WILSHIRE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES

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

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

        Wilshire Financial Services Group Inc., a financial services company, conducts (1) community banking operations (referred to herein as our “Banking Operations”) through our wholly-owned subsidiary, First Bank of Beverly Hills, F.S.B. (“FBBH” or the “Bank”); and (2) specialized mortgage loan servicing and investment operations through our subsidiaries, Wilshire Credit Corporation (“WCC”) and Wilshire Funding Corporation (“WFC”). Together, WCC and WFC are referred to as our “Specialty Servicing and Finance Operations.” WFSG’s administrative, investment and loan servicing headquarters are located in Portland, Oregon. The Bank is headquartered in Calabasas, California and conducts its branch banking activities in Beverly Hills, California.

RESULTS OF OPERATIONS--QUARTER AND SIX MONTHS ENDED JUNE 30, 2002 COMPARED TO QUARTER AND SIX MONTHS ENDED JUNE 30, 2001

        Our consolidated net income was approximately $0.3 million, or $0.02 per basic share, for the quarter ended June 30, 2002, compared with $2.5 million, or $0.13 per basic share, for the quarter ended June 30, 2001. The decrease was primarily due to net gains of $4.7 million in the 2001 period on FBBH’s June 2001 sales of its Bankcard processing and Mortgage Banking divisions. Excluding the effects of this one-time gain and the operations of these divisions prior to their sale, our pre-tax income from recurring operations increased by approximately $1.3 million from the quarter ended June 30, 2001 to the quarter ended June 30, 2002. This improvement in core earnings for the second quarter of 2002 reflects a $2.0 million increase in servicing income and an increase in gains on loan sales over the second quarter of 2001. However, the declining interest-rate environment has continued to have a negative impact on our operations, resulting in a $1.4 million impairment loss on certain investment securities in our Banking segment (although the overall investment securities portfolio has shown unrealized holding gains, which are reflected as a direct increase to stockholders’ equity). In addition, the decline in rates has impeded the growth in net servicing income in our Specialty Servicing and Finance Operations due to rapid borrower prepayments on the underlying loans in the servicing portfolio.

        For the six months ended June 30, 2002, we incurred a net loss of approximately $0.4 million, or $0.03 per basic share, compared with net income of approximately $3.0 million, or $0.15 per basic share, for the six months ended June 30, 2001. Our loss for the first six months of 2002 resulted from $3.6 million in estimated charges and approximately $0.6 million in legal fees incurred in the first quarter relating to the settlement of litigation arising from events prior to our June 1999 restructuring, and approximately $0.2 million in legal fees which were advanced to some of the Company’s former executives for their defense costs related to such litigation. In addition, the Company recorded $0.55 million in estimated legal fees and expenses associated with finalizing and implementing this settlement, net of reimbursements from insurance. The Company believes that this settlement agreement resolves all of the outstanding issues pertaining to this litigation, and that any ongoing expenses associated with the settlement and its implementation will not have a material impact on WFSG’s financial condition or results of operations. However, the Company does expect to incur additional expenses in connection with legal costs for prior officers arising from the events that gave rise to the litigation. Excluding the effects of this litigation and the one-time net gain on the June 2001 sales of the Bankcard processing and Mortgage Banking divisions (and the operating results of these divisions prior to their sale), our pre-tax operating income from recurring items was approximately $3.4 million for the six months ended June 30, 2002, compared with a loss of $0.1 million for the six months ended June 30, 2001. This increase in our core operating results was primarily due to an increase in servicing income of approximately $3.8 million, in addition to increases in loan sales and net interest income, partially offset by the $1.4 million impairment loss discussed above.

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        Following is a discussion of the operating results of the Company's two business segments: our Banking Operations and our Specialty Servicing and Finance Operations.

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

        The following table compares operating income before taxes for FBBH for the quarters and six-month periods ended June 30, 2002 and 2001 (dollars in thousands):

                                            Quarter Ended June 30,                Six Months Ended June 30,
                                     ------------------------------------   ------------------------------------
                                                                Increase                               Increase
                                        2002         2001      (Decrease)      2002         2001      (Decrease)
                                     ----------   ----------   ----------   ----------   ----------   ----------
Interest income ...................  $   11,135   $   13,673   $   (2,538)  $   23,086   $   27,207   $   (4,121)
Interest expense ..................       6,770        9,474       (2,704)      13,996       18,123       (4,127)
                                     ----------   ----------   ----------   ----------   ----------   ----------
Net interest income ...............       4,365        4,199          166        9,090        9,084            6
Provision for loan losses .........          --          150         (150)          --          300         (300)
                                     ----------   ----------   ----------   ----------   ----------   ----------
Net interest income after
  provision for loan losses .......       4,365        4,049          316        9,090        8,784          306
Other (loss) income ...............      (1,404)       6,666       (8,070)      (1,229)       8,230       (9,459)
Other expense .....................       2,320        5,255       (2,935)       4,580       11,115       (6,535)
                                     ----------   ----------   ----------   ----------   ----------   ----------
Income before taxes ...............  $      641   $    5,460   $   (4,819)  $    3,281   $    5,899   $   (2,618)
                                     ==========   ==========   ==========   ==========   ==========   ==========

Net Interest Income
        The Bank’s net interest income was approximately $4.4 million for the quarter ended June 30, 2002, compared with $4.2 million for the quarter ended June 30, 2001. For the six months ended June 30, 2002, the Bank’s net interest income was approximately $9.1 million, compared with a similar result for the six months ended June 30, 2001.

