**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

 

**FORM10-Q**

 

**(Mark One)**

 

| **ý**                                                                                                                                                                                             | ** ** | **QUARTERLY REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------|
| ** **                                                                                                                                                                                             |
| **For the Quarterly Period Ended June 30, 2005**                                                                                                                                                       |
| ** **                                                                                                                                                                                             |
| **OR**                                                                                                                                                                                                 |
| ** **                                                                                                                                                                                             |
| **o**                                                                                                                                                                                                  | ** ** | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
| ** **                                                                                                                                                                                             |
| **For the transition period from                 to               ** |

 

##### **Commission filenumber 0-25979**

 

**WESTERNSIERRA BANCORP**

(Exactname of Registrant as specified in its charter)

 
| **California**                                                  | ** ** | **68-0390121**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State  or other jurisdiction of incorporation or organization) | ** ** | (I.R.S.  Employer Identification No.) |
|                                                            | ** ** | ** **                            |
| **4080 Plaza Goldorado Circle  Cameron Park, California**       | ** ** | **95682**                             |
| (Address  of principal executive offices)                       | ** ** | (Zip  code)                           |

 

Registrant’stelephone number, including area code: **(530)677-5600**

 

Securitiesregistered pursuant to Section 12(b) of the Act: **None**

 

Securitiesregistered pursuant to Section 12(g) of the Act:

**Common Stock, no par value per share**

 

Indicate by check markwhether the Registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the Registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days.  Yes ý No o

 

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

 

As of August 2, 2005 there were approximately 7,729,000 sharesoutstanding of the Registrant’s common stock. 

 

 

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**WESTERN SIERRA BANCORP & SUBSIDIARIES**

**Index toForm 10-Q**

 
| PART I. Financial Information |                                                                                                |
|-------------------------------|-----------------------------------------------------------------------------------------------------|
|                          | Item 1. Consolidated  Financial Statements (unaudited)                                              |   |
|                          | Consolidated Balance Sheet  June 30, 2005 and December 31, 2004                                |   |
|                          | Consolidated Statement of  Income  Three and six months ended June 30, 2005 and 2004                |   |
|                          | Consolidated Statement of  Cash Flows  Six months ended June 30, 2005 and 2004                      |   |
|                          | Notes to Consolidated  Financial Statements                                                         |   |
|                          | Item 2. Management’s  Discussion and Analysis of Financial Condition and Results of Operations |   |
|                          | Item 3. Quantitative and Qualitative Disclosure about Market Risk                                   |   |
|                          | Item 4. Controls and Procedures                                                                     |   |
| PART II. Other Information    |                                                                                                |
|                          | Item 1. Legal proceedings                                                                           |   |
|                          | Item 2. Unregistered Sales  of Equity Securities and Use of Proceeds                                |   |
|                          | Item 3. Defaults Upon Senior  Securities                                                            |   |
|                          | Item 4. Submission of  Matters to a Vote of Security Holders                                        |   |
|                          | Item 5. Other Information                                                                           |   |
|                          | Item 6. Exhibits                                                                                    |   |
| SIGNATURES                    |                                                                                                |

 

2

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**PART I. FINANCIAL INFORMATION**

 

**Western Sierra Bancorp and Subsidiaries**

**Consolidated Balance Sheet**

(dollars in thousands)

 

**(Unaudited)**

 
| ** **                                                                                                                 | ** ** | **June 30,  2005** | ** ** | **December 31,  2004** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------|------------|--------------------|------------|------------------------|------------|
| **ASSETS:**                                                                                                                | ** ** | ** **         | ** ** | ** **             | ** ** |
| Cash and due from banks                                                                                                    |       | $45,146            |       | $29,975                |       |
| Federal funds sold                                                                                                         |       | 58,075             |       | 74,630                 |       |
| Cash and cash equivalents                                                                                                  |       | 103,221            |       | 104,605                |       |
|                                                                                                                       |       |               |       |                   |       |
| Interest-bearing deposits                                                                                                  |       | —             |       | 1,200                  |       |
| Loans held for sale                                                                                                        |       | 1,551              |       | 2,685                  |       |
| Investment securities:                                                                                                     |       |               |       |                   |       |
| Trading                                                                                                                    |       | 37                 |       | 42                     |       |
| Available for sale (amortized cost $78,662  in 2005 and $81,106 in 2004)                                                   |       | 80,216             |       | 82,521                 |       |
| Held to maturity (market value of $3,065 in  2005 and $3,202 in 2004)                                                      |       | 2,955              |       | 3,067                  |       |
| Total investments                                                                                                          |       | 83,208             |       | 85,630                 |       |
| Portfolio loans:                                                                                                           |       |               |       |                   |       |
| Real estate mortgage                                                                                                       |       | 649,314            |       | 600,108                |       |
| Real estate construction                                                                                                   |       | 216,645            |       | 199,140                |       |
| Commercial                                                                                                                 |       | 113,598            |       | 119,823                |       |
| Agricultural                                                                                                               |       | 11,688             |       | 11,514                 |       |
| Other loans                                                                                                                |       | 5,394              |       | 5,928                  |       |
| Total gross loans                                                                                                          |       | 996,639            |       | 936,513                |       |
| Deferred loan fees, net                                                                                                    |       | (2,821             | )          | (3,008                 | )          |
| Allowance for loan losses                                                                                                  |       | (14,780            | )          | (13,786                | )          |
| Net portfolio loans                                                                                                        |       | 979,038            |       | 919,719                |       |
|                                                                                                                       |       |               |       |                   |       |
| Premises and equipment, net                                                                                                |       | 21,366             |       | 20,808                 |       |
| Goodwill and other intangible assets                                                                                       |       | 33,537             |       | 33,913                 |       |
| Other assets                                                                                                               |       | 37,189             |       | 29,530                 |       |
| Total Assets                                                                                                               |       | $1,259,110         |       | $1,198,090             |       |
|                                                                                                                       |       |               |       |                   |       |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY:**                                                                             |       |               |       |                   |       |
| Non-interest bearing deposits                                                                                              |       | $289,426           |       | $272,250               |       |
| Interest bearing deposits:                                                                                                 |       |               |       |                   |       |
| NOW, money market and savings                                                                                              |       | 341,836            |       | 405,967                |       |
| Time, over $100,000                                                                                                        |       | 241,185            |       | 185,935                |       |
| Other time                                                                                                                 |       | 168,098            |       | 158,814                |       |
| Total deposits                                                                                                             |       | 1,040,545          |       | 1,022,966              |       |
|                                                                                                                       |       |               |       |                   |       |
| Borrowed funds                                                                                                             |       | 57,500             |       | 21,500                 |       |
| Subordinated debentures                                                                                                    |       | 37,116             |       | 36,496                 |       |
| Other liabilities                                                                                                          |       | 3,932              |       | 6,977                  |       |
| Total liabilities                                                                                                          |       | 1,139,093          |       | 1,087,939              |       |
|                                                                                                                       |       |               |       |                   |       |
| Shareholders’ equity:                                                                                                 |       |               |       |                   |       |
| Preferred stock- no par value; 15,000,000  shares authorized; none issued                                                  |       | —             |       | —                 |       |
| Common stock- no par value; 15,000,000  shares authorized; issued - 7,762,983 shares in 2005 and 7,629,762 shares in  2004 |       | 69,793             |       | 68,125                 |       |
| Retained earnings                                                                                                          |       | 49,223             |       | 41,109                 |       |
| Accumulated other comprehensive income                                                                                     |       | 1,007              |       | 917                    |       |
| Total shareholders’ equity                                                                                            |       | 120,023            |       | 110,151                |       |
| Total Liabilities and Shareholders’ Equity                                                                            |       | $1,259,110         |       | $1,198,090             |       |

 

Seenotes to the unaudited consolidated financial statements.

 

3

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**Western Sierra Bancorp and Subsidiaries**

**Consolidated Statements of Income**

(dollars in thousands, except per share data)

 

**(Unaudited)**

 
| ** **                                                    | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|---------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                    | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| Interest income:                                              |       |                             |       |                           |       |   |   |   |   |
| Interest and fees on loans                                    |       | $17,225                          |       | $14,392                        |       | $33,338 |   | $28,427 |   |
| Interest on investment securities:                            |       |                             |       |                           |       |   |   |   |   |
| Taxable                                                       |       | 505                              |       | 386                            |       | 903 |   | 755 |   |
| Exempt from federal taxes                                     |       | 418                              |       | 390                            |       | 827 |   | 776 |   |
| Interest on Federal funds sold                                |       | 224                              |       | 141                            |       | 536 |   | 194 |   |
| Total interest income                                         |       | 18,372                           |       | 15,308                         |       | 35,604 |   | 30,152 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Interest expense:                                             |       |                             |       |                           |       |   |   |   |   |
| Interest on deposits                                          |       | 3,084                            |       | 2,170                          |       | 5,755 |   | 4,174 |   |
| Interest on borrowed funds                                    |       | 933                              |       | 552                            |       | 1,649 |   | 1,109 |   |
| Total interest expense                                        |       | 4,017                            |       | 2,721                          |       | 7,404 |   | 5,283 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Net interest income                                           |       | 14,355                           |       | 12,587                         |       | 28,200 |   | 24,869 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Provision for loan losses (LLP)                               |       | 460                              |       | 600                            |       | 910 |   | 1,310 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Net interest income after LLP                                 |       | 13,895                           |       | 11,987                         |       | 27,290 |   | 23,559 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Non-interest income:                                          |       |                             |       |                           |       |   |   |   |   |
| Service charges and fees                                      |       | 1,332                            |       | 1,220                          |       | 2,518 |   | 2,415 |   |
| Investment service fee income                                 |       | 248                              |       | 86                             |       | 378 |   | 377 |   |
| Net gain on sale and packaging of  residential mortgage loans |       | 1,099                            |       | 1,192                          |       | 2,032 |   | 2,047 |   |
| Gain on sale of government-guaranteed loans                   |       | 291                              |       | —                         |       | 403 |   | — |   |
| Loss on sale of investment securities                         |       | —                           |       | (11                            | )          | (3 | ) | (11 | ) |
| Other income                                                  |       | 561                              |       | 227                            |       | 812 |   | 453 |   |
| Total non-interest income                                     |       | 3,531                            |       | 2,713                          |       | 6,140 |   | 5,281 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Other expenses:                                               |       |                             |       |                           |       |   |   |   |   |
| Salaries and benefits                                         |       | 5,902                            |       | 4,881                          |       | 11,305 |   | 9,768 |   |
| Occupancy and equipment                                       |       | 1,669                            |       | 1,435                          |       | 3,280 |   | 2,787 |   |
| Other expenses                                                |       | 2,915                            |       | 2,414                          |       | 5,536 |   | 4,723 |   |
| Terminated merger expenses                                    |       | 400                              |       | —                         |       | 400 |   | — |   |
| Amortization of core deposit intangibles                      |       | 180                              |       | 180                            |       | 360 |   | 360 |   |
| Total other expenses                                          |       | 11,066                           |       | 8,910                          |       | 20,881 |   | 17,638 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Income before income taxes                                    |       | 6,360                            |       | 5,790                          |       | 12,549 |   | 11,202 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Income taxes                                                  |       | 2,269                            |       | 2,109                          |       | 4,435 |   | 4,056 |   |
| Net income                                                    |       | $4,091                           |       | $3,681                         |       | $8,114 |   | $7,146 |   |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Basic earnings per share                                      |       | $0.53                            |       | $0.49                          |       | $1.06 |   | $0.95 |   |
| Diluted earnings per share                                    |       | $0.51                            |       | $0.47                          |       | $1.02 |   | $0.91 |   |

 

Seenotes to the unaudited consolidated financial statements.

