, as compared to 1.64% at December 31, 2001. Net charge-offs to average commercial business loans and leases outstanding for the year ended December 31, 2002 was .58%.

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      Consumer loans and leases accounted for 28% of our total loan portfolio at December 31, 2002 and 2001. At December 31, 2002, 0.23% of our consumer loans were nonperforming, as compared to 0.27% at December 31, 2001. Net charge-offs to average consumer loans outstanding for the year ended December 31, 2002 was .61%. The following table lists our consumer loans by type as of December 31, 2002 and 2001:

      See Table 7 for information about the composition of our loan portfolio for the last five years, Table 8 for information about the scheduled contractual amortization of certain parts of our loan portfolio at December 31, 2002 and Table 10 for information about the geographic distribution of our commercial real estate loans and commercial business loans and leases at December 31, 2002 and 2001.

     Nonperforming Assets

      Nonperforming assets consist of nonperforming loans (which do not include accruing loans 90 days or more overdue), other real estate owned, repossessed assets and certain securities available for sale. Total nonperforming assets as a percentage of total assets were 0.29% at December 31, 2002 and 0.39% at December 31, 2001. Total nonperforming assets as a percentage of total loans and other nonperforming assets was 0.49% and 0.64% at December 31, 2002 and 2001, respectively. See Table 15 for a summary of nonperforming assets for the last five years.

      We continue to focus on asset quality issues and to allocate significant resources to the key asset quality control functions of credit policy and administration and loan review. The collection, workout and asset management functions focus on the reduction of nonperforming assets. Despite the ongoing focus on asset quality and reductions of nonperforming asset levels, there can be no assurance that adverse changes in the real estate markets and economic conditions in our primary market areas will not result in higher nonperforming asset levels in the future and negatively impact our operations through higher provisions for loan losses, net loan charge-offs, decreased accrual of interest income and increased noninterest expenses as a result of the allocation of resources to the collection and workout of nonperforming assets.

      Residential real estate loans are generally placed on nonaccrual when they become 120 days past due or are in the process of foreclosure. All closed-end consumer loans 90 days or more past due and any equity line in the process of foreclosure are placed on nonaccrual status. Consumer loans are charged-off upon reaching 120 or 180 days past due depending on the type of loan. We generally place all commercial real estate loans and commercial business loans and leases which are 90 days or more past due, unless secured by sufficient cash or other assets immediately convertible to cash, on nonaccrual status. At December 31, 2002, we had $3.4 million of accruing loans which were 90 days or more delinquent, as compared to $6.2 million and $6.0 million of such loans at December 31, 2001 and 2000, respectively.

      We also may place loans on nonaccrual and, therefore, nonperforming status currently less than 90 days past due or performing in accordance with their terms but which in our judgment are likely to present future principal and/or interest repayment problems and which thus ultimately would be classified as nonperforming.

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     Net Charge-offs

      Net charge-offs were $38.7 million during 2002, as compared to $36.9 million in 2001. Net charge-offs represented 0.29% and 0.33% of average loans and leases outstanding in 2002 and 2001, respectively. See Table 14 for net charge-offs by loan type for the past three years and Table 12 for more information concerning charge-offs and recoveries during the past five years.

      In addition to nonperforming loans as discussed in the “Credit Risk Management” section above, we also have loans that are 30 to 89 days delinquent and still accruing. These loans amounted to $139 million at December 31, 2002. These loans and delinquency trends are considered in the evaluation of the allowance for loan and lease losses and the related determination of the provision for loan and lease losses.

Asset-Liability Management

      The goal of asset-liability management is the prudent control of market risk, liquidity and capital. Asset-liability management is governed by policies reviewed and approved annually by our board of directors and monitored periodically by the Board Risk Committee. The board delegates responsibility for asset-liability management to the Asset Liability Management Committee (“ALCO”), which is comprised of members of senior management who set strategic directives that guide the day-to-day asset-liability management of our activities. The ALCO also reviews and approves all major risk, liquidity and capital management programs, except for product pricing. Product pricing is reviewed and approved by the Pricing Committee, which is comprised of a subset of ALCO members and state presidents.