        The Bank’s net interest spread and interest margin did not change significantly for the periods, as the decline in rates impacted its interest-earning assets to a roughly similar extent as its interest-bearing liabilities. The Bank’s net interest spread increased from 1.89% for the quarter ended June 30, 2001 to 1.97% for the quarter ended June 30, 2002, and the interest margin increased from 2.39% to 2.45% for the same periods. For the six-month periods ended June 30, 2001 and 2002, interest spread decreased from 2.17% to 2.05%, respectively, and interest margin decreased from 2.74% to 2.55% for the same periods.

        The Bank’s interest income on loans decreased by $3.7 million from the second quarter of 2001 to the second quarter of 2002 and by $6.8 million from the six months ended June 30, 2001 to the six months ended June 30, 2002, as the drop in interest rates triggered both an acceleration of prepayments on FBBH’s fixed-rate loans and repricing of its variable-rate loans. Consequently, the average loan balance declined by $81.9 million from the six months ended June 30, 2001 to the six months ended June 30, 2002, and the yield decreased by 132 basis points, from 8.54% to 7.22%, for the same periods.

        Interest income on investment securities increased by $1.7 million and $3.2 million, respectively, from the quarter and six months ended June 30, 2001 to the corresponding 2002 periods, primarily as a result of purchases of $146 million in federal agency and AAA-rated mortgage-backed securities during the first six months of 2002. However, the Bank’s yield on these investments decreased by 265 basis points from the second quarter of 2001 to the second quarter of 2002 and by 220 basis points from the first six months of 2001 to the first six months of 2002, partially offsetting the higher asset volume. The Bank incurred net interest expense of $0.2 million on two interest-only federal agency mortgage-backed securities due to accelerated amortization resulting from prepayments. (The Bank also recorded a $1.4 million impairment loss on these securities, which is reflected as “Market valuation losses and impairments” in the accompanying consolidated statements of operations.) However, the Bank’s overall securities portfolio has shown unrealized holding gains, which are reflected as a direct increase to stockholders’ equity.

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        FBBH’s interest expense on deposits decreased by $3.1 million and $5.0 million, respectively, from the quarter and six months ended June 30, 2001 to the quarter and six months ended June 30, 2002. These decreases were a result of declines in both the average balance and average rates paid. The Bank raised significant amounts of certificates of deposit throughout 2001 to fund certain loan acquisitions in the prior year but has since permitted the run-off of the higher-rate CDs to reduce its overall cost of funds. As a result, the average balance of deposits decreased by $90.5 million from the second quarter of 2001 to the second quarter of 2002, and by $42.9 million from the first six months of 2001 to the corresponding 2002 period. In addition, the average rate paid on deposits declined by 180 basis points (from 5.60% to 3.80%) from the second quarter of 2001 to the second quarter of 2002, and by 179 basis points (from 5.75% to 3.96%) from the first six months of 2001 to the first six months of 2002.

        The Bank’s interest expense on borrowings increased by approximately $0.4 million and $0.9 million, respectively, from the quarter and six months ended June 30, 2001 to the quarter and six months ended June 30, 2002. This increase was due to a $81.5 million increase in the total average balance of borrowings for the quarterly periods and $78.3 million increase for the six-month periods. The proceeds from these borrowings were used primarily to fund the purchases of mortgage-backed and other securities described above and, to a lesser extent, to replace matured certificates of deposit. This increase in the volume of borrowings was partially offset by a decrease in the weighted-average rate paid from 6.42% for the second quarter of 2001 to 4.89% for the second quarter of 2002, and from 6.42% for the first six months of 2001 to 4.80% for the first six months of 2002. The decrease in market interest rates primarily affected the cost of the Bank’s short-term repurchase agreements only; substantially all of the Bank’s FHLB Advances had fixed rates of interest and thus were unaffected by rate changes.

Provision for Loan Losses
        Based on its quarterly evaluation of the adequacy of its loan loss reserves, the Bank did not record a provision for loan losses for the quarter or six months ended June 30, 2002. The provisions for loan losses for the quarter and six months ended June 30, 2001 were $0.15 million and $0.3 million, respectively.

