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SECURITIES AND EXCHANGE COMMISSION

FORM 10-K

FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

Commission File No. 000-30805

WGNB CORP.

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

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

Common Stock, $1.25 par value
(Title of Class)

     Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [x] No [  ]

     Indicate by check mark 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. [x]

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes [  ] No [x]

     The aggregate market value of the Registrant’s Common Stock held by non-affiliates of the Registrant as of June 28, 2002 which is the last business day of its most recently completed second fiscal quarter, was approximately $40,433,160 based on a per share price of $24.00 (which is the average of the ask and bid price reported by the NASDAQ Stock Market) as of such date. Shares of Common Stock held by each executive officer and director and by each person who owns 5% or more of the Registrant’s Common Stock have been excluded in that such persons may be deemed affiliates of the Registrant. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

     As of March 7, 2003, there were 3,307,767 shares of the Registrant’s Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

     Portions of the Registrant’s definitive Proxy Statement for the 2003 Annual Meeting of Shareholders are incorporated by reference into Part III of this Report.

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WGNB CORP.

2002 Form 10-K Annual Report

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PART I

CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS

     Certain of the statements made in this Report and in documents incorporated by reference herein, including matters discussed under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” as well as oral statements made by WGNB Corp. (the “Company”) or its officers, directors or employees, may constitute forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Such forward-looking statements are based on Management’s beliefs, current expectations, estimates and projections about the financial services industry, the economy and about the Company and the Bank in general. The words “expect,” “anticipate,” “intend,” “plan,” “believe,” “seek,” “estimate” and similar expressions are intended to identify such forward-looking statements. Such forward-looking statements are not guarantees of future performance and are subject to risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company to differ materially from historical results or from any results expressed or implied by such forward-looking statements. The Company cautions readers that the following important factors, among others, could cause the Company’s actual results to differ materially from the forward-looking statements contained in this Report: (i) the effect of changes in laws and regulations, including federal and state banking laws and regulations, with which the Company or the Bank must comply, and the associated costs of compliance with such laws and regulations either currently or in the future as applicable; (ii) the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies as well as by the Financial Accounting Standards Board; (iii) the effect of changes in the Company’s organization, compensation and benefit plans; (iv) the effect on the Company’s competitive position within its market area of the increasing consolidation within the banking and financial services industries, including the increased competition from larger regional and out-of-state banking organizations as well as non-bank providers of various financial services; (v) the effect of changes in interest rates; and (vi) the effect of changes in the business cycle and downturns in local, regional or national economies. The Company cautions that the foregoing list of important factors is not exclusive.

Item 1. Business

General

     WGNB Corp. is a $385 million asset bank holding company headquartered in Carrollton, Georgia. The Company was organized as a business corporation under the laws of the State of Georgia in 1984 and is a registered bank holding company under the federal Bank Holding Company Act of 1956, as amended, and under the bank holding company laws of the State of Georgia. The Company conducts operations in western Georgia through its wholly-owned subsidiary, West Georgia National Bank (the “Bank”). The Bank was organized in 1946 as a national banking association under the federal banking laws of the United States. In 1997, the Company formed a non-bank subsidiary, West Georgia Credit Services, Inc. (the “Finance Company”), which conducts business as “Mortgage & Loan Solutions.” The Finance Company’s operations were discontinued and the assets were transferred to the Bank and the Company as of December 31, 2002. As of March 7, 2003, the Company had 3,307,767 issued and outstanding shares of common stock, $1.25 par value per share (the “Common Stock”), held by approximately 800 shareholders of record.

     The Company conducts all of its business through the Bank. The executive offices of the Company and the main office of the Bank are located at 201 Maple Street, Carrollton, Georgia 30117.

The Bank

     The Bank is a full service commercial bank offering a variety of services customary for community banks of similar size which are designed to meet the banking needs of individuals and small to medium-sized businesses. The Bank attracts most of its deposits and conducts most of its lending transactions from and within its primary service area encompassing Carroll County, Georgia and the western portion of Douglas County, Georgia.

     The Bank’s main office is located in Carrollton, Georgia. The Bank operates a total of seven branches and six additional 24-hour ATM sites, located in Carroll and Douglas Counties in Georgia. The Bank operates two

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additional branches in the city of Carrollton, two branches in Villa Rica, one branch in Bowdon and one branch in Douglasville, Georgia.

     As a convenience to its customers, the Bank offers at most of its branch locations Saturday banking hours, drive-thru teller windows and 24-hour automated teller machines. The Bank is a member of Honor, Cirrus and several other ATM networks of automated teller machines that permit Bank customers to perform monetary transactions in most cities throughout the southeast and other regions. The Bank also offers Internet banking services through its web site located at www.wgnb.com. Information included on the Bank’s web site is not a part of this Report.

     Deposit Services. The Bank offers a full range of deposit services including checking accounts, NOW accounts, savings accounts and other time deposits of various types, ranging from money market accounts to longer-term certificates of deposit. The accounts are all offered to the Bank’s market area at rates competitive to those offered in the area. All deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”) up to the maximum allowed by law. In addition, the Bank has implemented service charge fee schedules competitive with other financial institutions in its market area covering such matters as maintenance fees on checking accounts, per item processing fees on checking accounts, returned check charges and the like.

     As of December 31, 2002, the Bank had deposits of approximately $299 million, and approximately 26,100 deposit accounts. No material portion of the Bank’s deposits relates to one or a few persons or entities (including federal, state and local governments and agencies). The loss of any one or a few principal deposit customers would not be likely to have a material adverse effect on the operations or earnings of the Bank.

     The following table sets forth the mix of depository accounts at the Bank as a percentage of total deposits as of December 31, 2002.

Deposit Mix

     While the loan policy includes a provision generally limiting all types of real estate loans to 75% of the total loan portfolio, the executive loan committee can approve loans that exceed the policy limits on a case by case basis where warranted. Although, in aggregate, it accounts for a large portion of the loan portfolio, real estate lending has historically been the Company’s lowest loan loss category.

     Legal Lending Limit. The Bank is subject to loans to one borrower limitations prescribed for national banks by the Office of the Comptroller of the Currency (see Supervision and Regulation). The legal lending limit to a single borrower by regulation is 15% of a bank’s total capital plus reserves, plus an additional 10% of a bank’s capital and reserves if the amount exceeding the 15% general limit is secured by readily marketable securities. The Bank, however, has adopted an internal policy requiring all exposure above 15% of capital and reserves to be approved by the entire Board of Directors unless certain conditions are met including one or more of the following:

	•		the amounts exceeding the limit are sold on a non-recourse basis;
	•		the amounts exceeding the limit are secured by readily marketable securities, up to a limit of 25% of capital and reserves;
	•		the amounts exceeding the limit are secured by a perfected first lien security interest in one-to-four family real estate in an amount that does not exceed 80% of the appraised value of the property and the outstanding indebtedness to the borrower does not exceed the lesser of 20% (or 25% with the approval of a majority of the Board of Directors subject to certain additional restrictions) of capital and reserves, or $10 million; or
	•		the amounts exceeding the limit are for small business purposes and secured by non-farm nonresidential properties or are commercial or industrial loans but in no event can the outstanding indebtedness exceed the lesser of 20% (or 25% with the approval of a majority of the Board of Directors subject to certain additional restrictions) of capital and reserves, or $10 million.