 

4

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**Western Sierra Bancorp and Subsidiaries**

**Consolidated Statement of Cash Flows**

(dollars in thousands)

 
| ** **                                                                                      | ** ** | **Six Months Ended** | ** ** |
|-------------------------------------------------------------------------------------------------|------------|----------------------|------------|
| ** **                                                                                      | ** ** | **June 30,  2005**   | ** ** | **June 30,  2004** | ** ** |
| Cash flows from operating activities:                                                           |       |                 |       |   |   |
| Net income                                                                                      |       | $8,114               |       | $7,146 |   |
| Adjustments to reconcile net income to net  cash provided by operating activities:              |       |                 |       |   |   |
| Provision for loan losses                                                                       |       | 910                  |       | 1,310 |   |
| Depreciation and amortization                                                                   |       | 1,694                |       | 1,531 |   |
| Deferred loan origination fees, net                                                             |       | (187                 | )          | (142 | ) |
| Amortization of investment security  premiums, net of accretion of discount                     |       | 230                  |       | 438 |   |
| Loss on sale and call of available-for-sale  investment securities                              |       | 3                    |       | 11 |   |
| Decrease (increase) in trading securities                                                       |       | 5                    |       | (3 | ) |
| (Gain) loss on sale of premises and  equipment                                                  |       | (7                   | )          | 3 |   |
| Increase in cash surrender value of life  insurance policies                                    |       | (483                 | )          | (322 | ) |
| Compensation cost associated with the Bank’s  ESOP                                         |       | —               |       | 150 |   |
| Decrease (increase) in loans held for sale                                                      |       | 1,134                |       | (969 | ) |
| Decrease (increase) in accrued interest  receivable and other assets                            |       | 1,963                |       | (263 | ) |
| Decrease in accrued interest payable and  other liabilities                                     |       | (3,051               | )          | (3,289 | ) |
| Decrease (increase) in deferred taxes                                                           |       | 974                  |       | (40 | ) |
| Net cash provided by operating activities                                                       |       | 11,299               |       | 5,561 |   |
|                                                                                            |       |                 |       |   |   |
| Cash flows from investing activities:                                                           |       |                 |       |   |   |
| Proceeds from sale and call of  available-for-sale investment securities                        |       | 2,997                |       | 2,000 |   |
| Proceeds from called held-to-maturity  investment securities                                    |       | 4                    |       | — |   |
| Purchases of available-for-sale investment  securities                                          |       | (7,700               | )          | (16,773 | ) |
| Principal repayments received from  available-for-sale SBA Pools and mortgage-backed securities |       | 6,913                |       | 6,408 |   |
| Principal repayments received from  held-to-maturity mortgaged-backed securities                |       | 107                  |       | 313 |   |
| Net decrease in interest-bearing deposits  in banks                                             |       | 1,200                |       | 198 |   |
| Net increase in loans                                                                           |       | (60,042              | )          | (51,526 | ) |
| Proceeds from the sale of premises and  equipment                                               |       | 21                   |       | — |   |
| Purchases of premises and equipment                                                             |       | (1,906               | )          | (1,220 | ) |
| Purchase of life insurance policies                                                             |       | (8,800               | )          | — |   |
| Net cash used in investing activities                                                           |       | (67,206              | )          | (60,600 | ) |
| ** **                                                                                      | ** ** | ** **           | ** ** | ** ** | ** ** |
| Cash flows from financing activities:                                                           |       |                 |       |   |   |
| Net (decrease) increase in demand,  interest-bearing and savings deposits                       |       | $(46,955             | )          | $67,664 |   |
| Net increase in time deposits                                                                   |       | 64,534               |       | 56,819 |   |
| Net increase in borrowings                                                                      |       | 36,000               |       | 10,500 |   |
| Proceeds from ESOP borrowings                                                                   |       | —               |       | 150 |   |
| Repayment of ESOP borrowings                                                                    |       | —               |       | (150 | ) |
| Purchase of unearned ESOP shares                                                                |       | —               |       | (150 | ) |
| Repurchase of common stock                                                                      |       | —               |       | (85 | ) |
| Proceeds from the exercise of stock options                                                     |       | 944                  |       | 954 |   |
| Net cash provided by financing activities                                                       |       | 54,523               |       | 135,702 |   |
| (Decrease) Increase in cash and cash  equivalents                                               |       | (1,384               | )          | 80,663 |   |
| Cash and cash equivalents at beginning of  year                                                 |       | 104,605              |       | 55,964 |   |
| Cash and cash equivalents at end of year                                                        |       | $103,221             |       | $136,627 |   |
|                                                                                            |       |                 |       |   |   |
| Cash paid during the period for income  taxes:                                                  |       | $4,439               |       | $5,055 |   |
|                                                                                            |       |                 |       |   |   |
| Non-cash investing activities:                                                                  |       |                 |       |   |   |
| Net change in unrealized gain on  available-for-sale investment securities                      |       | $137                 |       | $(1,208 | ) |

 

See notes to the unaudited consolidated financial statements.

 

5

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**NOTES TO THE UNAUDITED CONSOLIDATED FINANCIALSTATEMENTS**

 

**1.  Basis ofPresentation**

 

The accompanying unauditedcondensed consolidated financial statements of Western Sierra Bancorp andsubsidiaries (the “Company”) have been prepared in accordance with accountingprinciples generally accepted in the United States of America for interimfinancial information and with the instructions to Form 10-Q andArticle 10 of Regulation S-X. In the opinion of Management, alladjustments (which consist solely of normal recurring accruals) considerednecessary for a fair presentation of the results for the interim periodspresented have been included. These interim condensed consolidated financialstatements should be read in conjunction with the financial statements andrelated notes contained in the Company’s 2004 Annual Report to Shareholders.

 

The condensed consolidatedfinancial statements include the accounts of the Company and its wholly ownedsubsidiaries, Western Sierra National Bank (WSNB) and its subsidiary WSNBInvestment Trust (a Real Estate Investment Trust (“REIT”), Lake Community Bank(LCB), Central California Bank (CCB) and Auburn Community Bank (ACB), collectively(“Banks”).  All significant inter-companybalances and transactions have been eliminated. Western Sierra Statutory Trusts I, II, III, and IV are unconsolidatedsubsidiaries formed solely for the purpose of issuing trust preferredsecurities.  Operating results for thethree and six months ended June 30, 2005 are not necessarily indicative of theresults that may be expected for the year ending December 31, 2005.Certain amounts in the consolidated financial statements for the year endedDecember 31, 2004 and the three and six-month periods ended June 30, 2004may have been reclassified to conform to the presentation of the consolidatedfinancial statements in 2005.

 

The preparation of consolidated financial statements inconformity with accounting principles generally accepted in the United Statesof America requires Management to make estimates and assumptions.  These estimates and assumptions affect thereported amounts of assets and liabilities at the date of the consolidatedfinancial statements and the reported amounts of revenues and expenses duringthe reporting period.  Actual resultscould differ from these estimates.

 

**2.  Stock-based Compensation**

 

At June 30, 2004, the Company has fourstock-based compensation plans.  TheCompany accounts for these plans under the recognition and measurementprinciples of APB Opinion No. 25, *Accounting for StockIssued to Employees*, and related Interpretations.  No stock-based compensation cost is reflectedin net income, as all options granted under these plans had an exercise priceequal to the market value of the underlying common stock on the date of grant.  In accordance with Financial AccountingStandards Board (“FASB”) No. 148, *Accountingfor Stock-Based Compensation – Transition and Disclosure, an Amendment of FASBNo. 123,* the following table illustrates the effect on net incomeand earnings per share as if the Company had applied the fair value recognitionprovisions of FASB Statement No. 123, *Accounting for Stock-BasedCompensation*, to stock-based compensation.

 

Pro forma adjustments to the Company’sconsolidated net earnings and earnings per share are disclosed during the yearsin which the options become vested (dollars in thousands, except per sharedata).

 
| ** **                                                                                                                                    | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                                                                                                    | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| Net income as reported                                                                                                                        |       | $4,091                           |       | $3,681                         |       | $8,114 |   | $7,146 |   |
| Deduct: Total stock-based  compensation expense  determined  under the fair value based method for all awards,net of related tax effects |       | (253                             | )          | (145                           | )          | (439 | ) | (459 | ) |
|                                                                                                                                          |       |                             |       |                           |       |   |   |   |   |
| Pro forma net income                                                                                                                          |       | $3,838                           |       | $3,536                         |       | $7,675 |   | $6,687 |   |
|                                                                                                                                          |       |                             |       |                           |       |   |   |   |   |
| Basic earnings per share - as  reported                                                                                                       |       | $0.53                            |       | $0.49                          |       | $1.06 |   | $0.95 |   |
| Basic earnings per share - pro  forma                                                                                                         |       | $0.50                            |       | $0.47                          |       | $1.00 |   | $0.89 |   |
|                                                                                                                                          |       |                             |       |                           |       |   |   |   |   |
| Diluted earnings per share - as  reported                                                                                                     |       | $0.51                            |       | $0.47                          |       | $1.02 |   | $0.91 |   |
| Diluted earnings per share -  pro forma                                                                                                       |       | $0.48                            |       | $0.45                          |       | $0.97 |   | $0.86 |   |

 

6

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**3.  Earnings perShare**

 

Basic earnings per share (EPS), which excludesdilution, is computed by dividing net income by the weighted-average number ofcommon shares outstanding for the period. Diluted EPS reflects the potentialdilution that could occur if securities or other contracts to issue commonstock, such as stock options, result in the issuance of common stock, whichshares in the earnings of the Company. Earnings per share is retroactivelyadjusted for stock dividends and splits for all periods presented. Areconciliation of the numerators and denominators of the basic and diluted EPScomputations is as follows (dollars in thousands, except share data).

 
| ** **                                                       | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------------------------------|------------|------------------------|------------|----------------------|------------|
| ** **                                                       | ** ** | **June 30,  2005**     | ** ** | **June 30,  2004**   | ** ** | **June 30,  2005** | ** ** | **June 30,  2004** | ** ** |
| Basic EPS Computation:                                           |       |                   |       |                 |       |   |   |   |   |
| Numerator—net income                                        |       | $4,091                 |       | $3,681               |       | $8,114 |   | $7,146 |   |
| Denominator— weighted average number of  shares outstanding |       | 7,713,103              |       | 7,556,145            |       | 7,679,307 |   | 7,506,844 |   |
| Basic earnings per share                                         |       | $0.53                  |       | $0.49                |       | $1.06 |   | $0.95 |   |
|                                                             |       |                   |       |                 |       |   |   |   |   |
| Diluted EPS Computation:                                         |       |                   |       |                 |       |   |   |   |   |
| Numerator—net income                                        |       | $4,091                 |       | $3,681               |       | $8,114 |   | $7,146 |   |
| Denominator— weighted average number of  shares outstanding |       | 7,713,103              |       | 7,556,145            |       | 7,679,307 |   | 7,506,844 |   |
| Effect of dilutive stock options                                 |       | 242,078                |       | 317,054              |       | 276,321 |   | 349,414 |   |
|                                                             |       | 7,955,181              |       | 7,873,199            |       | 7,955,618 |   | 7,856,258 |   |
| Diluted earnings per share                                       |       | $0.51                  |       | $0.47                |       | $1.02 |   | $0.91 |   |

 

**4.  StockRepurchase Plan**

 

On January 16, 2004 theCompany announced that the Board of Directors approved a plan to utilize up to$2 million (or approximately 1% of the total outstanding shares) to repurchasethe Company’s common stock.  As of June30, 2005, the Company had repurchased 3,000 shares at an average price ofapproximately $28.27.