Other (Loss) Income
        The Bank’s other loss was approximately $1.4 million for the quarter ended June 30, 2002, compared with other income of $6.7 million for the quarter ended June 30, 2001. For the six months ended June 30, 2002, the Bank’s other loss was approximately $1.2 million, compared with other income of $8.2 million for the six months ended June 30, 2001. The losses for the 2002 periods were due to a write-down in market value of approximately $1.4 million related to two interest-only mortgage-backed securities which were purchased in March and April 2002 as a hedge against possible interest rate increases. Since this decline in market value was deemed to be other than temporary, the write-down has been reflected as “Market valuation losses and impairments” in the accompanying statements of operations for the quarter and six-month periods ended June 30, 2002, and not as a direct reduction to stockholders’ equity. However, the Bank’s overall investment securities portfolio has shown unrealized holding gains which are reflected as a direct increase to stockholders’ equity.

        The decreases in other income from the 2001 periods also were largely due to a net gain of $4.7 million in June 2001 on the Bank’s sales of its Bankcard processing division and its mortgage loan origination subsidiary, George Elkins Mortgage Banking. In addition, loan fees decreased by $0.9 million and $1.8 million, respectively, from the quarter and six months ended June 30, 2001, and Bankcard income decreased by $1.4 million and $2.3 million, respectively, from the 2001 amounts due to the absence of such activity in 2002.

Other Expenses
        The Bank’s other expenses were approximately $2.3 million for the quarter ended June 30, 2002, compared with $5.3 million for the quarter ended June 30, 2001. For the six months ended June 30, 2002, the Bank’s other expenses totaled approximately $4.6 million, compared with $11.1 million for the six months ended June 30, 2001. These decreases were largely due to the Bank’s sales of its mortgage banking and Bankcard processing operations in June 2001. The disposals of these divisions have resulted in savings in compensation and employee benefits and, to a lesser extent, occupancy, amortization, and other general and administrative expenses totaling approximately $1.5 million and $3.6 million, respectively, for the quarter and six months ended June 30, 2002 as compared with the corresponding 2001 periods. The Bank’s 2002 compensation and employee benefits decreased by an additional $1.4 million primarily as a result of severance pay and bonuses for some of the Bank’s former executives in the first six months of 2001. In addition, professional services decreased further by approximately $0.9 million due to consulting fees associated with conversions of the Bank’s accounting and deposit systems in the 2001 period, and also due to legal fees incurred in 2001 in connection with litigation that has since been resolved in the Bank’s favor. The Bank realized cost savings in several other general and administrative expense categories through its efforts to reduce corporate overhead.

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Changes in Financial Condition – First Bank of Beverly Hills

        Following are condensed statements of financial condition for FBBH as of June 30, 2002 and December 31, 2001:

                                                                                     June 30,     December 31,
                                                                                       2002           2001
                                                                                   ------------   ------------
                                                                                     (Dollars in thousands)
ASSETS:
Cash and cash equivalents.......................................................   $     17,876   $     37,939
Mortgage-backed securities available for sale, at fair value....................        212,348        116,173
Other investment securities available for sale, at fair value...................         21,897          8,000
Loans, net......................................................................        465,322        526,338
Real estate owned, net..........................................................            285            429
Receivables from loan servicers.................................................            740          1,114
Other assets....................................................................         27,896         27,809
                                                                                   ------------   ------------
    Total assets................................................................   $    746,364   $    717,802
                                                                                   ============   ============

LIABILITIES:
Deposits  ......................................................................   $    403,651   $    439,469
Short-term borrowings...........................................................         62,148             --
FHLB advances...................................................................        189,500        189,500
Other liabilities...............................................................         19,165         20,239
                                                                                   ------------   ------------
    Total liabilities...........................................................        674,464        649,208

NET WORTH                                                                                71,900         68,594
                                                                                   ------------   ------------
    Total liabilities and net worth.............................................   $    746,364   $    717,802
                                                                                   ============   ============

        Mortgage-Backed and Other Securities Available for Sale. The Bank’s total portfolio of mortgage-backed securities available for sale increased by approximately $96.2 million during the six months ended June 30, 2002, primarily as a result of purchases of $132.0 million which were funded with the Bank’s excess liquidity and a one-year repurchase agreement facility. In addition, the Bank recorded unrealized holding gains of approximately $1.3 million on its securities portfolio during the first six months of 2002. These increases were partially offset by sales of approximately $19.6 million and principal repayments of $14.9 million. Included in the Bank’s $132.0 million in purchases were $8.5 million in interest-only federal agency mortgage-backed securities (I/Os) to hedge the Bank’s exposure to rising interest rates. However, as rates continued to decline, the actual and estimated future prepayments on the assets underlying the I/Os accelerated, resulting in a deterioration in their market value of approximately $1.4 million for the second quarter of 2002. Since the decline in the market value of the I/Os was considered other than temporary, this write-down is reflected as “Market valuation losses and impairments” in the consolidated statements of operations, and not as a direct reduction to the Bank’s net worth.

        The Bank’s portfolio of treasury and other investment securities available for sale increased approximately $13.9 million during the six-month period ended June 30, 2002 due to purchases of $13.7 million and unrealized holding gains of approximately $0.2 million.

        Loans, net. The Bank’s portfolio of loans, net of discounts and allowances, decreased by approximately $61.0 million during the six months ended June 30, 2002. This decrease is primarily attributable to principal repayments of $105.0 million resulting from the continuing decline in market rates of interest, partially offset by new loan originations of $44.9 million.

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        Real Estate Owned, net. The Bank’s portfolio of real estate owned, net decreased by approximately $0.1 million during the six months ended June 30, 2002, due to sales of properties for proceeds of approximately $0.3 million, partially offset by new acquisitions of real estate through foreclosure.

        Deposits. The Bank’s deposits decreased by approximately $35.8 million during the six months ended June 30, 2002, primarily due to maturities of higher-rate certificates of deposit, as the Bank permitted the run-off of such deposits in an effort to reduce its overall cost of funds.

        Short-Term Borrowings. The Bank borrowed $69.2 million in the first six months of 2002 under a repurchase agreement to fund its purchases of mortgage-backed and other investment securities. These borrowings were partially offset by $7.1 million in repayments.

        Net Worth. The Bank’s total net worth increased by approximately $3.3 million during the six months ended June 30, 2002. In March 2002, the Company contributed $5.5 million of capital to the Bank through the forgiveness of a portion of the Bank’s income tax liability to WFSG. In addition, the Bank earned net income for the six months ended June 30, 2002 of $1.9 million and recorded $0.9 million in after-tax unrealized gains on available-for-sale securities. These increases in net worth were partially offset by the Bank’s redemption in June 2002 of $5.0 million of its preferred stock held by the Company.

Regulatory Capital Requirements

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

        The following table sets forth the Bank’s regulatory capital ratios at June 30, 2002.

                                       Regulatory Capital Ratios

                                                                              Amount Required
                                                                                For Capital           To be Categorized
                                                                                  Adequacy                    as
                                                             Actual               Purposes            "Well Capitalized"
                                                      -------------------------------------------   ----------------------
                                                       Amount      Ratio      Amount      Ratio      Amount       Ratio
                                                      ---------   --------   ---------   --------   ---------   ----------
                                                                         (Dollars in thousands)
Total Capital to Risk-Weighted Assets (Risk-Based
    Capital)......................................... $  73,804      16.8%   $  35,236     =>8.0%   $  44,045      =>10.0%
Tier 1 Capital to Risk-Weighted Assets...............    68,274      15.5%      Not Applicable         26,427      => 6.0%
Core Capital to Tangible Assets......................    68,274       9.2%      29,742     =>4.0%      37,177      => 5.0%
Tangible Capital to Tangible Assets..................    68,274       9.2%      11,153     =>1.5%        Not Applicable

Liquidity and Capital Resources

        Liquidity is the measurement of the Bank's ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund investments, purchase pools of loans, and make payments for general business purposes. The Bank's sources of liquidity include retail and wholesale deposits, Federal Home Loan Bank ("FHLB") advances, repurchase agreements, whole loan and mortgage-backed securities sales, and net interest income. In August 2002, the FHLB increased the Bank's authorized borrowing limit from 25% to 30% of the Bank's total assets as of the previous quarter-end. Liquidity in the Bank's operations is actively managed on a daily basis and periodically reviewed by the Bank's Board of Directors.

        At June 30, 2002, the Bank’s cash balances totaled approximately $17.9 million, compared with $37.9 million at December 31, 2001. The decrease in cash was primarily due to purchases of mortgage-backed and other investment securities and maturities of certificates of deposit during the first six months of 2002, partially offset by principal repayments of loans and proceeds from short-term borrowings.

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        At June 30, 2002, the Bank had approximately $361.1 million of certificates of deposit. Scheduled maturities of certificates of deposit during the 12 months ending June 30, 2003 and thereafter amounted to approximately $254.5 million and approximately $106.6 million, respectively. Wholesale deposits generally are more responsive to changes in interest rates than core deposits, and thus are more likely to be withdrawn by the investor upon maturity as changes in interest rates and other factors are perceived by investors to make other investments more attractive. Bank management continues its effort to reduce its exposure to interest rate changes by utilizing funding sources whose repricing characteristics more closely match those of the Bank’s interest-earning assets.

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

SPECIALTY SERVICING AND FINANCE OPERATIONS

        WFSG conducts its Specialty Servicing and Finance Operations through WFC, our wholly-owned investment subsidiary, and through WCC, our majority-owned servicing subsidiary which was formed pursuant to our June 10, 1999 reorganization. As the majority owner of WCC, the Company has shared in 50.01% of WCC’s revenues and expenses. The remaining 49.99% interest in WCC’s operations is reflected as “Minority interest” in the Company’s consolidated statements of operations. As part of WFSG’s litigation settlement, the Company will purchase the 49.99% minority interest and, as a result, own 100% of WCC upon consummation of the settlement, which is expected to occur in the third quarter of 2002.

        Certain of WFC’s and WCC’s activities are conducted with lenders which have participation interests in the returns generated by the assets that serve as collateral for the loans. The share of such activities held by these lenders is reflected as “Investor participation interest” in the Company’s consolidated statements of operations.

        The following table compares operating income before taxes of our Specialty Servicing and Finance Operations for the quarters and six-month periods ended June 30, 2002 and 2001 (dollars in thousands).

                                               WCC and WFC for the Quarter                WCC and WFC for the Six Months
                                                      Ended June 30,                               Ended June 30,
                                        ------------------------------------------   ------------------------------------------
                                                                        Increase                                     Increase
                                            2002           2001        (Decrease)        2002           2001        (Decrease)
                                        ------------   ------------   ------------   ------------   ------------   ------------
Servicing income .....................  $      6,672   $      4,522   $      2,150   $     12,531   $      8,909   $      3,622
Interest income ......................         1,243            792            451          3,121          2,145            976
Investment and other income (loss) ...           601           (177)           778          1,105            843            262
                                        ------------   ------------   ------------   ------------   ------------   ------------
   Total income ......................         8,516          5,137          3,379         16,757         11,897          4,860
                                        ------------   ------------   ------------   ------------   ------------   ------------
Interest expense .....................           294            318            (24)           675            436            239
Provision for (recapture of) loan
   losses ............................           223            (15)           238            236            (15)           251
Compensation expense .................         4,879          3,777          1,102          9,232          7,431          1,801
Other expenses .......................         1,950          2,351           (401)         4,681          4,114            567
                                        ------------   ------------   ------------   ------------   ------------   ------------
   Total expenses ....................         7,346          6,431            915         14,824         11,966          2,858
                                        ------------   ------------   ------------   ------------   ------------   ------------
Income (loss) before taxes ...........  $      1,170   $     (1,294)  $      2,464   $      1,933   $        (69)  $      2,002
                                        ============   ============   ============   ============   ============   ============

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Servicing Income
        The components of servicing income in our Specialty Servicing and Finance Operations are reflected in the following table:

                                                                  June 30,                      June 30,
                                                         ---------------------------   ---------------------------
                                                             2002           2001           2002           2001
                                                         ------------   ------------   ------------   ------------
                                                            (Dollars in thousands)        (Dollars in thousands)
Servicing revenue......................................  $      6,845   $      5,687   $     12,801   $     10,007
Ancillary fees ........................................         1,501          1,268          2,963          2,413
Amortization of mortgage servicing rights .............          (890)        (1,543)        (1,868)        (2,589)
Valuation allowance for mortgage servicing rights .....          (318)          (795)          (421)          (795)
Custodial float .......................................           373            662            680            940
Prepayment interest shortfall expense .................          (839)          (757)        (1,624)        (1,067)
                                                         ------------   ------------   ------------   ------------
    Total servicing income.............................  $      6,672   $      4,522   $     12,531   $      8,909
                                                         ============   ============   ============   ============

        Total servicing income for the quarter ended June 30, 2002 was approximately $6.7 million, compared with $4.5 million for the quarter ended June 30, 2001. For the six months ended June 30, 2002, servicing income was approximately $12.5 million, compared with $8.9 million for the six months ended June 30, 2001. WCC’s servicing operations have grown significantly over the prior year levels, as shown by the portfolio totals in the table below, due to new contractual flow agreements and, to a lesser extent, servicing portfolio acquisitions. As a result of this continued expansion, our gross servicing revenues and ancillary fees (primarily late charges and prepayment penalties) increased by approximately 20% and 18%, respectively, from the second quarter of 2001 to the second quarter of 2002, and by approximately 28% and 23%, respectively, from the first six months of 2001 to the first six months of 2002.

        However, the decline in mortgage interest rates throughout 2001 and thus far in 2002 has continued to have an adverse effect on our net servicing income. As interest rates have fallen, the prepayment rates and refinancings of the underlying loans in our servicing portfolio have increased. As a result, we have recorded significant amortization expense on our mortgage servicing rights (MSRs) during the past year, though the amortization slowed somewhat in the second quarter of 2002. Our amortization of MSRs was approximately $0.9 million and $1.9 million, respectively, for the quarter and six months ended June 30, 2002, compared with $1.5 million and $2.6 million for the corresponding 2001 periods. In addition, we recorded further valuation allowances on our MSRs of $0.3 million and $0.4 million for the second quarter and first six months of 2002. As a result of underlying loan prepayments, we also have incurred an increase in the interest we are required to pay to securitization trusts (“prepayment interest shortfall expense”) under our servicing agreements. Further, the decline in interest rates has adversely affected our float income earned on deposit balances, which has decreased by approximately $0.3 million for both the quarter and six-month periods ended June 30, 2002 compared with the same periods in the prior year.

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

                                                      June 30,        December 31,        June 30,
                                                       2002               2001              2001
                                                   --------------    --------------    --------------
                                                                 (Dollars in thousands)
Single-family residential.......................   $    3,555,128    $    3,020,267    $    2,465,920
Multi-family residential........................          118,672           141,297           134,816
Commercial real estate..........................          195,741           192,275           226,149
Consumer and other..............................           80,060            90,497            93,826
                                                   --------------    --------------    --------------
     Total......................................   $    3,949,601    $    3,444,336    $    2,920,711
                                                   ==============    ==============    ==============

Interest Income and Interest Expense
        Interest income was approximately $1.2 million for the quarter ended June 30, 2002, compared with $0.8 million for the quarter ended June 30, 2001. For the six months ended June 30, 2002, interest income was approximately $3.1 million, compared with $2.1 million for the six months ended June 30, 2001. This increase was primarily due to higher loan interest income resulting from WFC’s purchase of approximately $10.5 million in principal balance of discounted loans in the third quarter of 2001. Loan interest increased also as a result of the recovery of approximately $0.3 million in discounts and reserves on loans which terminated during the first quarter of 2002 (although approximately 50% of this recapture was shared by a co-investor and recorded as “Investor participation interest” expense in the consolidated statements of operations).

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        Interest expense was approximately $0.3 million for the quarter ended June 30, 2002, compared with a similar amount for the quarter ended June 30, 2001. For the six months ended June 30, 2002, interest expense was approximately $0.7 million, compared with approximately $0.4 million for the six months ended June 30, 2001. The increase for the six-month period was due to new long-term financing and other borrowings by WFC in the third quarter of 2001 to fund the loan acquisition described above in addition to acquisitions of servicing rights. WFC substantially repaid the long-term financing in the second quarter of 2002 with proceeds from sales of loans, thereby reducing its interest expense for the quarter.

Investment and Other Income (Loss)
        The components of investment and other income (loss) in our Specialty Servicing and Finance Operations are reflected in the following table:

                                                          Quarter Ended                Six Months Ended
                                                             June 30,                      June 30,
                                                    ---------------------------   ---------------------------
                                                        2002           2001           2002           2001
                                                    ------------   ------------   ------------   ------------
                                                      (Dollars in thousands)         (Dollars in thousands)
Investment and other income (loss):
Real estate owned, net ...........................  $        (31)  $         50   $       (105)  $       (210)
Gain on sale of loans ............................         2,436            306          2,480            792
Loss on sale of securities .......................            --           (262)            --           (262)
Investor participation interest ..................        (1,219)          (287)        (1,545)          (709)
Other, net .......................................          (585)            16            275          1,232
                                                    ------------   ------------   ------------   ------------
    Total investment and other income (loss) .....  $        601   $       (177)  $      1,105   $        843
                                                    ============   ============   ============   ============

        The increase in total investment and other income for the quarter and six-month periods ended June 30, 2002 was primarily due to higher gains on sales of loans in the 2002 periods. In June 2002, WCC and WFC sold approximately $7.3 million and $3.3 million, respectively, in unpaid principal balance of loans for gains of $1.9 million and $0.5 million. Since these loans were acquired with a co-investor, one-half of the total gain was shared with the co-investor and included in “Investor participation interest” in the consolidated statements of operations. Other, net decreased by approximately $0.6 million for the second quarter of 2002 compared with the second quarter of 2001 due to write-offs of uncollected servicer advances upon the liquidation of certain loan servicing pools in the 2002 period, and also due to an increase in various servicing-related charges incurred by WCC. For the six months ended June 30, 2002, Other, net decreased by approximately $1.0 million from the corresponding 2001 period primarily as a result of a recovery in February 2001 of approximately $0.8 million beyond our basis in certain assets.

Compensation Expense
        Compensation and employee benefits were approximately $4.9 million for the quarter ended June 30, 2002, compared with approximately $3.8 million for the quarter ended June 30, 2001. For the six months ended June 30, 2002, compensation and employee benefits were approximately $9.2 million, compared with $7.4 million for the six months ended June 30, 2001. These increases in the 2002 periods were due to higher salary expenses, employee benefits and contract labor costs over the corresponding 2001 periods. WCC’s employee head count increased by approximately 35% from June 30, 2001 to June 30, 2002, reflecting the growth in the volume of its servicing business.

Other Expenses
        Other expenses in our Specialty Servicing and Finance Operations were approximately $2.0 million for the quarter ended June 30, 2002, compared with approximately $2.4 million for the quarter ended June 30, 2001. This decrease was primarily attributable to a $0.5 million decline in legal expenses due to significant litigation-related accruals and advances in the second quarter of 2001.

        For the six months ended June 30, 2002, other expenses totaled $4.7 million, compared with $4.1 million for the six months ended June 30, 2001. We incurred higher legal fees in the first six months of 2002 than in the corresponding 2001 period due to approximately $0.7 in additional legal defense costs and advances to former executives in the first six months of 2002 in connection with the litigation that arose from events prior to our 1999 restructuring.

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Changes in Financial Condition – Specialty Servicing and Finance Operations

        Following are condensed statements of financial condition for our Specialty Servicing and Finance Operations as of June 30, 2002 and December 31, 2001:

                                                                                      June 30,         December 31,
                                                                                        2002               2001
                                                                                    ------------       ------------
                                                                                       (Dollars in thousands)
ASSETS:
Cash and cash equivalents.......................................................    $      3,183       $        262
Mortgage-backed securities available for sale, at fair value....................           3,630              3,367
Discounted loans, net...........................................................           8,161             15,309
Real estate owned, net..........................................................             358                302
Servicer advance receivables, net...............................................          15,192             18,266
Purchased mortgage servicing rights, net........................................           5,980              8,473
Intercompany receivables........................................................          13,586             18,544
Other assets....................................................................           4,682              5,641
                                                                                    ------------       ------------
    Total assets................................................................    $     54,772       $     70,164
                                                                                    ============       ============

LIABILITIES:
Short-term borrowings...........................................................    $        155       $      9,970
Long-term investment financing..................................................           7,166             14,474
Other liabilities...............................................................           8,092              8,643
                                                                                    ------------       ------------
     Total liabilities..........................................................          15,413             33,087

NET WORTH.......................................................................          39,359             37,077
                                                                                    ------------       ------------
    Total liabilities and net worth.............................................    $     54,772       $     70,164
                                                                                    ============       ============

        Mortgage-Backed Securities Available for Sale. WFC’s portfolio of mortgage-backed securities available for sale increased by approximately $0.3 million during the six months ended June 30, 2002 as a result of $0.7 million in unrealized holding gains, partially offset by $0.4 million in principal repayments. We currently hold only those securities which are backed by loans in WCC’s servicing portfolio, as such investments provide operating leverage to our core business.

        Discounted Loans, net. In our Specialty Servicing and Finance Operations, discounted loans, net decreased by approximately $7.1 million from December 31, 2001 to June 30, 2002. WCC and WFC sold approximately $5.1 million in book value of loans in the second quarter of 2002 for an aggregate gain of $2.4 million (though one-half of these gains were shared with an outside party co-investor and reported as “Investor participation interest”). In addition, the discounted loans portfolio balance decreased due to loan principal payments of $1.8 million and loan loss provisions of $0.2 million.

        Servicer Advance Receivables, net. Servicer advance receivables, net decreased by approximately $3.1 million during the six months ended June 30, 2002. This decrease resulted from recoveries by WCC of scheduled principal and interest advances on loans previously made, partially offset by new advances during the year to date.

        Purchased Mortgage Servicing Rights, net. Purchased mortgage servicing rights, net (MSRs) decreased by approximately $2.5 million for the six-month period ended June 30, 2002. The steady decline in mortgage interest rates throughout 2001 and continuing into 2002 has caused rapid prepayments of the underlying loans being serviced, which, in turn, resulted in accelerated amortization of our servicing rights. Consequently, we recorded approximately $1.9 million in amortization of MSRs and a valuation write-down of $0.4 million for the six months ended June 30, 2002.

        Intercompany Receivables. Intercompany receivables decreased by approximately $5.0 million from year-end 2001 to June 30, 2002. In December 2001 WFSG borrowed funds from WCC to finance the majority of the repurchase of approximately 4.2 million shares of the Company’s stock. In January 2002, WCC received settlement on this receivable from WFSG with the proceeds from WFSG’s issuance of 8% convertible subordinated debentures.

        Short-Term Borrowings and Long-Term Investment Financing. Short-term borrowings and long-term investment financing in our Specialty Servicing and Finance Operations decreased by a total of approximately $17.1 million during the six months ended June 30, 2002. In December 2001 WCC borrowed $9.2 million under one of our line of credit facilities to provide financing for WFSG’s repurchase of approximately 4.2 million shares of common stock from a shareholder. This borrowing has been repaid in full by WFSG, primarily with the proceeds from WFSG’s issuance of 8% convertible subordinated debentures. In addition, in June 2002 WCC and WFC repaid approximately $5.3 million in borrowings with proceeds from the loan sales described above.

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Liquidity and Capital Resources

        Liquidity is the measurement of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund investments, purchase pools of loans, and make payments for general business purposes. Our sources of cash flow for our Specialty Servicing and Finance Operations include servicing revenue, whole loan and mortgage-backed securities sales, net interest income, lines of credit from commercial banks, and borrowings from institutional lenders. The availability of liquidity from our line of credit facilities is subject to the Company’s maintenance of sufficient available collateral to pledge against such borrowings. We are currently maintaining sufficient collateral under the credit agreements. Liquidity in our Specialty Servicing and Finance Operations is actively managed on a daily basis and is periodically reviewed by our Board of Directors. This process is intended to ensure the maintenance of sufficient funds to meet the needs of the Company.

        At June 30, 2002, liquidity in our Specialty Servicing and Finance Operations (including cash and unused borrowings under our credit facilities) totaled $20.8 million, compared with approximately $9.8 million at December 31, 2001. Based on our current and expected asset size, capital levels, and organizational infrastructure, we believe there will be sufficient available liquidity to meet our needs. In addition, as part of our business strategy to use bank and institutional co-investment financing, we intend to use our available capital in a manner which will not make us dependent on securitizations as a source of liquidity. As a result, we have no present intent to securitize loans as a source of liquidity.

        We no longer own subordinated mortgage-backed securities backed by loan pools originated or serviced by unaffiliated third parties, and currently hold subordinated mortgage-backed securities only where we act as servicer of the loan pools backing these securities. At June 30, 2002 we held $3.6 million of such mortgage-backed securities.

        Adequate credit facilities and other sources of funding are essential to the continuation of the Company’s ability to purchase servicing assets and pools of loans. The Company’s growth strategy is dependent in part on its ability to find credit facilities and equity partners for purchases of servicing assets and, to a lesser extent, loan pools. Such growth will depend largely on the Company’s ability to find and use capital partners for growth of our Specialty Servicing and Finance Operations. Otherwise, such growth could be significantly curtailed or delayed.

HOLDING COMPANY AND MISCELLANEOUS OPERATIONS

        Our Holding Company and Miscellaneous Operations consist of other operating revenues and expenses not directly attributable to our Banking Operations or Specialty Servicing and Finance Operations, and also includes eliminations of intercompany accounts and transactions. Primary sources of liquidity include funds available from the Company’s wholly-owned non-bank subsidiaries and payments received from FBBH pursuant to a tax allocation agreement between the Company and the Bank. However, the OTS has limited the amount of these payments to the lesser of (1) the Bank’s stand-alone tax liability and (2) the total tax payments made by the Company.

        The Company will fund the costs of the litigation settlement described above and acquisition of the minority interest in WCC through a combination of proceeds from the issuance of junior subordinated debt and $5 million WFSG received from FBBH’s redemption of preferred stock.

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CRITICAL ACCOUNTING POLICIES AND ESTIMATES

        The “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” as well as disclosures included elsewhere in this Form 10-Q, are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America.  The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingencies.  On an ongoing basis, we evaluate the estimates used, including those related to allowances for loan losses, other than temporary impairment in the market values of investment securities and other assets, assumptions used to estimate fair values of certain financial instruments for which there is not an active market, the allocation of basis between assets sold and retained, the selection of yields utilized to recognize interest income on certain mortgage-backed securities, and contingencies and litigation. We base our estimates on historical experience, current conditions and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources as well as identifying and assessing our accounting treatment with respect to commitments and contingencies.  Actual results may differ from these estimates under different assumptions or conditions.

        We believe the following critical accounting policies involve the more significant judgments and estimates used in the preparation of the consolidated financial statements:

• Allowance for Loan Losses. In estimating the allowance for loan losses, management utilizes historical experience as well as other factors, including the effect of changes in the real estate market on collateral values, the effect on the loan portfolio of current economic indicators and their probable impact on borrowers, and increases or decreases in nonperforming and impaired loans. Changes in these factors may cause management’s estimate of the allowance to increase or decrease and result in adjustments to the Company’s provision for loan losses in its consolidated statements of operations and the carrying value of the Company’s loans on its consolidated statement of financial condition.

• Mortgage Servicing Rights. Our loan servicing business represents an increasingly significant proportion of our operations. In determining the fair value of our mortgage servicing rights (MSRs), we make assumptions of market discount rates, prepayment speeds and default rates which affect the estimated present value of future cash flows. Changes in these assumptions and economic factors may result in increases or decreases in the carrying value of our MSRs and increases or decreases in the amortization of MSRs and valuation allowances related to MSRs.

• Contingencies. We are party to various legal proceedings, as discussed above and in the notes to the consolidated financial statements.  These matters have a high degree of uncertainty associated with them.  We continually assess the likely outcomes of these matters, the amounts of any ongoing costs associated with these matters, and the adequacy of amounts provided for these matters.  There can be no assurance that the ultimate outcome will not differ materially from our assessment of them.  There also can be no assurance that all matters that may be brought against us or that we may bring against other parties are known to us at any point in time.

- 27 -

                           Interest Rate Sensitivity of Net Portfolio Value

                                                       Net Portfolio Value             NPV as % of Assets
                                               -----------------------------------   -----------------------
                                                $ Amount     $ Change    % Change    NPV Ratio      Change
                                               ----------    ---------   ---------   ---------     ---------
        Change in Rates                              (Dollars in thousands)
         +300bp.............................   $   77,651    $ (23,695)      (23)%      10.12%       (235)bp
         +200bp.............................       86,898      (14,448)      (14)       11.09        (138)bp
         +100bp.............................       97,597       (3,749)       (4)       12.18         (30)bp
            0bp.............................      101,346           --        --        12.47          --
         -100bp.............................       95,791       (5,555)       (5)       11.76         (71)bp
         -200bp.............................       90,262      (11,084)      (11)       11.05        (142)bp
         -300bp.............................       88,304      (13,042)      (13)       10.75        (172)bp