     Loan Underwriting Standards. Management recognizes the importance of character and past performance as consideration in the lending decision process. In analyzing a credit relationship, primary emphasis is placed on adequacy of cash flow and the ability of the borrower to service the debt. Secondary emphasis is placed on the past performance of the borrower, the type or value of the collateral, the amount of net worth present or any performance of endorsers or guarantor that has not been proven.

     Collateral is not considered a substitute for the borrower’s ability to repay. Collateral serves as a way to control the borrower and provide additional sources of repayment in the event of default. The quality and liquidity of the collateral are of paramount importance and must be confirmed before the loan is made. The Bank has loan to value and margin guidelines that are varied depending on the type of collateral offered. Loans secured by liquid assets and securities carry margins of 75% to 100% depending on the liquidity and price volatility of the asset. In general, loans to value on various types of real estate range from a high of 85% to a low of 60%. Installment loans, in general, require a loan to collateral value of at least 80%. In addition, there are limits on terms of repayment of loans for automobiles and related collateral which are dependent on the age of the asset. There are certain exceptions to the loan to value guidelines that are dependent on the overall creditworthiness of the borrower.

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     Loan Approval. The Bank’s loan approval policies provide for various levels of officer lending authority. When the aggregate outstanding loans to a single borrower exceeds an individual officer’s lending authority, the loan request must be considered and approved by an officer with a higher lending limit or an officers’ loan committee (the “OLC”). Individual officer’s secured and unsecured lending limits range from $5,000 to $100,000, depending on seniority. The OLC, which consists of the president, executive vice president, two senior vice presidents and other lenders, has a lending limit of $300,000 for secured and $100,000 for unsecured loans. Loans between $300,000 and the Bank’s legal lending limit must be approved by an executive loan committee, which is made up of the CEO of the Company, the President of the Bank and six outside directors.

     Loan Review. The Bank has a comprehensive loan review process involving an independent loan review officer and lending officers. The loan review process is designed to promote early identification of credit quality problems. All loan officers are charged with the responsibility of rating their loans. The Bank’s independent loan review officer is charged with the responsibility of ensuring that all problem loans and all loan or line of credit relationships in excess of $350,000 are reviewed annually, with random sample checks on consumer loans and other loans less than $350,000. Additionally, the loan review officer monitors the loan rating system to ensure proper risk identification. The Bank’s risk identification process is also reviewed by its regulators and its independent auditors. Upgrades and credit risk grades require the approval of the loan review officer. In the event of disagreement, the executive loan committee makes the final decision.

Market Area

     The following statistical data is based on information contained in a report published by the State University of West Georgia Department of Economics dated October 29, 2002 and information published by the FDIC on its web site.

     The Bank’s primary market area includes all of Carroll County, Georgia and the western portion of Douglas County, Georgia. Approximately 98% of the Bank’s deposit customers reside in Carroll County, although it attracts some loan business from neighboring Douglas and Paulding Counties. The Bank’s secondary market area includes the Georgia counties of Paulding, Douglas, Heard, Haralson and Coweta, and the Alabama counties of Clebourne and Randolph. Carroll County is located approximately 45 miles southwest of Atlanta and 90 miles east of Birmingham, Alabama. Carroll County’s major industries include manufacturing, wholesale trade, food processing, paper and lumber products, construction and health services. The State University of West Georgia, which serves more than 9,000 students, and Tanner Medical Center are located in Carrollton, which is the county seat and the location of the Bank’s main office.

     Carroll County’s population has grown steadily but relatively slowly when compared to some metro Atlanta counties, reflecting an average annual growth rate of 2.0% from 1990 to 2000. Its growth rate is also lower than that for the State of Georgia. Out of 159 Georgia counties, Carroll County ranks 29th in land area and 23rd in population. According to 2000 census data, median household income for Carroll County was $38,799, which ranked 40th among Georgia counties. The unemployment rate for Carroll County in August 2002 was 7.2%, which was above the state’s unemployment rate of 4.7%. Per capita income for 2000 in Carroll County was $21,678, which was 78% of the average for the state as a whole and 74% of the national average. Carroll County’s personal income of $1.91 billion in 2000 ranked 25th for all of Georgia’s counties.

     Based on the most recent statistical data available for 2001, housing activity in Carroll County remained at record levels. A total of 2,343 housing units, comprised of 1,709 single family and 634 multi-family units, were permitted in 2001. Because of the zero job growth in Carroll County, permit data for the first three quarters of 2002 indicated a decline in residential construction. As of August 2002, 648 single-family permits were issued, compared to 978 for the same period in 2001, with communities near I-20 reflecting the greatest share of the residential construction activity in 2002.

     Carroll County’s industrial base remains heavily manufacturing with that sector accounting for 27.9% of total earnings in 2000. Non-durable goods manufacturing is concentrated in food processing, apparel and paper products. Durable goods manufacturing is heavily concentrated in primary metals. The share of earnings related to services rose to 20.2% in 2000. During the 1990’s, employment grew at an average annual rate of 1.4%, down

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substantially from the 2.9% annual rate in the 1980’s and the 4.1% rate in the 1970’s. Industries with the fastest employment growth were wholesale trade, which grew at an average annual rate of 4.2%, followed by local government at 3.3% and services at 3.0%. Manufacturing employment fell at an average annual rate of 1.6% in the last ten years.

     Carroll County’s manufacturing base is likely to be positively impacted by a number of significant expansions. Janus International Corporation, an overhead rolling door manufacturer, opened a plant near I-20. Janus currently employs about 100 workers and company officials anticipate increasing its work force to 400 by 2006. A Villa Rica manufacturer, PrintPack, Inc., anticipates adding 150 to 200 workers to the 200 it currently employs by 2005. Additionally, Carrollton has attracted an auto parts manufacturing plant owned by Decoma International, Incorporated. Decoma’s new plant is expected to employ 300 workers.

     Carroll County continues to be the largest deposit base county in the Bank’s market area with Douglas County, to its east, and Paulding County, to its north, emerging as deposit growth areas. The compound annual growth rate for deposits at financial institutions in Carroll County for the years 1993-2002 was 5.1%. The amount of total deposits in Carroll County was approximately $1.10 billion as of June 30, 2002, compared to total deposits of approximately $710 million as of June 30, 1993. Douglas County had the second largest deposit base in our market area with $809 million in total deposits, and Paulding County coming in third with $547 million in total deposits, as of June 30, 2002. The Bank held a market share of 23.7% of total deposits in Carroll County as of June 30, 2002, representing the largest deposit market share for any financial institution located in Carroll County.

     The Bank established two branches in the Douglas County market over the past three years. Douglas County ranks 139th out of 159 counties in land area, but 16th in population in Georgia. Over the last decade, Douglas County’s population increased by almost 30% with migration accounting for 65% of that growth. Douglas County’s median household income was $50,108 in 1999, ranking 12th among all Georgia counties and 30% higher than Carroll County’s median income for that year. Douglas County’s personal income was $2.34 billion, which ranked 19th in the state. The service sector is the largest sector of Douglas County’s economy comprising 30.5% of its total employment, with retail trade in second at 24.7%.

     Douglas County’s population grew 3.6% in 2001, making it the 21st fastest growing county in the state. Along with its population, new housing activity accelerated in 2000 and has increased each year through 2002. Both single family and multi family permits rose sharply. As of the end of August 2002, a total of 2,502 housing permits were issued in Douglas County, more than any county in the west Georgia region. However, Douglas County’s 4.4% unemployment rate in August 2002 was well above its 2.7% unemployment rate in August 2001. Employment growth continues to be led by retail trade, which provided 593 new jobs in 2001, although the services industry, Douglas County’s second largest employment sector, lost 456 jobs in 2001 with that trend expected to continue in 2002.

     Upscale residential development continues in Douglas County in subdivisions like Chapel Hills and Mirror Lake. A new subdivision in Chapel Hills, the Links, will contain 34 new homes priced from $300,000 to $500,000. Mirror Lake, located north of I-20, sold approximately $30 million in new homes during the first half of 2002, with an average of 24 homes selling per month. Other key developments include Bear Creek, which is expected to contain 500 homes priced from $200,000 to $500,000, Anneewakee Trails Conservation Communities, which will include 1,500 homes priced from $120,000 to $250,000, and St. Andrews Golf and Country Club, which includes approximately 400 homes. There have been numerous retail, commercial and redevelopment plans which have taken place or are in the planning stages as well. The continued development of communities west of metro Atlanta along the I-20 corridor, such as Douglasville, and westward toward the city of Villa Rica, will have an impact on the Company’s primary and secondary market areas.

     All of the Company’s market area has been affected by the downturn in the national economy. Even before terrorism became a continued threat and foreign affairs impacted the national economy, evidence suggested a rise in unemployment in all counties in the Company’s market area. Retail trade and business expansion is likely to be effected by the downturn. Inventories of single-family homes are increasing with the upscale home market experiencing particularly hard times. Retail sales were down in 2001 as evidenced by a 15% reduction in sales tax collections in Georgia.

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     The Bank’s percentage loan growth, a good indicator of business expansion, slowed in 2002 when compared to its loan growth in 2001 and 2000. Total loans grew by only 7.7%, or $20 million, in 2002 compared to 11.1%, or $25 million, in 2001 and 23.6%, or $43.7 million, in 2000. The Bank has recently opened two branches in Douglas County. In September of 2000, the Bank opened a branch in an area known as Mirror Lake, which is located two miles north of I-20 between the cities of Douglasville and Villa Rica near western Douglas County and northern Carroll County. In its 28 months of existence, the Mirror Lake branch has grown to $39 million in loans, including loans transferred from the Villa Rica branch, and $5 million in deposits. The Bank has also expanded into Douglasville in Douglas County with a branch on Georgia Highway 5 near Douglas Boulevard, a major retail trade area. The Douglasville branch has grown to $20 million in loans and $10 million in deposits in the 18 months since it opened in June of 2001.

     The Bank’s main office in Carrollton, Carroll County, decreased by $2 million in loans and increased by $23 million, or 14%, in deposits in 2001. By contrast, the main office increased by $18 million, or 14%, in loans and grew by $17 million, or 9%, in deposits in 2002. What impact the local economy will have on loan and deposit production and the collectability of loans is not readily apparent. Should interest rates remain low or decline further, the Bank’s interest margin would be adversely affected.

Competition

     The Bank operates in a competitive environment, competing for deposits and/or loans with commercial banks, thrifts and other financial entities. Principal competitors include other community commercial banks (such as McIntosh Commercial Bank and Gainesville Bank & Trust, successor to Hometown Bank of Villa Rica) and larger institutions with branches in the Bank’s market area such as CB&T of West Georgia (a division of Synovus Bank), BB&T, Regions Bank, United Community Bank, Bank of America, SunTrust Bank and SouthTrust Bank. Numerous mergers and consolidations involving banks in the Bank’s market area have occurred, requiring the Bank to compete with banks with greater resources. Three mergers that have affected the Bank’s market area are the Community First Bank merger with BB&T, which closed in December 2001, the Peoples Bank of West Georgia merger with United Community Bank, which closed in September 2001, and the Hometown Bank of Villa Rica merger with Gainesville Bank & Trust, which closed in November 2002. West Georgia National Bank is now the largest independent bank in Carroll County. McIntosh Commercial Bank commenced operations in the fourth quarter of 2002 and a second de novo bank is in formation in Villa Rica, Georgia.

     The primary factors in competing for deposits are interest rates, personalized services, the quality and range of financial services, convenience of office locations and office hours. Competition for deposits comes primarily from other commercial banks, savings associations, credit unions, money market funds and other investment alternatives. The primary factors in competing for loans are interest rates, loan origination fees, the quality and range of lending services and personalized services. Competition for loans comes primarily from other commercial banks, savings associations, mortgage banking firms, credit unions and other financial intermediaries. Many of the financial institutions operating in the Bank’s market area offer services such as trust, investment and international banking, which the Bank does not offer, and have greater financial resources or have substantially higher lending limits than do the Bank.

     To compete with other financial services providers, the Bank principally relies upon local promotional activities, personal relationships established by officers, directors and employees with its customers, and specialized services tailored to meet its customers’ needs. Management believes that the Bank has an opportunity to establish business ties with customers who have been displaced by the consolidations and desire to forge banking relationships with locally owned and managed institutions.

     The Bank offers many personalized services and attracts customers by being responsive and sensitive to the needs of the community. The Bank relies not only on the goodwill and referrals of satisfied customers, as well as traditional media advertising to attract new customers, but also on individuals who develop new relationships to build the customer base of the Bank. To enhance the Bank’s image in the community, the Bank supports and participates in many events. Employees, officers and directors represent the Bank on many boards and local civic and charitable organizations.

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Employees

     As of December 31, 2002, the Bank had 143 full time equivalent employees none of whom is a party to a collective bargaining agreement. Certain executive officers of the Bank also serve as the officers of the Company (which does not have compensated employees). The Company believes that the Bank enjoys satisfactory relations with its employees.

Supervision and Regulation

     The Company and the Bank are extensively regulated under federal and state law. These laws and regulations generally are intended to protect depositors, not shareholders. The following is a summary description of certain provisions of certain laws which affect the regulation of bank holding companies and banks. To the extent that the following summary describes statutory or regulatory provisions, it is qualified in its entirety by reference to the particular statutory and regulatory provisions. Any change in applicable laws or regulations may have a material effect on the business and prospects of the Company and its bank subsidiary. Beginning with the enactment of the Financial Institutions Reform, Recovery and Enforcement Act of 1989 (“FIRREA”) and following with the Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), numerous additional regulatory requirements have been placed on the banking industry in the past fifteen years, and additional changes have been proposed. The banking industry has also changed significantly as a result of the passage of the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the “Interstate Banking Act”) and the Financial Services Modernization Act of 1999. The Company’s operations may be affected by legislative changes and the policies of various regulatory authorities and the Company is unable to predict the nature or the extent of the effect on its business and earnings that fiscal or monetary policies, economic control or new federal or state legislation may have in the future.

The Company

     The Company is a bank holding company within the meaning of the Bank Holding Company Act of 1956, as amended (the “BHCA”). Under the BHCA, the Company is subject to periodic examination by the Federal Reserve and is required to file periodic reports of its operations and such additional information as the Federal Reserve may require. The Company’s and the Bank’s activities are limited to banking, managing or controlling banks, furnishing services to or performing services for its subsidiaries or engaging in any other activity that the Federal Reserve determines to be so closely related to banking or managing or controlling banks as to be a proper incident thereto.

     Investments, Control and Activities. With certain limited exceptions, the BHCA requires every bank holding company to obtain prior approval of the Federal Reserve:

	•		to acquire the ownership or control of more than 5% of any class of voting stock of any bank not already controlled by it;
	•		for it or any subsidiary (other than a bank) to acquire all or substantially all of the assets of a bank; and
	•		to merge or consolidate with any other bank holding company.

     In addition, and subject to certain exceptions, the BHCA and the Change in Bank Control Act, together with regulations thereunder, require Federal Reserve approval (or, depending on the circumstances, no notice of disapproval) prior to any person or company acquiring “control” of a bank holding company, such as the Company. Control is conclusively presumed to exist if an individual or company acquires 25% or more of any class of voting securities of the bank holding company. Control is rebuttably presumed to exist if a person acquires 10% or more but less than 25% of any class of voting securities and either the Company has registered securities under Section 12 of the Exchange Act or no other person will own a greater percentage of that class of voting securities immediately after the transaction. The regulations provide a procedure for challenge of the rebuttable control presumption.

     The BHCA further provides that the Federal Reserve may not approve any transaction that would result in a monopoly, or the effect of which may be substantially to lessen competition in any section of the country, or that in

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any other manner would be in restraint of trade, unless the transaction’s anticompetitive effects are clearly outweighed by the public interest. The Federal Reserve is also required to consider the financial and managerial resources and future prospects of the bank holding companies and banks concerned and the convenience and needs of the community to be served.

     Bank holding companies generally are also prohibited under the BHCA from engaging in non-banking activities or from acquiring direct or indirect control of any company engaged in non-banking activities. However, the Federal Reserve may permit bank holding companies to engage in certain types of non-banking activities determined by the Federal Reserve to be closely related to banking or managing or controlling banks. Activities determined by the Federal Reserve to fall under this category include:

	•		making or servicing loans and certain leases;
	•		providing certain data processing services;
	•		acting as a fiduciary or investment or financial advisor;
	•		providing discount brokerage services;
	•		underwriting bank eligible securities; and
	•		making investments designed to promote community welfare.

     Subsidiary banks of a bank holding company are subject to certain restrictions on extensions of credit to the bank holding company or its subsidiaries, on investments in their securities and on the use of their securities as collateral for loans to any borrower. These regulations and restrictions may limit the Company’s ability to obtain funds from the Bank for its cash needs, including funds for the payment of dividends, interest and operating expenses. Further, federal law prohibits a bank holding company and its subsidiaries from engaging in certain tie-in arrangements in connection with any extension of credit, lease or sale of property, or the furnishing of services. For example, the Bank may not generally require a customer to obtain other services from it or the Company, and may not require that a customer promise not to obtain other services from a competitor as a condition to an extension of credit to the customer.

     Financial Services Modernization Act. On November 12, 1999, the President signed into law the Gramm-Leach-Bliley Act of 1999, known as the Financial Services Modernization Act of 1999, which repeals many of the restrictions on the activities of banks and bank holding companies. The law establishes two new structures — “financial holding companies” and “financial subsidiaries” - that enable qualifying bank holding companies and banks to provide a wide variety of financial services that formerly could be performed only by insurance companies and securities firms. The law also permits bank affiliations with insurance and securities firms. At this time, the Company does not intend to seek qualification to enter into these additional financial services areas.

     Source of Strength; Cross-Guarantee. Under Federal Reserve policy, a bank holding company is expected to act as a source of financial strength to its bank subsidiaries and to commit resources to support these subsidiaries. This support may be required at times when, absent such policy, the bank holding company might not otherwise provide such support. Under these provisions, a bank holding company may be required to loan money to its subsidiary banks in the form of capital notes or other instruments which qualify for capital under regulatory rules. Under the BHCA, the Federal Reserve may require a bank holding company to terminate any activity or relinquish control of a nonbank subsidiary (other than a nonbank subsidiary of a bank) upon the Federal Reserve’s determination that such activity or control constitutes a serious risk to the financial soundness or stability of any subsidiary depository institution of the bank holding company. Further, federal bank regulatory authorities have additional discretion to require a bank holding company to divest itself of any bank or nonbank subsidiary if the agency determines that divestiture may aid the depository institution’s financial condition. The Bank may be required to indemnify, or cross-guarantee, the FDIC against losses it incurs with respect to any other bank controlled by the Company, which in effect makes the Company’s equity investments in healthy bank subsidiaries available to the FDIC to assist any failing or failed bank subsidiary of the Company.

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     State Regulation. Activities of the Company are subject to certain provisions of The Financial Institutions Code of Georgia and regulations issued pursuant to such code. These provisions are administered by The Georgia Department of Banking & Finance, which has concurrent jurisdiction with the Federal Reserve over the activities of the Company. The laws and regulations administered by The Georgia Department of Banking & Finance are generally consistent with, or supplemental to, those federal laws and regulations discussed herein.

The Bank

     As a national bank, the Bank is subject to the supervision and examination by the Office of the Comptroller of the Currency (the “OCC”). Deposits in the Bank are insured by the FDIC up to a maximum amount of $100,000 per depositor, subject to aggregation rules. The OCC and the FDIC regulate or monitor all areas of the Bank’s commercial banking operations, including security devices and procedures, adequacy of capitalization and loan loss reserves, loans, investments, borrowings, deposits, mergers, consolidations, reorganizations, issuance of securities, payment of dividends, interest rates, establishment of branches, and other aspects of its operations. The OCC requires the Bank to maintain certain capital ratios and imposes limitations on the Bank’s aggregate investment in real estate, bank premises and furniture and fixtures. The Bank is currently required by the OCC to prepare quarterly reports on the Bank’s financial condition and to conduct an annual audit of its financial affairs in compliance with minimum standards and procedures prescribed by the OCC.

     Under FDICIA, all insured institutions must undergo periodic on-site examination by their appropriate banking agency. The cost of examinations of insured depository institutions and any affiliates may be assessed by the appropriate agency against each institution or affiliate as it deems necessary or appropriate. Insured institutions are required to submit annual reports to the FDIC and the appropriate agency (and state supervisor when applicable). FDICIA also directs the FDIC to develop with other appropriate agencies a method for insured depository institutions to provide supplemental disclosure of the estimated fair market value of assets and liabilities, to the extent feasible and practicable, in any balance sheet, financial statement, report of condition or other report of any insured depository institution. FDICIA also requires the federal banking regulatory agencies to prescribe, by regulation, standards for all insured depository institutions and depository institution holding companies relating, among other things, to: (i) internal controls, information systems and audit systems; (ii) loan documentation; (iii) credit underwriting; (iv) interest rate risk exposure; and (v) asset quality.

     Community Reinvestment Act. The Community Reinvestment Act requires that, in connection with examinations of financial institutions within their respective jurisdictions, the Federal Reserve, the FDIC or any other appropriate federal agency, shall evaluate the record of each financial institution in meeting the credit needs of its local community, including low and moderate income neighborhoods. These factors are also considered in evaluating mergers, acquisitions and applications to open a branch or facility. Failure to adequately meet these criteria could pose additional requirements and limitations on the bank. The Bank was examined for CRA compliance in March 1997 and received a CRA rating of “outstanding.”

     Other Regulations. Interest and certain other charges collected or contracted for by the Bank are subject to Georgia usury laws and certain federal laws concerning interest rates. The Bank’s loan operations are also subject to certain federal laws applicable to credit transactions, such as the federal Truth-In-Lending Act governing disclosures of credit terms to consumer borrowers, the Home Mortgage Disclosure Act of 1975 requiring financial institutions to provide information to enable the public and public officials to determine whether a financial institution is fulfilling its obligation to help meet the housing needs of the community it serves, the Equal Credit Opportunity Act prohibiting discrimination on the basis of race, creed or other prohibited factors in extending credit, the Fair Credit Reporting Act of 1978 governing the use and provision of information to credit reporting agencies, the Fair Debt Collection Act governing the manner in which consumer debts may be collected by collection agencies, and the rules and regulations of the various federal agencies charged with the responsibility of implementing such federal laws. The deposit operations of the Bank also are subject to the Right to Financial Privacy Act, which imposes a duty to maintain confidentiality of consumer financial records and prescribes procedures for complying with administrative subpoenas of financial records, and the Electronic Funds Transfer Act and Regulation E issued by the Federal Reserve to implement that act, which governs automatic deposits to and withdrawals from deposit accounts and customers’ rights and liabilities arising from the use of automated teller machines and other electronic banking services. The Bank’s commercial transactions are also subject to the provisions of Georgia law governing such

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transactions as they appear in non-banking commercial activities. These laws include the Uniform Commercial Code and other provisions of The Georgia Code Annotated.

Deposit Insurance

     The deposits of the Bank are currently insured to a maximum of $100,000 per depositor, subject to aggregation rules. The FDIC establishes rates for the payment of premiums by federally insured banks and thrifts for deposit insurance. Since 1993, insured depository institutions like the Bank have paid for deposit insurance under a risk-based premium system. Insurance of deposits may be terminated by the FDIC upon a finding that the institution has engaged in unsafe and unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, rule, order, or condition imposed by the FDIC. Due to its severe consequences, the FDIC historically uses insurance termination as an enforcement action of last resort and the termination process itself involves substantial notice, a formal adjudicative hearing and federal appellate review. In instances where insurance deposit is terminated, the financial institution is required to notify its depositors and insured funds on the date of termination continue to be insured for at least six months and up to two years, at the discretion of the FDIC. After the date of termination, no new deposits accepted by the financial institution will be federally insured.

Dividends

     The Company is a legal entity separate and distinct from the Bank. The principal source of cash flow for the Company is dividends from the Bank. The amount of dividends that may be paid by the Bank to the Company depends on the Bank’s earnings and capital position and is limited by various statutory and regulatory limitations. In addition, the Federal Reserve has stated that bank holding companies should refrain from or limit dividend increases or reduce or eliminate dividends under circumstances in which the bank holding company fails to meet minimum capital requirements or in which its earnings are impaired.

     As a national bank, the Bank may not pay dividends from its paid-in-capital. All dividends must be paid out of retained earnings, after deducting expenses, including reserves for losses and bad debts. In addition, a national bank is prohibited from declaring a dividend on its shares of common stock until its surplus equals its stated capital, unless there has been transferred to surplus no less than one-tenth of the bank’s net profits of the preceding two consecutive half-year periods (in the case of an annual dividend). The approval of the OCC is required if the total of all dividends declared by a national bank in any calendar year exceeds the total of its net profits for that year combined with its retained net profits for the preceding two years, less any required transfers to surplus. Under FDICIA, the Bank may not pay a dividend if, after paying the dividend, the Bank would be undercapitalized. See Capital Adequacy.

     As discussed below, additional capital requirements imposed by the OCC may limit the Bank’s ability to pay dividends to the Company. The Bank declared dividends in the amount of $1,946,775 to the Company during 2002. Under the OCC guidelines, as of December 31, 2002, the Bank was permitted to pay the Company dividends of up to $6,682,000 in addition to current earnings without obtaining prior regulatory approval.

     In addition to the availability of funds from the Bank, the future dividend policy of the Company is subject to the discretion of the Board of Directors and will depend upon a number of factors, including future earnings, financial condition, cash needs and general business conditions. If dividends should be declared in the future, the amount of such dividends presently cannot be estimated and it cannot be known whether such dividends would continue for future periods.

Capital Adequacy

     Federal bank regulatory authorities have adopted risk-based capital guidelines for banks and bank holding companies that are designed to:

•

make regulatory capital requirements more sensitive to differences in risk profiles among banks and bank holding companies;

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	•		account for off-balance sheet exposure; and
	•		minimize disincentives for holding liquid assets.

     The resulting capital ratios represent qualifying capital as a percentage of total risk-weighted assets and off-balance sheet items. The guidelines are minimums, and the federal regulators have noted that banks and bank holding companies contemplating significant expansion programs should not allow expansion to diminish their capital ratios and should maintain ratios well in excess of the minimums.

     The current guidelines require all bank holding companies and federally-regulated banks to maintain a minimum risk-based Total Capital ratio equal to 8%, of which at least 4% must be Tier 1 capital. The degree of regulatory scrutiny of a financial institution will increase, and the permissible activities of the institution will decrease, as it moves downward through the capital categories. Bank holding companies controlling financial institutions can be called upon to boost the institution’s capital and to partially guarantee the institution’s performance under their capital restoration plans. Tier 1 capital includes shareholders’ equity, qualifying perpetual preferred stock and minority interests in equity accounts of consolidated subsidiaries, but excludes goodwill and most other intangible assets and excludes the allowance for loan and lease losses. Tier 2 capital includes the excess of any preferred stock not included in Tier 1 capital, mandatory convertible securities, hybrid capital instruments, subordinated debt and intermediate-term preferred stock and general reserves for loan and lease losses up to 1.25% of risk-weighted assets.

     Under the guidelines, banks’ and bank holding companies’ assets are given risk-weights of 0%, 20%, 50% and 100%. In addition, certain off-balance sheet items are given credit conversion factors to convert them to asset equivalent amounts to which an appropriate risk-weight will apply. These computations result in the total risk-weighted assets. Most loans are assigned to the 100% risk category, except for first mortgage loans fully secured by residential property and, under certain circumstances, residential construction loans, both of which carry a 50% rating. Most investment securities are assigned to the 20% category, except for municipal or state revenue bonds, which have a 50% rating, and direct obligations of or obligations guaranteed by the United States Treasury or United States Government agencies, which have a 0% rating.

     Failure to meet capital guidelines could subject a bank to a variety of enforcement remedies, including the termination of deposit insurance by the FDIC, and to certain restrictions on its business.

     The Federal Reserve also has implemented a leverage ratio, which is Tier 1 capital as a percentage of average total assets less intangible assets, to be used as a supplement to the risk-based guidelines. The principal objective of the leverage ratio is to place a constraint on the maximum degree to which a bank holding company may leverage its equity capital base. The Federal Reserve has established a minimum 3% leverage ratio of Tier 1 capital to total assets for the most highly rated bank holding companies and insured banks. All other bank holding companies and insured banks will be required to maintain a leverage ratio of 3% plus an additional cushion of at least 100 to 200 basis points. The tangible Tier 1 Leverage ratio is the ratio of a banking organization’s Tier 1 capital, less all intangibles, to total assets, less all intangibles.

     FDICIA established a capital-based regulatory plan designed to promote early intervention for troubled banks and requires the FDIC to choose the least expensive resolution of bank failures. The capital-based regulatory framework contains five categories of compliance with regulatory capital requirements, including well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. To qualify as a well capitalized institution, a bank must have a leverage ratio of no less than 5%, a Tier 1 risk-based ratio of no less than 6%, and a total risk-based capital ratio of no less than 10%. The bank must also not be under any order or directive from the appropriate regulatory agency to meet and maintain a specific capital level.

     Under FDICIA, regulators must take prompt corrective action against depository institutions that do not meet minimum capital requirements. FDICIA and the related regulations establish five capital categories as shown in the following table:

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     A depository institution may be deemed to be in a capitalization category that is lower than is indicated by its actual capital position if it receives a less than satisfactory examination rating in any one of four categories. As a depository institution moves downward through the capitalization categories, the degree of regulatory scrutiny will increase and the permitted activities of the institution will decrease. Action may be taken by a depository institution’s primary federal regulator against an institution that falls into one of the three undercapitalized categories, including the requirement of filing a capital plan with the institution’s primary federal regulator, prohibition on the payment of dividends and management fees, restrictions on executive compensation, and increased supervisory monitoring. Other restrictions may be imposed on the institution either by its primary federal regulator or by the FDIC, including requirements to raise additional capital, sell assets, or sell the institution.

     As of the date of this Report, the Company and the Bank are both considered to be well capitalized according to their regulatory capital requirements. See Footnote 9 of the Notes to Financial Statements for additional details.

Interstate Banking and Branching Restrictions

     Pursuant to the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the “Riegle-Neal Act”), effective September 29, 1995, an adequately capitalized and adequately managed bank holding company may acquire a bank across state lines, without regard to whether such acquisition is permissible under state law. A bank holding company is considered to be “adequately capitalized” if it meets all applicable federal regulatory capital standards.

     While the Riegle-Neal Act precludes a state from entirely insulating its banks from acquisition by an out-of-state holding company, a state may still provide that a bank may not be acquired by an out-of-state company unless the bank has been in existence for a specified number of years, not to exceed five years. Additionally, the Federal Reserve may not approve an interstate acquisition which would result in the acquirer’s controlling more than 10% of the total amount of deposits of insured depository institutions in the United States with 30% or more of the deposits in the home state of the target bank. A state may waive the 30% limit based on criteria that does not discriminate against out-of-state institutions. The limitations do not apply to the initial entry into a state by a bank holding company unless the state has a deposit concentration cap that applies on a nondiscriminatory basis to in-state or out-of-state bank holding companies making an initial acquisition.

     The Riegle-Neal Act also provides that, beginning on June 1, 1997, banks with different home states may merge, unless a particular state opts out of the statute. Consistent with the Riegle-Neal Act, Georgia adopted legislation in 1996 which has permitted interstate bank mergers since June 1, 1997.

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     In addition, beginning June 1, 1997, the Riegle-Neal Act has permitted national and state banks to establish de novo branches in another state if there is a law in that state which applies equally to all banks and expressly permits all out-of-state banks to establish de novo branches. However, in 1996, Georgia adopted legislation which opts out of this provision. The Georgia legislation provides that, with the prior approval of the Georgia Department of Banking and Finance, after July 1, 1996, a bank may establish three new or additional de novo branch banks anywhere in Georgia and, beginning July 1, 1998, a bank may establish new or additional branch banks anywhere in the state with prior regulatory approval.

Privacy

     Financial institutions are required to disclose their policies for collecting and protecting confidential information. Customers generally may prevent financial institutions from sharing nonpublic personal financial information with nonaffiliated third parties except under narrow circumstances, such as the processing of transactions requested by the consumer. Additionally, financial institutions generally may not disclose consumer account numbers to any nonaffiliated third party for use in telemarketing, direct mail marketing or other marketing to consumers.

Anti-Terrorism Legislation

     In the wake of the tragic events of September 11th, on October 26, 2001, the President signed the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism (USA PATRIOT) Act of 2001. Under the USA PATRIOT Act, financial institutions are subject to prohibitions against specified financial transactions and account relationships as well as enhanced due diligence and “know your customer” standards in their dealings with foreign financial institutions and foreign customers. For example, the enhanced due diligence policies, procedures, and controls generally require financial institutions to take reasonable steps-

	•		to conduct enhanced scrutiny of account relationships to guard against money laundering and report any suspicious transaction;
	•		to ascertain the identity of the nominal and beneficial owners of, and the source of funds deposited into, each account as needed to guard against money laundering and report any suspicious transactions;
	•		to ascertain for any foreign bank, the shares of which are not publicly traded, the identity of the owners of the foreign bank, and the nature and extent of the ownership interest of each such owner; and
	•		to ascertain whether any foreign bank provides correspondent accounts to other foreign banks and, if so, the identity of those foreign banks and related due diligence information.

     Under the USA PATRIOT Act, financial institutions are required to establish anti-money laundering programs. The USA PATRIOT Act sets forth minimum standards for these programs, including:

	•		the development of internal policies, procedures, and controls;
	•		the designation of a compliance officer;
	•		an ongoing employee training program; and
	•		an independent audit function to test the programs.

     In addition, the USA PATRIOT Act authorizes the Secretary of the Treasury to adopt rules increasing the cooperation and information sharing between financial institutions, regulators, and law enforcement authorities

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regarding individuals, entities and organizations engaged in, or reasonably suspected based on credible evidence of engaging in, terrorist acts or money laundering activities. Any financial institution complying with these rules will not be deemed to have violated the privacy provisions of the Gramm-Leach-Bliley Act, as discussed above.

Proposed Legislation and Regulatory Action

     New regulations and statutes are regularly proposed that contain wide-ranging proposals for altering the structures, regulations and competitive relationships of the nation’s financial institutions operating in the United States. The Company cannot predict whether or in what form any proposed regulation or statute will be adopted or the extent to which its business may be affected by any new regulation or statute.

Effect of Governmental Monetary Polices

     The earnings of the Company are affected by domestic economic conditions and the monetary and fiscal policies of the United States government and its agencies. The Federal Reserve’s monetary policies have had, and are likely to continue to have, an important impact on the operating results of commercial banks through its power to implement national monetary policy in order to curb inflation or combat a recession. The monetary policies of the Federal Reserve have major effects upon the levels of bank loans, investments and deposits through its open market operations in United States government securities and through its regulation of the discount rate on borrowings of member banks and the reserve requirements against member bank deposits. It is not possible to predict the nature or impact of future changes in monetary and fiscal policies.

Item 2. Properties

     The Company and the Bank’s main office is located at 201 Maple Street in Carrollton, Georgia near the city’s downtown square at the intersection of Georgia Highway 16 and U.S. Highway 27. The Bank has two other locations within the city limits of Carrollton. The First Tuesday Mall office is located at 1004 Bankhead Highway and the Motor office is located at 314 Newnan Street. In addition, the Bank has two other locations in Carroll County, one located at 725 Bankhead Highway, Villa Rica, Georgia and another located at 205 East College Street, Bowdon, Georgia. All locations are typical of branch banking facilities located throughout the United States and all locations, except the Motor office, are full service locations. The Motor office provides primarily teller and ATM transactions and does not originate loans. As to its Douglas County locations, the Bank opened its Mirror Lake office in September 2000. This office is currently a modular branch which will serve as a temporary site until a permanent structure is built. The Bank owns a 1.5 acre parcel in the Mirror Lake area on which it plans to construct its permanent facility. A second branch in Douglas County at 9557 Georgia Highway 5 in Douglasville opened in June 2001.

     The Bank’s main office, operations center and related parking are located on approximately 2.5 acres. The main office is a two-story building with a total of approximately 19,100 square feet housing its lobby, retail offices, administrative and executive offices. The operations center is a two-story building with a total of approximately 12,200 square feet housing a computer room, administrative offices and storage facilities. The branch offices (with the exception of the Motor office and the Mirror Lake office which are approximately 700 and 1200 square feet, respectively) are typical of other banking facilities and are approximately 5,000 square feet in size. Each branch location has an ATM machine that is either walk-up or drive-up. The Motor office, Mirror Lake, and Douglasville offices are leased facilities. All of the other office facilities are owned. The Bank also operates six additional ATM machines on leased properties located throughout the Carrollton and Villa Rica area.

Item 3. Legal Proceedings

     While the Company and its subsidiaries are from time to time party to various legal proceedings arising from the ordinary course of business, management believes that there are no proceedings of material risk threatened or pending.

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

     No matters were submitted to a vote of shareholders of the Company during the fourth quarter of the fiscal year covered by this Report.

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PART II

Item 5. Market for the Common Equity and Related Shareholder Matters

Market Information

     The Company’s Common Stock is traded on the NASDAQ SmallCap Market System under trading symbol “WGNB”. Approximately 800 shareholders of record held the Common Stock as of March 7, 2003. Set forth below are the high and low bid prices for each full quarterly period during 2001 and 2002 and the dividends declared and paid per share of Common Stock for those periods.

Price Range Per Share

Dividends

     The declaration of future dividends is within the discretion of the Board of Directors and will depend, among other things, upon business conditions, earnings, the financial condition of the Bank and the Company, and regulatory requirements. See “Supervision and Regulation — Dividends.”

Recent Sales of Unregistered Securities

     The Company issued the following securities during the year ended December 31, 2002 without registering the securities under the Securities Act:

     Directors may elect to receive compensation for their services to the Company and the Bank in shares of Common Stock or cash. During 2002, certain directors of the Bank received 1,211 shares in payment of deferred director compensation for an aggregate consideration owed to them by the Bank of $29,366. The sale of the shares was exempt from registration under the Securities Act, pursuant to Section 4(2) thereof, as a transaction not involving a public offering.

     Options to purchase 17,272 shares of Common Stock were granted in 2002 to seven individuals pursuant to the Company’s Incentive Stock Option Plan having a weighted average exercise price of $24.00. These options may be exercised anytime beginning five years from the date of grant and ending ten years from the date of grant at which point they expire. A total of 7,512 options were exercised in 2002 at a weighted average exercise price of $8.69. In addition, an individual took early retirement and forfeited 5,681 shares back into the plan. The Company believes that the grant of options and the exercise thereof was exempt from registration under Section 4(2) of the Securities Act.

Uses of Proceeds from Registered Securities

     The Company has previously reported the completion of a registered public offering pursuant to which it sold 200,000 shares of its Common Stock at a purchase price of $24.00 per share. The net proceeds from the

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offering (which was completed in April 2002) of $4,766,454 have not yet been used by the Company but continue to remain invested in a corporate bond and federal funds.

Item 6. Selected Financial Data

     The selected consolidated financial data of the Company for and as of the end of each of the periods indicated in the five-year period ended December 31, 2002 have been derived from the audited consolidated financial statements of the Company. The selected consolidated financial data should be read in conjunction with the consolidated financial statements of the Company, including the notes to those consolidated financial statements contained elsewhere in this report.

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

     The purpose of the following discussion is to address information relating to the financial condition and results of operations of the Company that may not be readily apparent from a review of the consolidated financial statements and notes thereto, which begin on page F-1 of this Report. This discussion should be read in conjunction with information provided in the Company’s consolidated financial statements and accompanying footnotes.

EARNINGS OVERVIEW

For the Years Ended December 31, 2002, 2001 and 2000

     The Company reported net earnings of $5.5 million in 2002, $4.8 million in 2001 and $4.4 million in 2000, representing an increase of 15.8% between fiscal years 2001 and 2002 and an increase of 8.7% between fiscal years 2000 and 2001. The increases over the three fiscal years are primarily attributable to the Bank’s continued loan growth, higher non-interest income and lower increases in non-interest expense. Net earnings per share on a fully diluted basis was $1.69 for 2002, $1.52 for 2001 and $1.41 for 2000, representing an increase of 11.2% between fiscal years 2001 and 2002 and 7.8% between fiscal years 2000 and 2001. The net earnings per share for 2002 was affected by the previously described Common Stock offering completed in April 2002 which increased the number of shares outstanding. Return on average assets and return on average shareholders’ equity for 2002 was 1.55% and 15.56%, respectively, compared with 1.47% and 17.11%, respectively, for 2001, and 1.59% and 18.58%, respectively, for 2000. The reduction of return on average equity was primarily due to a large increase in equity in 2002. The increase was comprised of the Common Stock offering ($4.8 million), an increase in retained earnings ($3.5 million) and an increase in other comprehensive income ($922 thousand). These items had the effect of increasing the average balance of shareholders’ equity by $7.7 million over 2001.

Net Interest Income

     The Company’s operational results primarily depend on the earnings of the Bank. The Bank’s earnings depend, to a large degree, on net interest income. Net interest income is defined as the difference between the interest income received from its investments (such as loans, investment securities, federal funds sold, etc.) and the interest expense on deposits and other borrowings. The following discussion and analysis of net interest margin assumes and is stated on a tax equivalent basis. That is, non-taxable interest is restated at its taxable equivalent rate.

     The banking industry uses two key ratios to measure the relative profitability of net interest income. The net interest rate spread measures the difference between the average yield on interest earning assets and the average rate paid on interest bearing liabilities. The interest rate spread eliminates the impact of non-interest bearing deposits and gives a direct perspective on the effect of market interest rate movements. The other commonly used measure is net interest margin. The net interest margin is defined as net interest income as a percent of average total interest earning assets and takes into account the positive impact of investing non-interest-bearing deposits.

     Net interest income increased by $1.1 million (7.6%) in 2002 from 2001, and by $787 thousand (or 5.7%) in 2001 from 2000. Net interest income at December 31, 2002, was $15.6 million compared to $14.5 million in 2001 and $13.7 million in 2000. The net interest margin on interest earning assets was 4.76% in 2002, 4.84% in 2001 and 5.44% in 2000. Beginning in early 2001 through the end of 2002, short term interest rates have dropped 525 basis points. Comparing the interest margin in 2002 to that in 2001, the Bank’s interest margin has declined by 8 basis points. Measuring from its three year high in 2000, the Bank’s interest margin has decreased 68 basis points. The Bank entered into an interest rate swap in December 2001 that benefited its interest margin for 2002. During 2002, the Bank recorded a net benefit which reduced interest expense by $168 thousand. In addition, management’s interest rate risk strategies helped to mitigate the effects of rapidly declining interest rates. During 2002, the Bank’s cost of funds was reduced by 147 basis points while the yield on earning assets declined 139 basis points resulting in the net interest spread widening in 2002 by 8 basis points. The asset repricing point has “caught up” with the immediate repricing of the interest-bearing transaction account liabilities.

     The decrease in the net interest margin between 2000 and 2001 is primarily due to the rapid decline in the prime and discount rates during 2001 as assets repriced more quickly than funding sources. Those benchmark rates declined 475 basis points in ten months. The Bank’s balance sheet has traditionally been slightly liability sensitive.

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That is, its liabilities re-price faster than its assets because of its high percentage of transaction accounts. Therefore, in a rising rate environment the Bank’s interest margin tends to narrow whereas in a falling rate environment the Bank’s interest margin tends to widen. However, when rates fall rapidly and drastically, the Bank’s cost of funds hit an economic floor. For instance, if the Bank was paying 2.5% on a NOW checking account, 3.0% on a savings account and 3.5% on a money market account and market rates decrease 475 basis points, the NOW, savings and money market rate can only fall a fraction of that amount due to competitive issues. Additionally, time deposits which have a fixed maturity are unable to decline as quickly as transaction accounts.

     The net result is that the Bank’s interest margin narrows since the yield on earning assets has further to fall than the cost of funds. The Bank’s management, through its asset liability management process, attempts to manage its interest sensitivity position. However, no balance sheet management technique can completely shield the Bank’s margin from the precipitous interest rate movement experienced in 2001 and 2002.

     The cost of interest-bearing liabilities was 3.12% for 2002, 4.59% for 2001 and 4.80% for 2000, representing a decrease of 147 basis points between fiscal 2001 and 2002 and an decrease of 21 basis points between fiscal 2000 and 2001. If one considers the yield on interest-bearing assets of 7.35% for 2002, 8.74% for 2001 and 9.42% for 2000, the impact of decreasing rates on asset yields was more pronounced in 2002 than in 2001, but the cost of funds decline in the same period was greater. Yields between 2001 and 2002 decreased 139 basis points as opposed to an increase of 68 basis points between 1999 and 2000. Comparing net interest margins of 4.76% for 2002, 4.84% for 2001 and 5.44%, one can clearly identify the impact on net interest margin as rates declined 475 basis points over the last ten months of 2001 and another 50 basis points in 2002. Prolonged low rates will have the impact of lowering the Company’s net interest margin.

     The following table shows, for the past three years, the relationship between interest income and interest expense and the average daily balances of interest-earning assets and interest-bearing liabilities on a tax equivalent basis assuming a rate of 34%:

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Table 1

Average Consolidated Balance Sheets and Net Interest Analysis