 

**5.  Commitmentsand Contingencies**

 

#### **Leases**

 

In April 2005, the Companysigned a contract for an office lease that will be the headquarters and abranch of Western Sierra National Bank located at One Capital Mall Suite 600,Sacramento, CA  95814.  The term is for 7 years and the monthlypayments begin in October 2005 at approximately $17,000 per month or $2.50 per squarefoot for the first twelve months and increase approximately 2% annuallythereafter.

 

#### **Financial InstrumentsWith Off-Balance-Sheet Risk**

 

The Banks are party to financial instruments withoff-balance-sheet risk in the normal course of business in order to meet thefinancing needs of their customers and to reduce their exposure to fluctuationsin interest rates.  These financialinstruments include commitments to extend credit, letters of credit andcommitments to sell loans.  Theseinstruments involve, to varying degrees, elements of credit and interest raterisk in excess of the amount recognized on the consolidated balance sheet.

 

The Banks exposure to credit loss in the event ofnonperformance by the other party for commitments to extend credit and lettersof credit is represented by the contractual amount of those instruments.  The Banks use the same credit policies inmaking commitments and letters of credit as they do for loans included on theconsolidated balance sheet.

 

7

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Thefollowing financial instruments represent off-balance-sheet credit risk (inthousands):

 
| ** **                                                              | ** ** | **June 30,  2005** | ** ** | **December 31,  2004** | ** ** |
|-------------------------------------------------------------------------|------------|--------------------|------------|------------------------|------------|
| Commitments to extend credit:                                           |       |               |       |                   |       |
| Revolving lines of credit secured by 1-4  family residences             |       | $37,321            |       | $33,019                |       |
| Commercial real estate, construction and  land development commitments: |       |               |       |                   |       |
| Secured by real estate                                                  |       | 180,686            |       | 211,737                |       |
| Not secured by real estate                                              |       | 1,366              |       | 1,105                  |       |
| Other commercial commitments not secured by  real estate                |       | 54,051             |       | 53,099                 |       |
| Agricultural commitments                                                |       | 2.093              |       | 3,261                  |       |
| Other commitments                                                       |       | 3,884              |       | 3,872                  |       |
|                                                                    |       | $279,401           |       | $306,093               |       |
| Letters of credit                                                       |       | $21,730            |       | $22,866                |       |

 

Real estate commitments are generally secured by propertywith loan-to-value ratios not to exceed 80%. In addition, the majority of the Banks’ commitments have variable interest rates.

 

Commitments to extend credit are agreements to lend to acustomer as long as there is no violation of any condition established in thecontract.  Commitments generally havefixed expiration dates or other termination clauses and may require payment ofa fee.  Since some of the commitments areexpected to expire without being drawn upon, the total commitment amounts donot necessarily represent future cash requirements.  Each customer’s creditworthiness is evaluatedon a case-by-case basis.  The amount ofcollateral obtained, if deemed necessary upon extension of credit, is based onManagement’s credit evaluation of the borrower. Collateral held varies, but may include deposits, accounts receivable,inventory, equipment, income-producing commercial properties and residentialreal estate.

 

Letters of credit are conditional commitments to guaranteethe performance or financial obligation of a customer to a third party.  The credit risk involved in issuing lettersof credit is essentially the same as that involved in extending loans tocustomers.

 

Commitments to sell loans are agreements to sell to anotherparty loans originated by the Banks.  TheBanks only sell loans to third parties without recourse.  The Banks are not exposed to credit loss ifthe borrower fails to perform according to the promissory note as long as theBanks has fulfilled their obligations stated in the sales commitment.

 

8

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#### **Legal Proceedings**

 

The Company is not a partyto any legal proceeding that Management expects will result in an adversedecision resulting in a material effect on the future operating results orfinancial condition

 

**6. Comprehensive Income**

 

Comprehensive incomeincludes net income and other comprehensive income.  The Company’s only source of othercomprehensive income is derived from unrealized gains and losses on investmentsecurities available-for-sale. Reclassification adjustments resulting from gains or losses oninvestment securities that were realized and included in net income of thecurrent period that also had been included in other comprehensive income asunrealized holding gains or losses in the period in which they arose areexcluded from comprehensive income of the current period.  The Company’s total comprehensive income wasas follows:

 
| ** **                                                | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|-----------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| **(In thousands)**                                        | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
|                                                      |       |                             |       |                           |       |   |   |   |   |
| Net income                                                |       | $4,091                           |       | $3,681                         |       | $8,114 |   | $7,146 |   |
| Other comprehensive income:                               |       |                             |       |                           |       |   |   |   |   |
| Holding gains (losses) arising during  period, net of tax |       | 669                              |       | (1,261                         | )          | 88 |   | (803 | ) |
| Re-classification adjustment, net of tax                  |       | —                           |       | 7                              |       | 2 |   | 7 |   |
| Total other comprehensive income (loss)                   |       | 669                              |       | (1,254                         | )          | 90 |   | (796 | ) |
| Total comprehensive income                                |       | $4,760                           |       | $2,427                         |       | $8,204 |   | $6,350 |   |

 

**7.  Termination of Agreement with Gold CountryFinancial Services**

 

InNovember 2004, the Company entered into a definitive merger agreement toacquire Gold Country Financial Services, the holding company for Gold CountryBank, headquartered in Marysville, California. This agreement was terminated by the mutual consent of both parties inJune of 2005.  Under the terms of theagreement, Gold Country Bank was to be merged into WSNB in a stock and cashtransaction valued at approximately $23.1 million.  As a result of the termination of the mergeragreement, the Company recorded terminated merger expense of $400,000 in the quarterended June 30, 2005.

 

**8.  New Accounting Pronouncements**

 

InApril 2005, the SEC announced that FAS 123R requirements for stock optionexpense recognition will be deferred until January 1, 2006 and will bereflected on the Company’s first interim report thereafter.  As originally issued by the FASB, publiccompanies were required to implement Statement 123R as of the beginning of thefirst reporting period beginning after June 15, 2005.

 

9

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**ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATION.**

 

**Private securities litigation reform act safe harborstatement**

 

This quarterly report onForm 10-Q includes forward-looking information, which is subject to the “safeharbor” created by the Securities Act of 1933 and Securities Act of 1934. Theseforward-looking statements (which involve the Company’s plans, beliefs andgoals) involve certain risks and uncertainties that could cause actual resultsto differ materially from those in the forward-looking statements. Such risksand uncertainties include, but are not limited to, the following factors:

 

1.     Competitive pressure in the banking industryand changes in the regulatory environment.

 

2.     Changes in the interest rate environment andvolatility of rate sensitive deposits.

 

3.     Decline in the health of the economynationally or regionally which could reduce the demand for loans or reduce thevalue of real estate collateral securing most of the Company’s loans.

 

4.     Credit quality deterioration that could causean increase in the provision for loan losses.

 

5.     The Company’s exposure to real estate valuesin the markets that it serves, as over 80% of the Banks’  loans are secured by real estate.

 

6.     Asset/Liability matching risks and liquidityrisks.

 

7.     Volatility and devaluation in the securitiesmarkets.

 

8.     A rise in short term rates that flattens orinverts the yield curve and the resulting effect on the Company’s cost of fundsand ability to sustain deposit growth

 

For additional informationconcerning risks and uncertainties related to the Company and its operations,please refer to the Company’s Annual Report on Form 10-K for the yearended December 31, 2004 under the heading “Forward-Looking Information”.  Readers are cautioned not to place unduereliance on these forward-looking statements, which speak only as of the datehereof. The Company undertakes no obligation to revise or publicly release theresults of any revision to these forward-looking statements to reflect eventsor circumstances after the date hereof or to reflect the occurrence ofunanticipated events.

 

The following sectionsdiscuss significant changes and trends in financial condition, capitalresources and liquidity of the Company from December 31, 2004 to June 30,2005. Also discussed are significant trends and changes in the Company’sresults of operations for the three and six months ended June 30, 2005 comparedto the same periods in 2004. The consolidated financial statements and relatednotes appearing elsewhere in this report are condensed and unaudited.

 

10

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**General**

 

The Company was incorporatedunder the laws of the State of California on July 11, 1996. The Companywas organized pursuant to a plan of reorganization for the purpose of becomingthe parent corporation of Western Sierra National Bank, and onDecember 31, 1996, the reorganization was effected and shares of theCompany’s common stock were exchanged for the common shares held by WesternSierra National Bank’s shareholders.

 

In April 1999, theCompany acquired Roseville 1st National Bank and Lake Community Bank in a stockfor stock exchange. In May of 2000, the Company acquired Sentinel CommunityBank in a stock for stock exchange. Each of these mergers was accounted for asa pooling of interests and, accordingly, all prior period financial statementshave been restated to reflect the combined operations of the Company, Roseville1st National Bank, Lake Community Bank and Sentinel Community Bank. SentinelCommunity Bank at the time of its acquisition was immediately merged intoWestern Sierra National Bank. In May of 2000, Roseville 1st National Bank wasalso merged into Western Sierra National Bank.

 

In April 2002, the Companyacquired Central California Bank for $3.7 million in cash and 252,181 shares ofthe Company’s stock.  This transactionwas accounted for using purchase accounting, which resulted in a purchase priceallocation of $2.3 million to goodwill and $1.9 million to core depositintangible assets.  In July 2002, theSentinel Community Bank branches were transferred from Western Sierra NationalBank to Central California Bank.

 

In July 2003, the Companyacquired Central Sierra Bank for $10.7 million in cash and 404,173 shares ofthe Company’s stock.  This transactionwas accounted for using purchase accounting, which resulted in a purchase priceallocation of $11.6 million to goodwill and $2.9 million to core depositintangible assets.  Central Sierra Bankoperates as a division of Central California Bank.

 

In December 2003, theCompany acquired Auburn Community Bank for $6.5 million in cash and 349,976shares of the Company’s stock.  Thistransaction was accounted for using purchase accounting, which resulted in apurchase price allocation of $14.5 million to goodwill and $1.8 million to coredeposit intangible assets.

 

The Company is a registeredbank holding company under the Bank Holding Company Act. The Company conductsits operations at 4080 Plaza Goldorado Circle, Cameron Park, California 95682.

 

Western Sierra National Bankwas organized under national banking laws and commenced operations as anational bank on January 4, 1984. Western Sierra National Bank is a memberof the Federal Reserve System, and the FDIC insures its deposits to the maximumamount permitted by law. Western Sierra National Bank’s head office is locatedat 4080 Plaza Goldorado Circle, Cameron Park, and operates twelve branchoffices and one loan production office. The head office will be relocating to One Capitol Mall, SacramentoCalifornia in October 2005.  Western SierraNational Bank does not have any other subsidiaries other than Sentinel Associates, Inc.,an inactive entity formed by Sentinel Bank in 1983 to develop single-familyresidential real estate.

 

Lake Community Bank wasincorporated as a banking corporation under the laws of the State of Californiaon March 9, 1984 and commenced operations as a California state-charteredbank on November 15, 1984. Lake Community Bank is an insured bank underthe Federal Deposit Insurance Act and is a member of the Federal ReserveSystem. Lake Community Bank engages in the general commercial banking businessin Lake County from its headquarters banking office located at 805 EleventhStreet, Lakeport, CA, a branch in Kelseyville, CA and a loan production officein Middletown. Lake Community Bank does not have any affiliates orsubsidiaries.