      Market risk is the sensitivity of income to changes in interest rates, foreign exchange rates, commodity prices and other market-driven rates or prices. We have no trading operations and thus are only exposed to non-trading market risk.

      Interest-rate risk, including mortgage prepayment risk, is by far the most significant non-credit risk to which we are exposed. Interest-rate risk is the sensitivity of income to changes in interest rates. Changes in interest rates, as well as fluctuations in the level and duration of assets and liabilities, affect net interest income, our primary source of revenue. This risk arises directly from our core banking activities — lending and deposit gathering. In addition to directly impacting net interest income, changes in the level of interest rates can also affect (i) the amount of loans originated and sold by the institution, (ii) the ability of borrowers to repay adjustable or variable rate loans, (iii) the average maturity of loans, (iv) the rate of amortization of premiums paid on securities and capitalized mortgage servicing rights, (v) the amount of unrealized gains and losses on securities available for sale and (vi) the fair value of our saleable assets and derivatives and the resultant ability to realize gains.

      The primary objective of interest-rate risk management is to control our exposure to interest-rate risk both within limits approved by our board and guidelines established by the ALCO. These limits and guidelines reflect our tolerance for interest-rate risk over both short-term and long-term horizons. We attempt to control interest-rate risk by identifying, quantifying and, where appropriate, hedging our exposure.

      We quantify and measure interest-rate exposure using a model to dynamically simulate net interest income under various interest rate scenarios over a 12-month period. Simulated scenarios include deliberately extreme interest rate “shocks” and more gradual interest rate “ramps.” Key assumptions in these simulation analyses relate to behavior of interest rates and spreads, increases or decreases of product balances and the behavior of our deposit and loan customers. The most material assumptions relate to the prepayment of mortgage assets (including mortgage loans, mortgage-backed securities and mortgage servicing rights). The risk of prepayment tends to increase when interest rates fall. Since future prepayment behavior of loan customers is uncertain, the resultant interest rate sensitivity of loan assets

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      To cope with these uncertainties, we give careful attention to our assumptions. For example, many of our interest-bearing deposit products (e.g. interest checking, savings and money market deposits) have no contractual maturity and based on historical experience have only a limited sensitivity to movements in market rates. Because we believe we have some control with respect to the extent and timing of rates paid on non-maturity deposits, certain assumptions regarding rate changes are built into the model. In the case of prepayment of mortgage assets, the majority of assumptions are derived from a vendor supported loan prepayment model that is periodically tested using observed loan prepayment behavior.

      We manage the interest-rate risk inherent in our core banking operations primarily using on-balance sheet instruments, which sometimes contain embedded options, mainly fixed-rate investment securities and borrowed funds. When appropriate, we consider interest rate instruments such as interest-rate swaps, interest rate floors, interest rate caps and interest rate corridor agreements, among other instruments. At December 31, 2002, the only such instruments which we had were forward commitments related to hedging our mortgage banking operations and swaps and caps offered to commercial borrowers through our commercial borrower derivative hedging program. We believe that our exposure to commercial customer derivatives is minimal because these contracts are secured by loan collateral and are matched with a similar fixed-rate swap product. The program is designed to retain variable-rate commercial loans while allowing the commercial borrowers to synthetically fix the loan rate by entering into a variable-to-fixed interest rate swap. Since its inception in 2002, we have recorded a notional amount of approximately $60 million in derivative contracts with commercial borrowers. It is anticipated that, over time, customer interest rate derivatives will reduce the interest rate risk inherent in our longer-term, fixed-rate commercial business and commercial real estate loans.

      We manage the interest-rate risk inherent in our mortgage banking operations by entering into forward sales contracts and, to a lesser extent, by using purchased mortgage-backed security options. An increase in market interest rates between the time we commit to terms on a loan and the time we ultimately sell the loan in the secondary market will have the effect of reducing the gain (or increasing the loss) we record on the sale. We attempt to mitigate this risk by entering into forward sales commitments in amounts sufficient to cover all closed loans and approximately 75% to 80% of loan commitments on rate-locked loans. Purchased mortgage-backed security options are used to hedge a percentage of rate-locked loans.