 

Central California Bank wasincorporated under the laws of the State of California on January 13, 1997 andcommenced operations on April 24, 1998. Central California Bank is an insuredbank under the Federal Deposit Insurance Act and became a member of the FederalReserve System in January 2003. In July 2003, Central Sierra Bank merged intoCentral California Bank.  CentralCalifornia Bank engages in the general commercial banking business in Tuolumneand Stanislaus counties from its headquarters banking office located at 13753-AMono Way, Sonora, CA, and its fourteen branches and a loan productionoffice.  Central California Bank does nothave any affiliates or subsidiaries.

 

Auburn Community Bank, astate non-member bank, was originally operating under the name of AuburnNational Bank which was incorporated under the laws of the State of Californiaon July 28, 1997, and commenced operations on February 2, 1998.  On July 29, 1999, Auburn National Bankconverted from national bank to a state non-member bank and was renamed AuburnCommunity Bank.  Auburn Community Bank isan insured bank under the Federal Deposit Insurance Act and operates itsheadquarters banking office located at 500 Auburn-Folsom Road Suite 200,Auburn, CA and its branch located at 11795 Atwood Road, Auburn, CA.  Auburn Community Bank does not have anyaffiliates or subsidiaries.

 

11

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**Employees.** At June 30, 2005, the Company and itssubsidiaries employed 381 persons on a full-time equivalent basis. The Companybelieves its employee relations are satisfactory.

 

**Financial Condition**

 

The Company increased totalassets from $1.20 billion at December 31, 2004 to $1.26 billion atJune 30, 2005, an increase of $61 million or 5.1%. The two primarycomponents of asset growth were portfolio loans, which grew $63 million, andother assets, which increased $8 million. Growth in other assets was primarily a result of purchasingapproximately $8.8 million in bank owned life insurance, or “BOLI”, which waspurchased to generate income to offset rising benefit costs.  The policies yield are subject to changeannually by the respective insurance companies and are expected to averageapproximately 4.5% on a tax equivalent basis during 2005. These increases intotal assets were partially funded by a reduction in the investment portfolioof $2.4 million.  Asset growth wasprimarily funded by growth in borrowed funds of $36 million and growth indeposits of $18 million.

 

During the first six monthsof 2005, non-interest bearing deposits increased from $272 million at year-end2004 to $289 million at June 30, 2005. Included in non-interest deposits are local title company deposits,which have increased $23 million from $36 million at December 31, 2004 to $59million at June 30, 2005.  These funds donot receive interest but do result in an assessment of service fees by thetitle company’s service bureau to the Company. During the first six months of 2005, the service fees on title companydeposits incurred by the Company were less than 1% of the average title companydeposits outstanding.

 

**Results of Operations**

 

The Company reported netincome of $4.09 million for the three months ended June 30, 2005 (or $0.51per diluted share) compared to $3.68 million (or $0.47 per diluted share) forthe same period in 2004.  The quarterlyearnings represent an increase of $410,000 or 11.1% in net income and an 8.5%increase diluted earnings per share over the second quarter ended June 30,2004.  The six month earnings representan increase of $968,000 or 13.5% in net income and a 12.1% increase dilutedearnings per share over the six months ended June 30, 2004.

 

The primary factorscontributing to the increase in operating results during the three andsix-month period ended June 30, 2005 as compared to the same periods in 2004include:

 

1.     An increase in net interest income of $1.77million or 14% in the second quarter over the same period in 2004 and$3.33 million or 13.4% in the first six months of 2005 as compared to2004.  The net increase is due to anoverall increase in average earning assets and the benefit of recent rateincreases applied to the Company’s asset sensitive balance sheet.

 

2.     A decrease in loan loss provisions of$140,000 and $400,000 for the second quarter and six-month period ended June30, 2005 as compared to the same periods in 2004.  The percentage of loan loss reserves to grossloans was 1.48% at June 30, 2005 as compared to 1.47% at December 31, 2004 and1.45% at June 30, 2004.

 

3.     An increase in non-interest income of $818,000and $859,000 for the second quarter and six-month period ended June 30, 2005 ascompared to the same periods in 2004. The increase is primarily due to the gain on sale ofgovernment-guaranteed loans of $291,000 and $403,000 for the second quarter andsix-month period ended June 30, 2005 and the settlement of $275,000 from ahistorical contract dispute recognized in the second quarter.

 

4.     An effective tax rate of 35.7% and 35.3% forthe three and six-month periods of 2005 as compared to 36.4% and 36.2% in thesame periods of the previous year.

 

The above factors were offset in part by:

 

1.     Total other expenses increased $2.16 millionor 24% and $3.24 million or 18% over the second quarter and six-month period ofthe previous year.  Included in totalother expenses for the second quarter was merger expense of $400,000 for thetermination of the Gold Country Financial Services transaction and $370,000 incompensation expense related to the retirement of the Company’s former ChiefOperating Officer.

 

**Return on Average Assets and Average Equity**

 

Return on average assets (“ROA”)was 1.35% for the second quarter of 2005 as compared to 1.32% for the secondquarter of

 

12

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2004.  Return on equity (“ROE”)was 14.12% for the second quarter of 2005 as compared to 14.94% for the secondquarter of 2004. ** **The compression of ROE was largely due to growth in equity, whichexceeded the Company’s income growth rate due to the retention of the Company’searnings and the additional capital received from the exercise of stockoptions.

 

**Net Interest Income (Tax Equivalent Yield Basis)**

 

Net interest income is theprimary source of income for the Company and represents the excess of interestand fees earned on interest-earning assets (loans, investments and Federalfunds sold) over the interest paid on deposits and borrowed funds. Net interestmargin is net interest income expressed as a percentage of average earningassets.

 

For the three months endedJune 30, 2005, interest income on a tax equivalent basis increased by $3.0million to $18.6 million or 20% over the same period in 2004. Interest expenseon deposit accounts and borrowings increased $1.3 million or 48% over the samethree-month period ended June 30, 2004. Average earning assets yielded (on afully tax equivalent basis) 6.80% versus 6.20% a year ago, the effect of whichwas partially offset by an increase in the cost of funds where the average costof funds increased to 1.97% from 1.42% a year ago. Net interest income (on atax equivalent basis) increased $1.8 million or 14% to $14.6 million. The netinterest margin increased 22 basis points to 5.33% from 5.11% for the samethree-month period a year ago.

 

For the six months endedJune 30, 2005, interest income on a tax equivalent basis increased by $5.5million to $36.1 million or 18% over the same period in 2004. Interest expenseon deposit accounts and borrowings increased $2.1 million or 40% over the samesix-month period ended June 30, 2004. Average earning assets yielded (on afully tax equivalent basis) 6.68% versus 6.30% a year ago, the effect of whichwas partially offset by an increase in the cost of funds where the average costof funds increased to 1.83% from 1.42% a year ago. Net interest income (on atax equivalent basis) increased $3.4 million or 13% to $28.7 million. The netinterest margin increased 10 basis points to 5.21% for the same six-monthperiod a year ago.

 

Net interest margin has improved, increasing 22 and 10 basispoints respectively for the three and six-month periods ended June 30, 2005 ascompared to the same periods in 2004. The primary reasons that the Company was able to improve its netinterest margin are 1) an increase in the average loan to deposit ratio from92% and 94% for the three and six-month periods ended June 30, 2004 to 97% and95% for the same periods in 2005, 2) a shift in the mix of average earningassets to higher yielding instruments as evidenced by the decrease in averagefed funds to $32 million in the second quarter of 2005 from $52 million in thesecond quarter of 2004, 3) the benefit of the increase in market interest ratesto the Company’s “asset sensitive” balance sheet and 4) an increase in thepercentage of average non-interest deposits to total deposits from 26% and 25%for the three and six-month periods ended June 30, 2004 to 27% for both of thesame periods in 2005.

 

Overall, yields trended upfrom the prior year as a result of market interest rates.  The most significant increase was realized infederal funds sold, which increased to 2.84% for the second quarter of 2005 ascompared to 0.98% in the same period of 2004. This increase was due to the increases in the federal funds rate and it’sexpected that the yield on other interest interest-bearing instruments willgradually increase over time due to the addition of new higher yieldinginstruments at the current market rate to the existing portfolio and periodicrepricing adjustments on certain loans.

 

13

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The following tables present, for the periods indicated, thedistribution of consolidated average assets, liabilities and shareholders’equity, as well as the total dollar amounts of interest income from averageearning assets and the resultant yields and the dollar amounts of interestexpense and average interest-bearing liabilities, expressed both in dollars andin rates. Non-accrual loans, which are not considered material, are included inthe calculation of the average balances of loans.  Savings deposits include NOW and money marketaccounts. To compare the tax-exempt asset yields to taxable yields, amounts areadjusted to pre-tax equivalents based on the marginal corporate federal taxrate of 35 percent (dollars in thousands).

 

**Average Balances, Interest Income/Expense andYields/Rates Paid**

 
| ** **                                                                             | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                             | ** ** | **June 30, 2005** | ** ** | **June 30, 2004** | ** ** |
| ** **                                                                             | ** ** | **Average  Balance**   | ** ** | **Interest** | ** ** | **Yield/  Rate** | ** ** | **Average  Balance** | ** ** | **Interest** | ** ** | **Yield/  Rate** | ** ** |
| Earning assets:                                                                        |       |                   |       |   |   |   |   |   |   |   |   |   |   |
| Portfolio loans (3)                                                                    |       | $982,444               |       | $17,236 |   | 7.04% |   | $866,378 |   | $14,405 |   | 6.69% |   |
| Tax exempt investment securities                                                       |       | 37,527                 |       | 644 |   | 6.88% |   | 34,399 |   | 598 |   | 7.00% |   |
| Taxable investment securities                                                          |       | 45,597                 |       | 505 |   | 4.44% |   | 45,541 |   | 376 |   | 3.32% |   |
| Federal funds sold                                                                     |       | 31,674                 |       | 224 |   | 2.84% |   | 57,604 |   | 141 |   | 0.98% |   |
| Interest bearing deposits in banks                                                     |       | —                 |       | — |   | — |   | 4,000 |   | 10 |   | 1.01% |   |
| Average earning assets                                                                 |       | 1,097,242              |       | 18,609 |   | 6.80% |   | 1,007,923 |   | 15,530 |   | 6.20% |   |
| Other assets                                                                           |       | 137,099                |       |   |   |   |   | 124,402 |   |   |   |   |   |
| Less ALL                                                                               |       | (14,681                | )          |   |   |   |   | (12,446 | ) |   |   |   |   |
| Average total assets                                                                   |       | $1,219,660             |       |   |   |   |   | $1,119,879 |   |   |   |   |   |
| Interest bearing liabilities:                                                          |       |                   |       |   |   |   |   |   |   |   |   |   |   |
| Savings, Now and Money Market                                                          |       | $359,448               |       | $705 |   | 0.79% |   | $349,772 |   | $599 |   | 0.69% |   |
| Time deposits                                                                          |       | 377,498                |       | 2,380 |   | 2.53% |   | 351,437 |   | 1,571 |   | 1.80% |   |
| Other borrowings (1)                                                                   |       | 80,010                 |       | 933 |   | 4.68% |   | 68,279 |   | 552 |   | 3.25% |   |
| Average interest bearing liabilities                                                   |       | 816,956                |       | 4,017 |   | 1.97% |   | 769,487 |   | 2,722 |   | 1.42% |   |
| Non-interest bearing liabilities                                                       |       | 279,283                |       |   |   |   |   | 241,998 |   |   |   |   |   |
| Other liabilities                                                                      |       | 7,235                  |       |   |   |   |   | 9,291 |   |   |   |   |   |
| Shareholders’ equity                                                              |       | 116,187                |       |   |   |   |   | 99,103 |   |   |   |   |   |
| Average total liabilities and shareholders’  equity                               |       | $1,219,660             |       |   |   |   |   | $1,119,879 |   |   |   |   |   |
| Net interest-rate spread                                                               |       |                   |       |   |   | 4.83% |   |   |   |   |   | 4.78% |   |
| Impact of non-interest bearing sources and  other changes in balance sheet composition |       |                   |       |   |   | 0.50% |   |   |   |   |   | 0.33% |   |
| Net interest income and net interest margin (2)                                   |       |                   |       | $14,592 |   | 5.33% |   |   |   | $12,808 |   | 5.11% |   |

 

----

(1) For the purpose of this schedule the Company’s subordinateddebentures are included in other borrowings.

(2) Net interest margin is calculated by dividing net interest incomeby average earning assets.

(3) Includes loans on non-accrual status.

 

14

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| ** **                                                                             | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------------------------------------------|------------|----------------------|------------|
| ** **                                                                             | ** ** | **June 30, 2005**    | ** ** | **June 30, 2004** | ** ** |
| ** **                                                                             | ** ** | **Average  Balance** | ** ** | **Interest** | ** ** | **Yield/  Rate** | ** ** | **Average  Balance** | ** ** | **Interest** | ** ** | **Yield/  Rate** | ** ** |
| Earning assets:                                                                        |       |                 |       |   |   |   |   |   |   |   |   |   |   |
| Portfolio loans (3)                                                                    |       | $964,102             |       | $33,360 |   | 6.98% |   | $852,007 |   | $28,453 |   | 6.72% |   |
| Tax exempt investment securities                                                       |       | 37,233               |       | 1,272 |   | 6.89% |   | 34,231 |   | 1,194 |   | 7.01% |   |
| Taxable investment securities                                                          |       | 45,892               |       | 896 |   | 3.94% |   | 46,349 |   | 735 |   | 3.19% |   |
| Federal funds sold                                                                     |       | 41,647               |       | 536 |   | 2.60% |   | 39,667 |   | 194 |   | 0.98% |   |
| Interest bearing deposits in banks                                                     |       | 590                  |       | 7 |   | 2.39% |   | 3,974 |   | 20 |   | 1.01% |   |
| Average earning assets                                                                 |       | 1,089,464            |       | 36,072 |   | 6.68% |   | 976,229 |   | 30,596 |   | 6.30% |   |
| Other assets                                                                           |       | 134,182              |       |   |   |   |   | 121,863 |   |   |   |   |   |
| Less ALL                                                                               |       | (14,359              | )          |   |   |   |   | (12,151 | ) |   |   |   |   |
| Average total assets                                                                   |       | $1,209,288           |       |   |   |   |   | $1,085,941 |   |   |   |   |   |
| Interest bearing liabilities:                                                          |       |                 |       |   |   |   |   |   |   |   |   |   |   |
| Savings Deposits                                                                       |       | $379,468             |       | $1,566 |   | 0.83% |   | $342,768 |   | $1,142 |   | 0.67% |   |
| Time deposits                                                                          |       | 363,777              |       | 4,189 |   | 2.32% |   | 340,019 |   | 3,032 |   | 1.79% |   |
| Other borrowings (1)                                                                   |       | 71,145               |       | 1,649 |   | 4.67% |   | 67,556 |   | 1,109 |   | 3.30% |   |
| Average interest bearing liabilities                                                   |       | 814,389              |       | 7,404 |   | 1.83% |   | 750,343 |   | 5,283 |   | 1.42% |   |
| Non-interest bearing liabilities                                                       |       | 273,595              |       |   |   |   |   | 228,424 |   |   |   |   |   |
| Other liabilities                                                                      |       | 7,539                |       |   |   |   |   | 10,331 |   |   |   |   |   |
| Shareholders’ equity                                                              |       | 113,764              |       |   |   |   |   | 96,843 |   |   |   |   |   |
| Average total liabilities and shareholders’  equity                               |       | $1,209,288           |       |   |   |   |   | $1,085,941 |   |   |   |   |   |
| Net interest-rate spread                                                               |       |                 |       |   |   | 4.85% |   |   |   |   |   | 4.88% |   |
| Impact of non-interest bearing sources and  other changes in balance sheet composition |       |                 |       |   |   | 0.46% |   |   |   |   |   | 0.33% |   |
| Net interest income and net interest margin  (2)                                       |       |                 |       | $28,668 |   | 5.31% |   |   |   | $25,313 |   | 5.21% |   |

 

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(1) For the purpose of this schedule the Company’s subordinateddebentures are included in other borrowings.

(2) Net interest margin is calculated by dividing net interest incomeby average earning assets

(3) Includes loans on non-accrual status.

 

15

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The following tables setforth changes in interest income and expense for each major category of earningassets and interest-bearing liabilities, and the amount of change attributableto volume and rate changes for the periods indicated. Changes not specificallyattributable to rate or volume have been allocated to rate changes (dollars inthousands).

 

###### **Analysis of Changes in Net Interest Income**

 
| ** **                              | ** ** | **Three Months Ended June 30, 2005 over 2004** | ** ** |
|-----------------------------------------|------------|------------------------------------------------|------------|
| ** **                              | ** ** | **Volume**                                     | ** ** | **Rate** | ** ** | **Total** | ** ** |
| Increase (decrease) in interest income: |       |                                           |       |   |   |   |   |
| Portfolio loans                         |       | $1,935                                         |       | $896 |   | $2,831 |   |
| Tax-exempt investment securities        |       | 55                                             |       | (9 | ) | 45 |   |
| Taxable investment securities           |       | 0                                              |       | 129 |   | 129 |   |
| Federal funds sold                      |       | (64                                            | )          | 147 |   | 83 |   |
| Interest-bearing deposits               |       | (10                                            | )          | 0 |   | (10 | ) |
| Net increase                            |       | 1,916                                          |       | 1,162 |   | 3,079 |   |
| Increase in interest expense:           |       |                                           |       |   |   |   |   |
| Interest-bearing accounts               |       | 17                                             |       | 89 |   | 106 |   |
| Time deposits                           |       | 117                                            |       | 692 |   | 809 |   |
| Other borrowings (1)                    |       | 95                                             |       | 286 |   | 381 |   |
| Net increase                            |       | 229                                            |       | 1,066 |   | 1,296 |   |
| Total net increase                      |       | $1,688                                         |       | $96 |   | $1,783 |   |

 

----

(1) For the purpose of this schedule the interest on the Company’ssubordinated debentures is included in other borrowings.

 
| ** **                              | ** ** | **Six Months Ended June 30, 2005 over 2004** | ** ** |
|-----------------------------------------|------------|----------------------------------------------|------------|
| ** **                              | ** ** | **Volume**                                   | ** ** | **Rate** | ** ** | **Total** | ** ** |
| Increase (decrease) in interest income: |       |                                         |       |   |   |   |   |
| Portfolio loans                         |       | $3,733                                       |       | $1,175 |   | $4,908 |   |
| Tax-exempt investment securities        |       | 104                                          |       | (26 | ) | 78 |   |
| Taxable investment securities           |       | (7                                           | )          | 168 |   | 161 |   |
| Federal funds sold                      |       | 10                                           |       | 332 |   | 342 |   |
| Interest-bearing deposits               |       | (17                                          | )          | 4 |   | (13 | ) |
| Net increase                            |       | 3,823                                        |       | 1,653 |   | 5,476 |   |
| Increase in interest expense:           |       |                                         |       |   |   |   |   |
| Savings, Now and Money Market           |       | 122                                          |       | 302 |   | 424 |   |
| Time deposits                           |       | 211                                          |       | 945 |   | 1,157 |   |
| Other borrowings (1)                    |       | 59                                           |       | 482 |   | 540 |   |
| Net increase                            |       | 392                                          |       | 1,729 |   | 2,121 |   |
| Total net increase (decrease)           |       | $3,431                                       |       | $(76 | ) | $3,355 |   |

 

----

(1) For the purpose of this schedule the interest on the Company’ssubordinated debentures is included in other borrowings.

 

16

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**Non-interest Income**

 

The Company’s non-interestincome consists primarily of service charges on deposit accounts, investmentservice fee income, other service fees, and mortgage loan origination andprocessing fees.

 

For the three andsix-month periods ended June 30, 2005, total non-interest income increased$818,000 or 30% and $859,000 or 16% over the same periods in 2004.  This increase is due in part to the gain onsale of government-guaranteed loans of $291,000 and $403,000 for the three andsix-month periods ended June 30, 2005, there were no such gains recorded in2004.

 

In addition,service charge income increased $112,000 or 9% and $103,000 or 4%, andinvestment service fee income increased $162,000 or 188% and $1,000 or 0.03%for the three and six-month periods ended June 30, 2005 as compared to the sameperiods of 2004.

 

The Company alsoreceived proceeds of $275,000 for a settlement of a historic contract dispute,which was recorded in other income in the second quarter of 2005.

 

The increase tonon-interest income was offset by a reduction in gains on the sale andpackaging of residential mortgage loans of $93,000 or 8% and $15,000 or 0.7%from the three and six-month periods of 2004.

 

**Non-interest Expense**

 

Non-interestexpenses consist of salaries and related employee benefits, occupancy andequipment expenses, data processing fees, professional fees, directors’ fees,and other operating expenses. Non-interest expense increased $2.16 million or24% and $3.24 million or 18% over the same three and six-month periods of2004.  Approximately $327,000 or 15% ofthe second quarter increase and $690,000 or 21% of the year-to-date increaserelates to operating costs of three new branches that were opened during thefourth quarter of 2004.  Salaries andbenefits increased $1.02 million or 21% and $1.54 million or 16% over the samethree and six-month periods of last year, partially due to $370,000 incompensation expense related to the retirement of the Company’s former ChiefOperating Officer in the second quarter of 2005.  Other expenses increased $501,000 or 21% and$813,000 or 17% over the same three and six-month periods in 2004, partiallydue to two separate $100,000 reserves for operational losses were recordedduring the first and second quarter of 2005. Also included in total non-interest expense was $400,000 in terminatedmerger charges recorded in the second quarter of 2005 for the termination ofthe Gold Country Financial Services merger agreement.

 

The followingtables set forth a summary of non-interest expense for the periods indicated(dollars in thousands, percentages are annualized):

 
| ** **                               | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,**     | ** ** |
|------------------------------------------|------------|---------------------------------|------------|-----------------------------------|------------|
| ** **                               | ** ** | **2005**                        | ** ** | **2004**                          | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                               | ** ** | **Expense**                     | ** ** | **%****of  Avg  Earning  Assets** | ** ** | **Expense** | ** ** | **%****of  Avg  Earning  Assets** | ** ** | **Expense** | ** ** | **%****of  Avg  Earning  Assets** | ** ** | **Expense** | ** ** | **%****of  Avg  Earning  Assets** | ** ** |
| Salaries and benefits                    |       | $5,902                          |       | 2.16%                             |       | $4,881 |   | 1.95% |   | $11,305 |   | 2.09% |   | $9,768 |   | 2.01% |   |
| Occupancy & equipment                |       | 1,669                           |       | 0.61%                             |       | 1,435 |   | 0.57% |   | 3,280 |   | 0.61% |   | 2,787 |   | 0.57% |   |
| Other expenses                           |       | 2,915                           |       | 1.07%                             |       | 2,414 |   | 0.96% |   | 5,536 |   | 1.02% |   | 4,723 |   | 0.97% |   |
| Terminated merger expenses               |       | 400                             |       | 0.15%                             |       | — |   | — |   | 400 |   | 0.07% |   | — |   | — |   |
| Amortization of core deposit intangibles |       | 180                             |       | 0.07%                             |       | 180 |   | 0.07% |   | 360 |   | 0.07% |   | 360 |   | 0.07% |   |
| Total non-interest expense               |       | $11,066                         |       | 4.06%                             |       | $8,910 |   | 3.56% |   | $20,881 |   | 3.85% |   | $17,638 |   | 3.63% |   |

 

17

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**Efficiency Ratio**

 

The Company uses a widelyaccepted banking operating ratio as a measure of its progress in improvingoperating efficiency.  The efficiencyratio is derived by dividing total non-interest expenses (excludingamortization of intangibles, investments in tax credit limited partnerships andterminated merger expenses) by the sum of tax adjusted net interest income andnon-interest income.  Simply put, thisratio describes the operating expense necessary to generate $1 in taxequivalent total revenue.  The Company’sefficiency ratio increased modestly in the second quarter and six-month periodsof 2005 driven by the expense increases outlined above in the “Non-interestExpense” discussion.

 

Thefollowing table sets forth the Company’s tax adjusted efficiency ratio for theperiods indicated (dollars in thousands):

 
| ** **                                    | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                    | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| Non-interest expense                          |       | $11,066                          |       | $8,910                         |       | $20,881 |   | $17,638 |   |
| Amortization of core deposit intangibles      |       | (180                             | )          | (180                           | )          | (360 | ) | (360 | ) |
| Investment in limited partnership             |       | (108                             | )          | (56                            | )          | (216 | ) | (112 | ) |
| Merger expenses                               |       | (400                             | )          | —                         |       | (401 | ) | — |   |
| Net non-interest expense                      |       | $10,378                          |       | $8,674                         |       | $19,904 |   | $17,166 |   |
|                                          |       |                             |       |                           |       |   |   |   |   |
| Fully tax equivalent income:                  |       |                             |       |                           |       |   |   |   |   |
| Net interest income                           |       | $14,355                          |       | $12,587                        |       | $28,200 |   | $24,869 |   |
| Non-interest income                           |       | 3,531                            |       | 2,713                          |       | 6,140 |   | 5,281 |   |
| Tax benefit adjustment for tax-exempt  income |       | 365                              |       | 310                            |       | 696 |   | 596 |   |
| Total fully tax equivalent income             |       | $18,251                          |       | $15,609                        |       | $35,036 |   | $30,746 |   |
|                                          |       |                             |       |                           |       |   |   |   |   |
| Efficiency Ratio                              |       | 56.9%                            |       | 55.6%                          |       | 56.8% |   | 55.8% |   |

 

**Income Taxes**

 

The following table reflects the Company’s taxprovision and the related effective tax rate for the periods indicated (dollarsin thousands):

 
| ** **         | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|--------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **         | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| Tax provision      |       | $2,269                           |       | $2,109                         |       | $4,435 |   | $4,056 |   |
| Effective tax rate |       | 35.7%                            |       | 36.4%                          |       | 35.3% |   | 36.2% |   |

 

The Company’s effective taxrate varies with changes in the relative amounts of its non-taxable income andnon-deductible expenses. The increase in the Company’s tax provision isattributable to increases in the Company’s net income and the relative amountof tax-exempt income.

 

18

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###### **Asset Quality**

 

The Company concentrates itslending activities primarily within areas directly serviced by its branches aspreviously discussed.

 

The Company manages itscredit risk through diversification of its loan portfolio, the application ofunderwriting policies and procedures and credit monitoring practices. Althoughthe Company has a diversified loan portfolio, a significant portion of itsborrowers’ ability to repay their loans is dependent upon the professionalservices and residential real estate development industry sectors. Generally,loans are secured by real estate or other assets and are expected to be repaidfrom the cash flows of the borrower or proceeds from the sale of collateral.

 

The following table sets forth the amounts of loans outstanding bycategory as of the dates indicated (dollars in thousands):

 
| ** **                                           | ** ** | **June 30,  2005** | ** ** | **% of  Total** | ** ** | **December 31,  2004** | ** ** | **% of  Total** | ** ** |
|------------------------------------------------------|------------|--------------------|------------|-----------------|------------|------------------------|------------|-----------------|------------|
| Commercial and residential real estate  mortgage     |       | $649,313           |       | 65.15%          |       | $600,108               |       | 64.08%          |       |
| Commercial and residential real estate  construction |       | 216,645            |       | 21.74%          |       | 199,140                |       | 21.26%          |       |
| Commercial                                           |       | 113,598            |       | 11.40%          |       | 119,823                |       | 12.79%          |       |
| Agricultural                                         |       | 11,688             |       | 1.17%           |       | 11,514                 |       | 1.23%           |       |
| Other loans                                          |       | 5,394              |       | 0.54%           |       | 5,928                  |       | 0.63%           |       |
| Total                                                |       | 996,639            |       | 100.00%         |       | 936,513                |       | 100.00%         |       |
| Deferred loan fees and costs, net                    |       | (2,821             | )          | -0.29%          |       | (3,008                 | )          | -0.33%          |       |
| Less allowance for loan losses                       |       | (14,780            | )          | -1.48%          |       | (13,786                | )          | -1.47%          |       |
| Total net loans                                      |       | $979,038           |       |            |       | $919,719               |       |            |       |

 

The followingtable sets forth a summary of the Company’s non-performing assets as of thedates indicated (dollars in thousands):

 
| ** **                                               | ** ** | **June 30,  2005** | ** ** | **December 31,  2004** | ** ** |
|----------------------------------------------------------|------------|--------------------|------------|------------------------|------------|
| Non-accrual loans                                        |       | $1,583             |       | $889                   |       |
| Non-performing assets as a % of total  assets            |       | 0.11%              |       | 0.07%                  |       |
| Non-accrual loans as a % of gross loans                  |       | 0.16%              |       | 0.10%                  |       |
| Ratio of allowance for loan losses to  non-accrual loans |       | 9.37               |       | 15.51                  |       |

 

The Company’s non-accrualloans increased from $889,000 to $1,583,000 in the first six months of2005.  The increase was driven by theaddition of a loan in the amount of $679,000 which is secured by a first deedof trust on a local property. Management expects this loan to be paid off byyear end with no material loss to the Company. The Company’s “coverage ratio” or the ratio of allowance for loan lossesto non-accrual loans decreased from 15.51 to 9.34 during the first six monthsof 2005.  The Company carried no otherreal estate as of June 30, 2005 or December 31, 2004.

 

**Allowance for Loan losses**

 

Theallowance for loan losses is established through charges to earnings in theform of the provision for loan losses. Loan losses are charged to, andrecoveries are credited to, the allowance for loan losses. The provision forloan losses is determined after considering various factors such as loan lossexperience, current economic conditions, maturity of the portfolio, size of theportfolio, industry concentrations, borrower credit history, the existingallowance for loan losses, independent loan reviews,

 

19

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current charges to and recoverieswithin the allowance for loan losses and the overall quality of the portfolioas determined by management, regulatory agencies, and independent credit reviewconsultants retained by the Company.

 

The adequacy of the Company’s allowancefor loan losses is based on specific and formula allocations to the Company’sloan portfolio. Specific allocations are made for impaired loans. The specificallocations are increased or decreased through management’s reevaluation of thestatus of the particular problem loans. Loans which do not receive a specificallocation receive an allowance allocation based on a formula represented by apercentage factor based on underlying collateral, type of loan, historicalcharge-offs and general economic conditions which is applied against thegeneral portfolio segments.

 

It is the policy of management to make additions to theallowance for loan losses so that it remains adequate to cover anticipatedcharge-offs and management believes that the allowance at June 30, 2005 isadequate. However, the determination of the amount of the allowance isjudgmental and subject to economic conditions which cannot be predicted withcertainty. Accordingly, the Company cannot predict whether charge-offs of loansin excess of the allowance may be required in future periods. The provision forloan losses reflects an accrual sufficient to cover projected potentialcharge-offs.  The table below sets forththe allocation of the allowance for loan losses by loan type as of the datesspecified. The allocation of individual categories of loans includes amountsapplicable to specifically identified, as well as unidentified, losses inherentin that segment of the loan portfolio and will necessarily change whenevermanagement determines that the risk characteristics of the loan portfolio havechanged.

 

Management believes that anybreakdown or allocation of the allowance for loan losses into loan categorieslends an appearance of exactness which does not exist, in that the allowance isutilized as a single unallocated allowance available for all loans andundisbursed commitments.

 

The followingtable summarizes the activity in the allowance for loan losses for the periodsindicated (dollars in thousands):

 
| ** **                                                | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-----------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| Beginning balance for allowance for loan  losses          |       | $14,288                          |       | $12,209                        |       | $13,786 |   | $11,529 |   |
| Provision for loan losses                                 |       | 460                              |       | 600                            |       | 910 |   | 1,310 |   |
| Charge offs:                                              |       |                             |       |                           |       |   |   |   |   |
| Commercial                                                |       | 238                              |       | 150                            |       | 308 |   | 175 |   |
| Real estate                                               |       | —                           |       | —                         |       | — |   | — |   |
| Agricultural                                              |       | —                           |       | —                         |       | — |   | — |   |
| Other                                                     |       | 37                               |       | 6                              |       | 20 |   | 25 |   |
| Total charge offs                                         |       | 275                              |       | 156                            |       | 328 |   | 200 |   |
| Recoveries:                                               |       |                             |       |                           |       |   |   |   |   |
| Commercial                                                |       | 274                              |       | 7                              |       | 376 |   | 20 |   |
| Real estate                                               |       | —                           |       | —                         |       | — |   | — |   |
| Agricultural                                              |       | —                           |       | —                         |       | — |   | — |   |
| Other                                                     |       | 33                               |       | 1                              |       | 36 |   | 2 |   |
| Total recoveries                                          |       | 307                              |       | 8                              |       | 412 |   | 22 |   |
| Net recoveries (charge offs)                              |       | 32                               |       | (148                           | )          | 84 |   | (178 | ) |
| Ending balance                                            |       | $14,780                          |       | $12,661                        |       | $14,780 |   | $12,661 |   |
| ALL to total loans                                        |       | 1.48%                            |       | 1.45%                          |       | 1.48% |   | 1.45% |   |
| Annualized net recoveries (charge offs) to  average loans |       | 0.01%                            |       | -0.07%                         |       | 0.02% |   | -0.04% |   |
| Annualized provision to average loans                     |       | 0.02%                            |       | 0.03%                          |       | 0.02% |   | 0.03% |   |

 

20

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**Liquidity**

 

A Funds Management Policyhas been developed by the Company’s Management and approved by the Company’sBoard of Directors that establishes guidelines for investments and liquidity.The objectives of this policy are to provide liquidity to meet the financialrequirements of the Company’s customers, maintain adequate reserves as requiredby regulatory agencies and maximize earnings of the Company. The Company’sliquidity ratio at June 30, 2005 was 11.4% and was 12.7% at December 31,2004.  The reduction in the liquidityratio at June 30, 2005 is due to a decrease in unpledged available-for-saleinvestments of $6.0 million and a decrease in cash and cash equivalents of $1.4million which can primarily be attributed to growth in gross loans of $63million offset by growth in deposits and borrowings of $54 million.  Liquidity is computed by dividing liquidassets (consisting of cash and due from banks, available-for-sale investmentsnot pledged, federal funds sold and loans held for sale) by total liabilities.In the first six months of 2005 gross loans grew $60 million while depositsgrew $18 million.  As a result of thisdeficit management increased FHLB borrowings by $36 million.  While the Company has over $100 million inavailable FHLB borrowings, management has deployed a series of strategiesdesigned to increase deposit gathering which management expects will result inimproved deposit growth in the coming periods. Management believes it maintains adequate liquidity levels.

 

**Capital Adequacy**

 

Overall capital adequacy ismonitored on a regular basis by management and reported to the Board ofDirectors on a monthly basis. The Company’s and subsidiary banks’ regulatorsmeasure capital adequacy by using a risk-based capital framework and bymonitoring compliance with minimum risk-based and leverage ratio guidelines.Under the risk-based capital standards, assets reported on the Company’sbalance sheet and certain off-balance sheet items are assigned to riskcategories, each of which is assigned a risk weight.

 

This standard characterizesan institution’s capital as being “Tier 1” capital (defined as principallycomprising shareholders’ equity and qualifying subordinated debentures) and “Tier2” capital (defined as principally comprising the qualifying portion of theallowance for loan losses and any remaining subordinated debentures).

 

                The minimumratio of total risk-based capital to risk-weighted assets, including certainoff-balance sheet items, is 8% (10% to be considered well-capitalized).  The minimum ratio of Tier 1 capital to averageassets (“leverage ratio”) is 4.0% (5.0% to be consideredwell-capitalized).  The minimum ratio ofTier 1 capital to risk-weighted assets is 4.0% (6.0% to be consideredwell-capitalized).  At least one-half(4%) of the total risk-based capital is to be comprised of common equity; thebalance may consist of debt securities and a limited portion of the allowancefor loan losses.  Subordinated debenturesin the amount of $36 million are included in the Company’s Tier 1 capital as ofJune 30, 2005 and December 31, 2004, respectively, as allowed by FederalReserve regulations, in the consolidated totals below.

 

The following table sets forth the Company’s and its bankingsubsidiaries’ capital ratios as of the dates indicated.

 
| ** **                                                     | ** ** | **June 30, 2005** | ** ** | **December 31, 2004** | ** ** |
|----------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                     | ** ** | **ACB**           | ** ** | **CCB**               | ** ** | **LCB** | ** ** | **WSNB** | ** ** | **Company** | ** ** | **ACB** | ** ** | **CCB** | ** ** | **LCB** | ** ** | **WSNB** | ** ** | **Company** | ** ** |
|                                                           |       |              |       |                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total risk-based capital to risk-weighted assets               |       | 11.2%             |       | 12.6%                 |       | 11.5% |   | 11.9% |   | 13.1% |   | 10.3% |   | 12.3% |   | 11.8% |   | 11.2% |   | 12.6% |   |
| Tier 1 capital to risk-weighted assets                         |       | 9.9%              |       | 11.3%                 |       | 10.2% |   | 10.6% |   | 11.8% |   | 9.0% |   | 11.0% |   | 10.5% |   | 9.9% |   | 11.3% |   |
| Tier 1 capital to average assets (“leverage  ratio”) |       | 8.0%              |       | 8.6%                  |       | 9.0% |   | 9.2% |   | 9.8% |   | 7.3% |   | 8.5% |   | 9.6% |   | 8.6% |   | 9.5% |   |

 

The Company andits bank subsidiaries continue to meet all regulatory capital requirements atJune 30, 2005.

 

21

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**ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUTMARKET RISK.**

 

As a financial institution,the Company’s primary component of market risk is interest rate volatility.Fluctuations in interest rates will ultimately impact both the level ofinterest income and interest expense recorded on a large portion of the Company’sassets and liabilities, and the market value of all interest earning assets andinterest bearing liabilities, other than those which possess a short term tomaturity. Since substantially all of the Company’s interest earning assets andinterest bearing liabilities are located at the banking subsidiary level, mostof the Company’s interest rate risk exposure lies at the banking subsidiarylevel other than $36 million in subordinated debentures issued by the Company’ssubsidiary grantor trusts. As a result, all significant interest rate riskprocedures are performed at the banking subsidiary level. The subsidiary banks’real estate loan portfolios, concentrated primarily within Northern California,are subject to risks associated with their local economies.

 

The fundamental objective ofthe Company’s management of its assets and liabilities is to maximize theCompany’s economic value while maintaining adequate liquidity and an exposureto interest rate risk deemed by Management to be acceptable. Managementbelieves an acceptable degree of exposure to interest rate risk results fromthe management of assets and liabilities through maturities, pricing and mix toattempt to neutralize the potential impact of changes in market interest rates.The Company’s profitability is dependent to a large extent upon its netinterest income, which is the difference between its interest income oninterest-earning assets, such as loans and investments, and its interestexpense on interest-bearing liabilities, such as deposits and borrowings. TheCompany is subject to interest rate risk to the degree that itsinterest-earning assets reprice differently than its interest-bearingliabilities. The Company manages its mix of assets and liabilities with thegoals of limiting its exposure to interest rate risk, ensuring adequateliquidity, and coordinating its sources and uses of funds.

 

The Company seeks to controlinterest rate risk exposure in a manner that will allow for adequate levels ofearnings and capital over a range of possible interest rate environments. TheCompany has adopted formal policies and practices to monitor and manageinterest rate risk exposure.  Managementbelieves historically it has effectively managed the effect of changes ininterest rates on its operating results. Management believes that it can continue to manage the short-term effectof interest rate changes under various interest rate scenarios.

 

Managementdeploys an interest rate sensitivity measurement tool to measure the Company’sexposure to future changes in interest rates. This model measures the expected cash flows and repricing of eachfinancial asset/liability separately in measuring the Company’s and each bank’sinterest sensitivity. Based on the results of this model, management believesthe Company balance sheet is “asset sensitive” at this time.  This means the Company expects (all other thingsbeing equal) to expand its net interest income if market rates rise and expectsit conversely to contract if market rates fall. The level of potential or expected contraction indicated by the tablesbelow is considered acceptable by management and is compliant with the Company’sALCO policies.  Management will continueto perform this analysis each quarter to further validate the expected resultsagainst actual data.

 

22

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The following tables, in management’sopinion, reflect estimates of the Company’s future net interest income underdifferent interest rate scenarios.  Thenet interest income estimates are one-year projections based on the earningassets and interest- bearing liabilities as of June 30, 2005.  The estimates are derived from anasset/liability management model first deployed in April 2003.  There are numerous underlying assumptions,including but not limited to, 1) a static balance sheet and mix of earningassets and interest-bearing liabilities; 2) instruments that mature are assumedto be replaced by similar instruments at prevailing market rates; 3) interestrate changes assume a parallel shift in the yield curve and 4) changes indeposit rates will correlate to prevailing interest rates to the same degreethat the Company has experienced in the past. Management believes these assumptions are appropriate, but if they areinaccurate they could have an impact on the results of operations.  Under the shock scenarios, the changes tointerest rates are assumed to occur immediately (on July 1, 2005).  Under the ramp scenarios the changes tointerest rates gradually ramp up or down over the course of one year (dollarsin thousands).

 
| ** **                    | ** ** | **Shock scenario**                  | ** ** |
|-------------------------------|------------|-------------------------------------|------------|
| **Change in  Interest Rates** | ** ** | **Estimated  Net Interest  Income** | ** ** | **Dollar Change  from Base** | ** ** | **Percentage  Change  from Base** | ** ** |
|                          |       |                                |       |   |   |   |   |
| 300 basis point rise          |       | $66,595                             |       | $7,429 |   | 12.56% |   |
| 200 basis point rise          |       | 64,286                              |       | 5,120 |   | 8.65% |   |
| 100 basis point rise          |       | 61,810                              |       | 2,643 |   | 4.47% |   |
| 50 basis point rise           |       | 60,514                              |       | 1,348 |   | 2.28% |   |
| **Base scenario**             | ** ** | **59,166**                          | ** ** | **0** | ** ** | **0.00%** | ** ** |
| 50 basis point decline        |       | 57,212                              |       | (1,954 | ) | -3.30% |   |
| 100 basis point decline       |       | 55,246                              |       | (3,920 | ) | -6.63% |   |
| 200 basis point decline       |       | 51,345                              |       | (7,821 | ) | -13.22% |   |

 
| ** **                    | ** ** | **Ramp scenario**                   | ** ** |
|-------------------------------|------------|-------------------------------------|------------|
| **Change in  Interest Rates** | ** ** | **Estimated  Net Interest  Income** | ** ** | **Dollar Change  from Base** | ** ** | **Percentage  Change  from Base** | ** ** |
|                          |       |                                |       |   |   |   |   |
| 300 basis point rise          |       | $61,682                             |       | $2,515 |   | 4.25% |   |
| 200 basis point rise          |       | 60,889                              |       | 1,723 |   | 2.91% |   |
| 100 basis point rise          |       | 60,047                              |       | 881 |   | 1.49% |   |
| 50 basis point rise           |       | 59,615                              |       | 449 |   | 0.76% |   |
| **Base scenario**             | ** ** | **59,166**                          | ** ** | **0** | ** ** | **0.00%** | ** ** |
| 50 basis point decline        |       | 58,390                              |       | (777 | ) | -1.31% |   |
| 100 basis point decline       |       | 57,593                              |       | (1,573 | ) | -2.66% |   |
| 200 basis point decline       |       | 55,973                              |       | (3,194 | ) | -5.40% |   |

 

23

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The following table shows the loan portfolio composition byrate type as of June 30, 2005.  Itfurther identifies when and at what rate increase scenario the variable rateloans at floors will most likely come off their floor and reprice. Loans at floorscan generally be refinanced by another financial institution at anytime by theborrower without penalty if the borrower chooses to do so.  The Company monitors the rate of these loansrelative to prevailing rates and will modify terms of certain loans that are ata significantly higher rate than market directly with the borrower when therelationship dictates it is a prudent business decision (dollars in thousands).

 
| **Loans**                | ** ** | **Balance** | ** ** | **%****of  Total** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|--------------------------|------------|-------------|------------|--------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| Variable                 |       | $564,243    |       | 57%                |       |       |       |       |       |       |       |       |       |       |       |       |       |
| Variable at Floor * |       | 191,342     |       | 19%                |       |       |       |       |       |       |       |       |       |       |       |       |       |
| Fixed                    |       | 241,054     |       | 24%                |       |       |       |       |       |       |       |       |       |       |       |       |       |
| Total Gross Loans        |       | $996,63     |       | 100%               |       |       |       |       |       |       |       |       |       |       |       |       |       |

 
| ** **                   | ** ** | *** Variable Loans at Floor** | ** ** |
|------------------------------|------------|-------------------------------|------------|
| ** **                   | ** ** | **Coming off Floor**          | ** ** | **Repricing Schedule** | ** ** |
| **Rate Increase  Scenarios** | ** ** | **Balance**                   | ** ** | **% of  Total** | ** ** | **Within 1 year** | ** ** | **1-2 years** | ** ** | **2-3 years** | ** ** | **3-4 years** | ** ** | **4+ years** | ** ** | **Total** | ** ** |
| 50 bps                       |       | $182,423                      |       | 95% |   | $37,101 |   | $38,165 |   | $36,906 |   | $38,546 |   | $31,705 |   | $182,423 |   |
| 100 bps                      |       | 2,491                         |       | 1% |   | 1,801 |   | 582 |   | 109 |   | — |   | — |   | 2,491 |   |
| >100 bps                  |       | 6,428                         |       | 4% |   | 2,841 |   | 749 |   | 1,747 |   | 442 |   | 649 |   | 6,428 |   |
| Total at Floor               |       | $191,342                      |       | 100% |   | $41,743 |   | $39,496 |   | $38,761 |   | $38,988 |   | $32,354 |   | $191,342 |   |

 

Based on the data presented above, management believes that approximately 75% of total loans will ultimately adjust if market interest rates immediately increased 50 basis points, of which approximately 46% will adjust within one year of the rate change.

 

24

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**ITEM 4.    Controls and Procedures.**

 

The Company’s ChiefExecutive Officer and Chief Financial Officer, based on their evaluation as ofthe date of this report of the Company’s disclosure controls and procedures (asdefined in Exchange Act Rule 13a—15(e), have concluded that the Company’sdisclosure controls and procedures are adequate and effective for purposes ofRule 13a—15(e) in timely alerting them to material information relating tothe Company required to be included in the Company’s filings with the SEC underthe Securities Exchange Act of 1934.

 

There were no significantchanges in the Company’s internal control over financial reporting or in otherfactors that could significantly affect internal control over financialreporting subsequent to the date of their evaluation.

 

25

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**PART II. Other Information**

 

**Item #1. Legal proceedings**

 

The Company and itssubsidiaries are involved in various routine legal actions arising in theordinary course of business. The Company believes that the ultimate dispositionof all currently pending matters will not have a material adverse effect on theCompany’s financial condition or results of operations.

 

# **Item#2. Unregistered sales of equity securities and use of proceeds**

N/A

 

# **Item#3. Defaults upon Senior Securities**

N/A

 

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

 

Proposal  1. **Election of Directors**:

 

| ** **          | ** ** | **Voted For** | ** ** | **Withheld** | ** ** |
|---------------------|------------|---------------|------------|--------------|------------|
| Charles W. Bacchi   |       | 5,936,221     |       | 84,296       |       |
| Mathew A. Bruno Sr. |       | 5,956,276     |       | 64,241       |       |
| Lary A. Davis       |       | 5,929,891     |       | 90,626       |       |
| William M. Eames    |       | 5,944,833     |       | 75,684       |       |
| William Fisher      |       | 5,953,772     |       | 66,745       |       |
| Gary D. Gall        |       | 5,934,516     |       | 76,001       |       |
| Jan T. Haldeman     |       | 5,893,165     |       | 127,352      |       |
| Howard Jahn         |       | 5,956,075     |       | 64,442       |       |
| Alan J. Kleinert    |       | 5,930,307     |       | 90,210       |       |
| Lori A. Warden      |       | 5,953,509     |       | 67,368       |       |

 

Proposal 2**. Amendment of the WesternSierra Bancorp 1997, 1999, and 2004 Stock Option Plans. **To designate the maximum aggregatenumber of shares that may be issued under each plan for Incentive StockOptions.

 

| Voted for: |   | 3,622,006 |   |
|------------|--------|-----------|--------|
| Abstained: |   | 98,424    |   |
| Against:   |   | 96,538    |   |
| Not Voted  |   | 2,199,458 |   |

 

Proposal 3. **Ratification ofAppointment of Accountants.**To ratify the appointment of Perry-SmithLLP as the Company’s independent public accountants.

 

| Voted for: |   | 5,922,683 |   |
|------------|--------|-----------|--------|
| Abstained: |   | 36,867    |   |
| Against:   |   | 56,875    |   |

 

# **Item #5. OtherInformation**

N/A

 

26

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**Item #6A. Exhibits**

 
| **Exhibit  No.** | ** ** | **Description of Exhibit**                                                                                                                                                                                                                                                                                |
|------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|             |       |                                                                                                                                                                                                                                                                                                      |
| 3.1              |       | Articles of Incorporation  are contained in the Registrant’s Registration Statement on Form S-4,  file #333-66675, as Exhibit 3.1 and are incorporated herein by this  reference.                                                                                                                    |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 3.2              |       | Bylaws are contained in  the Registrant’s Registration Statement on Form S-4, file #333-66675,  as Exhibit 3.2 and are incorporated herein by this reference.                                                                                                                                        |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 3.3              |       | Amendments to  Bylaws are contained in the Registrant’s Registration Statement on Form S-4,  file #333-76678, as Exhibit 3.2 and are incorporated herein by this  reference.                                                                                                                         |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.1             |       | Severance Benefits  Agreement dated January 16, 2004 between Mr. Kirk Dowdell and Western Sierra  Bancorp. (3)                                                                                                                                                                                            |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.2             |       | Executive Salary  Continuation Agreement dated August 22, 2002, between Mr. Gary D. Gall and  Western Sierra National Bank. (1)                                                                                                                                                                           |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.3             |       | Western Sierra Bancorp  1999 Stock Option Plan and form of stock option agreements are contained in  the Registrant’s Registration Statement on Form S-8, file #333-86653, as  Exhibit 99.3 and are incorporated herein by this reference.                                                           |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.4             |       | Western Sierra National  Bank 1989 Stock Option Plan, form of incentive stock option and form of  nonqualified stock option agreements are contained in the Registrant’s  Registration Statement on Form S-4, file #333-66675, as Exhibit 10.10  and are incorporated herein by this reference. |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.5             |       | Western Sierra Bancorp  1997 Stock Option Plan, form of incentive stock option and form of nonqualified  stock option agreements are contained in the Registrant’s Registration  Statement on Form S-4, file #333-66675, as Exhibit 10.11 and are incorporated  herein by this reference.            |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.6             |       | Indemnification Agreement  between Mr. Gary D. Gall and Western Sierra National Bank is contained in the  Registrant’s Registration Statement on Form S-4, file #333-66675, as Exhibit  10.13 and is incorporated herein by this reference.                                                          |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.7             |       | Indemnification Agreement  between Mr. Kirk Dowdell and Western is contained in the Registrant’s  Registration Statement on Form S-4, file #333-86653, as Exhibit 10.14 and is  incorporated herein by this reference.                                                                               |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.8             |       | Form of Indemnification  Agreement for the directors of Western Sierra National Bank is contained in  the Registrant’s Registration Statement on Form S-4 file, #333-66675, as  Exhibit 10.15 and is incorporated herein by this reference.                                                          |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.9             |       | Executive Salary  Continuation Agreement dated February 1, 2002, between Mr. Kirk N. Dowdell.  (1)                                                                                                                                                                                                        |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.10            |       | Severance Benefits  Agreement dated July 25, 2002 between Mr. Gary D. Gall and Western Sierra  Bancorp included as an exhibit to the Registrant’s 10-K for December 31, 2004  and incorporated herein by this reference.                                                                             |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.11            |       | Western Sierra National  Bank Incentive Compensation Plan for Senior Management is contained in the  Registrant’s Registration Statement on Form S-4, file # 333-66675, as Exhibit  10.12 and is incorporated herein by this reference.                                                              |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.12            |       | Wells Fargo Note Contract  dated April 10, 2003. (1)                                                                                                                                                                                                                                                      |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.13            |       | Executive Salary  Continuation Agreement dated June 22, 2002, between Mr. Fred Rowden and  Central California Bank. (1)                                                                                                                                                                                   |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.14            |       | Executive Salary  Continuation Agreement dated June 1, 2002, between Mr. Phillip Wood and  Western Sierra National Bank. (1)                                                                                                                                                                              |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.15            |       | Executive Salary  Continuation Agreement dated June 25, 2002, between Mr. Doug Nordell and  Roseville 1st National Bank. (1)                                                                                                                                                                              |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.16            |       | Contract between Woodbury  Financial Services, Inc. and Western Sierra National Bank dated July 22, 2003.  (2)                                                                                                                                                                                            |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.17            |       | Summary of financial terms  for Western Sierra Statutory Trusts III and IV. (2)                                                                                                                                                                                                                           |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.18            |       | Severance Benefits  Agreement dated February 10, 2004 between Mr. Anthony Gould and Western  Sierra Bancorp. (3)                                                                                                                                                                                     |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.19            |       | Western Sierra Bancorp 2004  Stock Option Plan is included as an exhibit in the Registrant’s Definitive  Proxy Statement for 2004 and is incorporated herein by this reference.                                                                                                                      |
|             |       |                                                                                                                                                                                                                                                                                                      |
| 10.20            |       | Form of the nonqualified  and incentive agreements for the Western Sierra Bancorp 2004 stock option  plan is included as an exhibit in the Registrant’s September 30, 2004 10-Q  and is incorporated herein by this reference.                                                                       |

 

27

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| 10.21  |   | Employment Agreement dated  May 3, 2005, between Western Sierra Bancorp and Patrick J. Rusnak is included  in the Registrant’s March 31, 2005 10-Q and is incorporated herein by this  reference.             |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                               |
| 10.22  |   | Retirement, Consulting and  Noncompetition Agreement dated June 30, 2005 between Western Sierra Bancorp  and John G. Briner was filed on Form 8-K, file #000-25979, and is  incorporated herein by this reference. |
|   |   |                                                                                                                                                                                                               |
| 10.23  |   | Executive Survivor Income  Agreement dated July 13, 2005 between Western Sierra Bank and Anthony J.  Gould was filed on Form 8-K, file #000-25979, and is incorporated herein by  this reference.                  |
|   |   |                                                                                                                                                                                                               |
| 10.24  |   | Deferred Compensation  Agreement dated July 22, 2005 between Western Sierra Bancorp and Patrick J.  Rusnak was filed on Form 8-K, file #000-25979, and is incorporated herein by  this reference.                  |
|   |   |                                                                                                                                                                                                               |
| 11.1   |   | Statement re: Computation  of earnings per share is included in Note 12 to the consolidated financial  statements.                                                                                                 |
|   |   |                                                                                                                                                                                                               |
| 31.1   |   | Section 302 Certification  by Anthony J. Gould                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                               |
| 31.2   |   | Section 302 Certification by Gary D. Gall                                                                                                                                                                          |
|   |   |                                                                                                                                                                                                               |
| 32.1   |   | Section 906 Certification  by Anthony J. Gould                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                               |
| 32.2   |   | Section 906 Certification  by Gary D. Gall                                                                                                                                                                         |

 

----

(1)   included as an exhibit to the Registrant’s10-Q for March 31, 2003, which is incorporated by this reference herein.

(2)   included as an exhibit to the Registrant’s10-Q for September 30, 2003, which is incorporated by this reference herein.

(3)   included as an exhibit to the Registrant’s10-Q for March 31, 2004, which is incorporated by this reference herein.

 

28

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**SIGNATURES**

 

Following the requirementsof the Securities Exchange Act of 1934, the registrant has duly caused thisreport to be signed on its behalf by the undersigned, thereunto dulyauthorized.

 

 
| **WESTERN SIERRA BANCORP** | ** **                                                         | ** **                 |
|----------------------------|--------------------------------------------------------------------|----------------------------|
| (Registrant)               |                                                               |                       |
|                       |                                                               |                       |
| Date: August 5, 2005       |                                                               |                       |
|                       |                                                               |                       |
|                       |                                                               | /s/  GARY D. GALL     |   |   |
|                       | Gary D. Gall                                                       |                       |
|                       | *President/Chief  Executive Officer*                               |                       |
|                       |                                                               |                       |
|                       |                                                               |                       |
|                       |                                                               | /s/  ANTHONY J. GOULD |   |   |
|                       | Anthony J. Gould                                                   |                       |
|                       | *Executive  Vice President/Chief Financial and Accounting Officer* |                       |
|                            |                                                                    |                            |  |  |  |  |

 

29

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