      The average balances during 2002 and 2001 of residential mortgage loans held for sale and related average hedge positions are summarized below:

      Our policy on interest-rate risk simulation specifies that if interest rates were to shift gradually up or down 2%, estimated net interest income for the subsequent 12 months should decline by less than 5%. Our gradual 2% rising rate scenario was within compliance guidelines at December 31, 2002 and 2001. However, the gradual 2% falling rate scenario was slightly outside guidelines at December 31, 2002 and 2001. ALCO voted to approve the guidelines exception because a gradual 2% decreasing rate scenario was deemed unlikely based on the current level of interest rates. ALCO currently is more focused on the gradual decreasing 1% rate scenario than on the gradual decreasing 2% scenario and on strategies that prove beneficial to income should rates decline or the yield curve flatten. Strategies under review include

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      The following table sets forth the estimated effects on our net interest income over a 12-month period following the indicated dates in the event of the indicated increases or decreases in market interest rates.

      The results implied in the above table indicate estimated changes in simulated net interest income for the subsequent 12 months assuming a gradual shift up or down in market rates of 100 and 200 basis points across the entire yield curve. Assuming a downward shift in rates, most deposit accounts have implied interest rate floors and it is assumed that the related interest expense on these accounts will not decrease in proportion to the downward shift in rates. Assuming an upward shift in rates of 200 basis points, the simulated increase in interest income would be more than the simulated increase in interest expense because total adjustable earning assets will reprice more quickly than will total adjustable cost liabilities. It should be emphasized, however, that the results are dependent on material assumptions such as those discussed above. For instance, asymmetrical rate behavior can have a material impact on the simulation results.

      The most significant factors affecting market risk exposure of net interest income during the year ended December 31, 2002 were (i) the shape of the U.S. Government securities and interest rate swap yield curve, (ii) changes in the composition of the investment portfolio, (iii) changes in the composition of mortgage assets and prepayment speeds of mortgage assets, (iv) reduction of deposit interest expense, and (v) changes in the wholesale borrowings portfolio structure. Since December 2001, the yield curve fell significantly in both the 5-year and 10-year terms (approximately 160 and 121 basis points, respectively). As a result, projected mortgage and loan prepayments increased throughout 2002 as interest rates reached levels not seen in 40 years. Because of historically low rates and increased loan cash inflows, effective duration estimates for loans and mortgage-backed securities became much shorter in 2002 than in 2001, thus increasing asset sensitivity. Asset liability management actions taken throughout 2002 helped to reduce asset sensitivity and included the purchase of investments with more structured cash flows and floating rate wholesale borrowings with embedded caps and floors. The above table reflects the net impact of these changes. The relatively small net change in the estimated sensitivity of our net interest income to changes in interest rates during 2002 was a result of these factors and asset liability management actions. We remain asset sensitive and project net interest income to increase if short and long interest rates move symmetrically higher.

      In connection with the acquisition of Andover in 2001, we acquired mortgage servicing rights with a fair value of $8.8 million. As a result of prepayments and valuation adjustments, mortgage servicing rights declined from $8.5 million at December 31, 2001 to $3.6 million at December 31, 2002. Mortgage servicing rights represented 0.51% of the underlying balance of loans serviced for others at December 31, 2002. New mortgage servicing rights from originations are sold on a flow basis shortly after the mortgages are sold. As a result, future earnings exposure to changes in the value of mortgage servicing rights is not expected to be material.

      Our earnings are not directly and materially impacted by movements in foreign currency rate or commodity prices. Virtually all transactions are denominated in the U.S. dollar. Movements in equity prices may have an indirect but modest impact on earnings by affecting the volume of activity or the amount of fees from investment-related businesses.

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Liquidity

      Our Board Risk Management Committee establishes policies and analyzes and manages liquidity to ensure that adequate funds are available to meet normal operating requirements in addition to unexpected customer demands for funds, such as high levels of deposit withdrawals or loan demand, in a timely and cost-effective manner. The most important factor in the preservation of liquidity is maintaining public confidence that facilitates the retention and growth of a large, stable supply of core deposits and wholesales funds. Ultimately, public confidence is generated through profitable operations, sound credit quality and a strong capital position. Liquidity management is viewed from a long-term and a short-term perspective, as well as from an asset and liability perspective. We monitor liquidity through a regular review of loan and deposit maturities, yield and rate scenarios and loan and deposit forecasts to minimize funding risk. Other factors affecting a bank’s ability to meet liquidity needs include variations in the markets served and general economic conditions. We have various funding sources available to us on a parent-only basis as well as through our banking subsidiary, as outlined below.

      On a parent-only basis, our commitments and debt service requirements at December 31, 2002 consisted primarily of junior subordinated debentures (including accrued interest) issued to four subsidiaries totaling $295.1 million which mature starting in 2027. See “Capital” and Notes 14 and 23 to the Consolidated Financial Statements. The principal sources of funds for us to meet parent-only obligations are dividends from our banking subsidiary, which are subject to regulatory limitations, and borrowings from public and private sources. At December 31, 2002, our subsidiary bank had $364.2 million available for dividends that could be paid without prior regulatory approval. See also “Financial Condition — Other Funding Sources” above. For information on restrictions on the payment of dividends by our banking subsidiary, see Note 16 to the Consolidated Financial Statements.

      For the Bank, liquidity represents the ability to fund asset growth, accommodate deposit withdrawals and meet other contractual obligations and commercial commitments. See “Contractual Obligations and Commitments” above.

      In addition to traditional retail deposits, the Bank has various other liquidity sources, including proceeds from maturing securities and loans, the sale of securities, asset securitizations and borrowed funds such as FHLB advances, reverse repurchase agreements and brokered deposits.

      We continually monitor and forecast our liquidity position. There are several interdependent methods used by us for this purpose, including daily review of fed funds positions, monthly review of balance sheet changes, monthly review of liquidity ratios, periodic liquidity forecasts and periodic review of contingent funding plans.

      As of December 31, 2002, the Bank had in the aggregate $3.2 billion of “immediately accessible liquidity,” defined as cash that could be raised within 1-3 days through collateralized borrowings or security sales. This represented 20% of deposits, as compared to a policy minimum of 10% of deposits.

      Also as of December 31, 2002, the Bank had in the aggregate “potentially volatile funds” of $1.5 billion. These are funds that might flow out of the banks over a 90-day period in an adverse environment. Management estimates this figure by applying adverse probabilities to its various credit-sensitive and economically-sensitive funding sources.

      As of December 31, 2002, the ratio of “immediately accessible liquidity” to “potentially volatile funds” was 207%, compared to a policy minimum of 100%.

      In addition to the liquidity sources discussed above, we believe that our residential and consumer loan portfolios provide a significant amount of contingent liquidity that could be accessed in a reasonable time period through sales or securitizations. We believe we also have significant untapped access to the national brokered deposit market. These sources are contemplated as secondary liquidity in our contingent funding plan. We believe that the level of liquidity is sufficient to meet current and future funding requirements.

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      We have a shelf registration on file with the Securities and Exchange Commission which allows us to sell up to $1.0 billion of debt securities, preferred stock, depository shares, common stock and warrants and which allows subsidiary trusts to sell capital securities. We had $800 million remaining on this shelf registration statement as of December 31, 2002.

      In addition, at December 31, 2002, we also had a $110 million unsecured line of credit. The line is renewable every 364 days and, if used, carries interest at LIBOR plus 0.625%.

Capital

      We are committed to managing capital for shareholder benefit and maintaining protection for depositors and creditors. At December 31, 2002 and 2001, our shareholders’ equity totaled $2.1 billion and $1.8 billion, respectively, or 8.81% and 8.49% of total assets, respectively. In addition, through subsidiary trusts, we had outstanding at December 31, 2002 $295.1 million of capital securities as follows: