<PAGE>
 
                      SECURITIES AND EXCHANGE COMMISSION
                            Washington, D.C.  20549
                                             
                                  FORM 10-KSB
(Mark One)
[X]       ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
          EXCHANGE ACT OF 1934 (Fee Required)

For the fiscal year ended June 30, 1997

[_]       TRANSITIONAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
          EXCHANGE ACT OF 1934 (No Fee Required)

For the transition period from                to                
                               ---------------  ------------

                          Commission File No. 0-28032

                            PATAPSCO BANCORP, INC.
                            ----------------------
            (Exact name of registrant as specified in its charter)

         Maryland                                     52-1951797      
----------------------------                       -------------------
(State or other jurisdiction                        (I.R.S. employer
of incorporation or organization)                  identification no.)


1301 Merritt Boulevard, Dundalk, Maryland              21222-2194      
--------------------------------------------          ------------
(Address of principal executive offices)               (Zip Code)

      Registrant's telephone number, including area code:  (410) 285-1010

          Securities registered pursuant to Section 12(b) of the Act:
                                     None

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

                    Common stock, par value $.01 per share
                    --------------------------------------
                               (Title of Class)

Check whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act during the past 12 months (or
such shorter period that the registrant was required to file such reports) and
(2) has been subject to such filing requirements for the past 90
days. Yes  X  No
          ---   ---

Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [X]

For the fiscal year ended June 30, 1997, the registrant had $6,115,150 in
revenues.

As of September 22, 1997, the aggregate market value of voting stock held by
non-affiliates was approximately $7,476,921, computed by reference to the most
recent sales price on September 15, 1997 as reported on the National Quotation
Bureau Pink Sheets. For purposes of this calculation, it is assumed that
directors, executive officers and beneficial owners of more than 5% of the
registrant's outstanding voting stock are affiliates.

Number of shares of Common Stock outstanding as of September 22, 1997:  362,553.

                     DOCUMENTS INCORPORATED BY REFERENCE 

       The following lists the documents incorporated by reference and the Part
of the Form 10-KSB into which the document is incorporated:

       1.   Portions of the registrant's Annual Report to Stockholders for the
            Fiscal Year ended June 30, 1997. (Parts II and III)

       2.   Portions of Proxy Statement for registrant's 1997 Annual Meeting of
            Stockholders. (Part III)
<PAGE>
 
                                    PART I

Item 1.  Description of Business
--------------------------------

General

    Patapsco Bancorp, Inc. Patapsco Bancorp, Inc. (the "Company") was
incorporated under the laws of the State of Maryland in November 1995. On April
1, 1996, Patapsco Federal Savings and Loan Association (the "Association"), the
predecessor of The Patapsco Bank (the "Bank"), converted from mutual to stock
form (the "Stock Conversion") and reorganized into the holding company form of
ownership as a wholly owned subsidiary of the Company (the "Conversion"). As a
result of the Stock Conversion, the Company issued and sold 362,553 shares of
its common stock at a price of $20.00 per share to the Bank's depositors, the
Company's employee stock ownership plan and the public, thereby recognizing net
proceeds of $6.7 million.

    The Company has no significant assets other than its investment in the Bank.
The Company is primarily engaged in the business of directing, planning and
coordinating the business activities of the Bank. Accordingly, the information
set forth in this report, including financial statements and related data,
relates primarily to the Bank. In the future, the Company may become an
operating company or acquire or organize other operating subsidiaries, including
other financial institutions. Initially, the Company will not maintain offices
separate from those of the Bank or employ any persons other than its officers
who will not be separately compensated for such service.

    The Company's and the Bank's executive offices are located at 1301 Merritt
Boulevard, Dundalk, Maryland 21222-2194, and its main telephone number is (410)
285-1010.

    The Patapsco Bank. The Bank is a Maryland commercial bank operating through
a single office located in Dundalk, Maryland and serving eastern Baltimore
County. The Bank was originally chartered by the State of Maryland in 1910 under
the name Patapsco Building and Loan Association. The Bank adopted a federal
charter and received federal insurance of its deposit accounts in 1957, at which
time it adopted the name of Patapsco Federal Savings and Loan Association. The
Association converted to a commercial bank (the "Bank Conversion") on September
30, 1996, at which time it changed its name to The Patapsco Bank.

    The principal business of the Bank historically has consisted of attracting
deposits from the general public and investing these deposits in loans secured
by first mortgages on one- to four-family ("single-family") residences in the
Bank's market area. The Bank derived its income principally from interest earned
on loans and, to a lesser extent, interest earned on mortgage-backed securities
and investment securities and noninterest income. Funds for these activities
were provided principally by operating revenues, deposits and repayments of
outstanding loans and investment securities and mortgage-backed securities.

    The Bank's Board of Directors anticipates minimal growth in residential loan
demand within the Bank's market area. In addition, the Board of Directors
believes that as a result of recent consolidations of financial institutions,
the Bank's market area is not adequately served by the existing financial
institutions and there will be increasing local demand for commercial real
estate, commercial business and consumer loans. As a result, the Board of
Directors has refocused the Bank's strategy. Pursuant to this new strategy,
while continuing to pursue its existing business of originating single-family
residential mortgage loans, the Bank is seeking to take advantage of the
business opportunities identified by the Board of Directors by gradually
expanding into commercial real estate, commercial business and consumer lending.
In furtherance of this strategy, in June 1995, the Bank began financing home
improvement loans and had $4.6 million of such loans, or 6.9% of total loans
outstanding at June 30, 1997. In addition, the Board of Directors and management
have implemented other new lending programs such as small business loans,
residential and non-residential construction loans, home equity and other
consumer loans. At June 30, 1997, the Bank had $3.4 million, $2.0 million,
$420,000 and $198,000 in small business loans, construction loans, home equity
loans and other consumer loans, respectively.

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Market Area

    The Bank's market area for gathering deposits consists of eastern Baltimore
County, Maryland, while the Bank makes loans to customers throughout the
Baltimore Metropolitan area. The economy of the Bank's market area has
historically been based on industries such as steel, shipyards and automobile
assembly. Major employers in the area include Bethlehem Steel and General
Motors. In recent years, the local economy has weakened as a result of layoffs
and plant closings by local employers. The economy in the Bank's market area
continues to remain weak and is dependent, to some extent, on a small number of
major industrial employers. Recently, however, a significant portion of eastern
Baltimore County has been designated as an "Enterprise Zone." As a result,
employers relocating to this area are entitled to significant tax and other
economic incentives.

Lending Activities

    General. The Company's gross loan portfolio totaled $66.9 million at June
30, 1997, representing 80.0% of total assets at that date. It is the Company's
policy to concentrate its lending within its market area. At June 30, 1997,
$52.9 million, or 79.1% of the Company's gross loan portfolio, consisted of
residential mortgage loans. Other loans secured by real estate include
construction and commercial real estate loans, which amounted to $4.6 million,
or 6.9% of the Company's gross loan portfolio at June 30, 1997. In addition, the
Company originates consumer and other loans, including home improvement loans
and loans secured by deposits. The Company's commercial loan portfolio, which
consists of small business loans and commercial leases, totaled $3.8 million, or
5.6% of the Company's gross loan portfolio. At June 30, 1997, consumer and other
loans totaled $5.6 million, or 8.4% of the Company's gross loan portfolio.

    Originations, Purchases and Sales of Loans. The Company generally has
authority to originate and purchase loans secured by real estate located
throughout the United States. Consistent with its emphasis on being a community-
oriented financial institution, the Company concentrates its lending activities
in its market area with limited home improvement loan origination in the
Northern Virginia market from established Maryland and Virginia sources.

    The Company's loan originations are derived from a number of sources,
including referrals by realtors, depositors and borrowers and advertising, as
well as walk-in customers. The Company's solicitation programs consist of
advertisements in local media, in addition to occasional participation in
various community organizations and events. Real estate loans are originated by
the Company's loan personnel. All of the Company's loan personnel are salaried,
and the Company does not compensate loan personnel on a commission basis for
loans originated. With the exception of applications for home improvement loans,
which loans may be originated on an indirect basis through a limited number of
approved building contractors, loan applications are accepted at the Company's
offices. In addition, the Company has one salaried loan originator who may
travel to meet prospective borrowers and take applications. In all cases, the
Company has final approval of the application.

    In recent years, the Company has purchased whole loans and loan
participation interests. During the years ended June 30, 1997 and 1996, the
Company purchased whole loans and loan participation interests totalling $4.5
million and $1.1 million, respectively, from local financial institutions and
local mortgage brokers. In 1996, the Company purchased a $550,000 participant
interest in a commercial construction/permanent loan and a $500,000 participant
interest in a residential construction loan from other local financial
institutions. In the future, management intends to consider limited purchases of
whole loans or participation interests in loans secured by single-family, multi-
family or commercial real estate.

    Since 1995, the Company generally has sold new originations of 30-year
fixed-rate residential mortgage loans. During the year ended June 30, 1997, no
such loans were originated and sold. During the year ended June 30, 1996, the
Company sold $270,000 of such loans. Such loans are sold in the secondary market
to the Federal National Mortgage Association ("FNMA") or to local financial
institutions. The Company may retain servicing on such loans.

                                       3
<PAGE>
 
During 1997, the Company sold loan participation interests in construction and
commercial real estate loans where the balance of the loan is larger than
desired for retention in the Company's loan portfolio.

    Loan Underwriting Policies. The Company's lending activities are subject to
the Company's non-discriminatory underwriting standards and to loan origination
procedures prescribed by the Company's Board of Directors and management.
Detailed loan applications are obtained to determine the borrower's ability to
repay, and the more significant items on these applications are verified through
the use of credit reports, financial statements and confirmations. First
mortgage loans in amounts of up to $207,000, $500,000 and $750,000 may be
approved by the Vice President - Real Estate Landing, the Officers Loan
Committee (consisting of three officers of the Bank) and the Directors Loan
Committee (consisting of any two non-employee directors), respectively. Certain
officers and committees have been granted authority by the Board of Directors to
approve commercial business loans in varying amounts depending upon whether the
loan is secured or unsecured and, with respect to secured loans, whether the
collateral is liquid or illiquid. Individual officers and certain committees of
the Company have been granted authority by the Board of Directors to approve
consumer loans up to varying specified dollar amounts, depending upon the type
of loan.

    Applications for single-family real estate loans are underwritten and closed
in accordance with the standards of Federal Home Loan Mortgage Corporation
("FHLMC") and FNMA. Generally, upon receipt of a loan application from a
prospective borrower, a credit report and verifications are ordered to verify
specific information relating to the loan applicant's employment, income and
credit standing. If a proposed loan is to be secured by a mortgage on real
estate, an appraisal of the real estate is undertaken, pursuant to the Company's
Appraisal Policy, by an appraiser approved by the Company and licensed by the
State of Maryland. In the case of single-family residential mortgage loans,
except when the Company becomes aware of a particular risk of environmental
contamination, the Company generally does not obtain a formal environmental
report on the real estate at the time a loan is made. A formal environmental
report may be required in connection with nonresidential real estate loans.

    It is the Company's policy to record a lien on the real estate securing a
loan and to obtain title insurance which insures that the property is free of
prior encumbrances and other possible title defects. Borrowers must also obtain
hazard insurance policies prior to closing and, when the property is in a flood
plain as designated by the Department of Housing and Urban Development, pay
flood insurance policy premiums. Upon receipt of a loan application from a
prospective borrower, a credit report generally is ordered to verify specific
information relating to the loan applicant's employment, income and credit
standing.

    With respect to single-family residential mortgage loans, the Company makes
a loan commitment of between 30 and 60 days for each loan approved. If the
borrower desires a longer commitment, the commitment may be extended for good
cause and upon written approval. No fees are charged in connection with the
issuance of a commitment letter; however, extension fees are usually charged.
The interest rate is guaranteed for the commitment term.

    It is the policy of the Company that appraisals be obtained in connection
with all loans for the purchase of real estate or to refinance real estate loans
where the existing mortgage is held by a party other than the Company. It is the
Company's policy that all appraisals be performed by appraisers approved by the
Company's Board of Directors and licensed by the State of Maryland.

    Under applicable law, with certain limited exceptions, loans and extensions
of credit by a commercial bank to a person outstanding, including commitments,
at one time shall not exceed 15% of the bank's unimpaired capital and surplus.
Under these limits, the Company's loans to one borrower were limited to $1.3
million at June 30, 1997. At that date, the Company had no lending relationships
in excess of the loans-to-one-borrower limit. At June 30, 1997, the Company's
largest lending relationship was a $1.3 million commercial loan secured by
commercial real estate, which includes a 55% guarantee by the United States
Small Business Administration, which was current and performing in accordance
with its terms at June 30, 1997.

                                       4
<PAGE>
 
    Interest rates charged by the Company on loans are affected principally by
competitive factors, the demand for such loans and the supply of funds available
for lending purposes. These factors are, in turn, affected by general economic
conditions, monetary policies of the federal government, including the Federal
Reserve Board, legislative tax policies and government budgetary matters.

    Residential Real Estate Lending. The Company historically has been and
continues to be an originator of residential real estate loans in its market
area. Residential real estate loans consist of both single-family and multi-
family residential real estate loans. At June 30, 1997, residential mortgage
loans, excluding home improvement loans, totaled $52.9 million, or 79.1% of the
Company's gross loan portfolio. Of such loans, $5.6 million were secured by
nonowner-occupied investment properties.

    The Company originates fixed-rate mortgage loans at competitive interest
rates. At June 30, 1997, $25.7 million, or 48.6% of the Company's residential
real estate loan portfolio was comprised of fixed-rate mortgage loans.
Generally, the Company retains fixed-rate mortgages with maturities of 15 years
or less and fixed-rate loans with longer maturities are typically sold in the
secondary market in accordance with the Company's Asset Liability/Management
Policy. It is currently the Company's policy to sell all 30-year fixed-rate
loans it originates.

    The Company also offers adjustable-rate residential mortgage loans. Single-
family residential mortgage loans secured by nonowner-occupied properties are
made solely on an adjustable-rate basis and carry interest rates generally 0.75%
above the rates charged on comparable loans secured by owner-occupied
properties. As of June 30, 1997, 51.4% of residential real estate loans in the
Company's loan portfolio carried adjustable rates. After the initial term, the
rate adjustments on the Company's adjustable-rate loans are indexed to one of
six recognized indices. The index most frequently used in recent years is a rate
which adjusts annually based upon changes in an index based on the weekly
average yield on U.S. Treasury securities adjusted to a constant comparable
maturity of one year, as made available by the Federal Reserve Board, though the
National Monthly Median Cost of Funds Index for OTS-Regulated SAIF-Insured
Institutions also has been frequently utilized. The interest rates on these
mortgages are adjusted either once a year, every three years or every five years
and, in the case of owner-occupied residential mortgage loans, subject to a
maximum adjustment of 2% per adjustment period and a maximum aggregate
adjustment of 6% over the life of the loan.

    The retention of adjustable-rate loans in the Company's portfolio helps
reduce the Company's exposure to increases in prevailing market interest rates.
However, there are unquantifiable credit risks resulting from potential
increases in costs to borrowers in the event of upward repricing of adjustable-
rate loans. It is possible that during periods of rising interest rates, the
risk of default on adjustable-rate loans may increase due to increases in
interest costs to borrowers. Further, although adjustable-rate loans allow the
Company to increase the sensitivity of its interest-earning assets to changes in
interest rates, the extent of this interest sensitivity is limited by the
initial fixed-rate period before the first adjustment and the lifetime interest
rate adjustment limitations. Accordingly, there can be no assurance that yields
on the Company's adjustable-rate loans will fully adjust to compensate for
increases in the Company's cost of funds. Finally, adjustable-rate loans
increase the Company's exposure to decreases in prevailing market interest
rates, although decreases in the Company's cost of funds tend to offset this
effect.

    The Company's multi-family residential loan portfolio generally consists
primarily of loans secured by small apartment buildings. Such loans generally
range in size from $100,000 to $500,000. At June 30, 1997, the Company had
$520,000 of multi-family residential real estate loans, which amounted to 0.8%
of the Company's gross loan portfolio at such date. Multi-family real estate
loans either are originated on an adjustable-rate basis with terms of up to 25
years or are amortized over a maximum of 25 years with a three or five year note
maturity, and are underwritten with loan-to-value ratios of up to 80% of the
lesser of the appraised value or the purchase price of the property. Because of
the inherently greater risk involved in this type of lending, the Company
generally limits its multi-family real estate lending to borrowers within its
market area or with which it has had prior experience. The Company intends to
expand multi-family residential real estate lending.

                                       5
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    Multi-family residential real estate lending entails additional risks as
compared with single-family residential property lending. Multi-family
residential real estate loans typically involve larger loan balances to single
borrowers or groups of related borrowers. The payment experience on such loans
typically is dependent on the successful operation of the real estate project.
These risks can be significantly impacted by supply and demand conditions in the
market for residential space, and, as such, may be subject to a greater extent
to adverse conditions in the economy generally. To minimize these risks, the
Company generally limits itself to its market area or to borrowers with which it
has prior experience or who are otherwise known to the Company. It has been the
Company's policy to obtain annual financial statements of the business of the
borrower or the project for which multi-family residential real estate loans are
made.

    Construction Lending. The Bank also offers residential and commercial
construction loans and land acquisition and development loans. Residential
construction loans are offered to individuals who are having their primary or
secondary residence built as well as to local builders to construct single-
family dwellings. Generally, loans to owner/occupants for the construction of
residential properties are originated in conjunction with the permanent mortgage
on the property. The term of the construction loans is normally from six to
eighteen months and have a variable interest rate which is normally up to 2%
above the prime interest rate. Upon completion of construction, the permanent
loan rate will be set at the interest rate offered by the Bank on that loan
product not sooner than sixty days prior to completion. Interest rates on
residential loans to builders are set at the prime interest rate plus a margin
of 0.5% to 2.0% as may be adjusted from time to time. Interest rates on
commercial construction loans and land acquisition and development loans are
based on the prime rate plus a negotiated margin of between 0.5% and 2.0% and
adjust from time to time, with construction terms generally not exceeding 18
months. Advances are made on a percentage of completed basis. At June 30, 1997,
$2.0 million, or 3.0%, of the Company's gross loan portfolio consisted of
construction loans.

    Prior to making a commitment to fund a loan, the Bank requires both an
appraisal of the property by appraisers approved by the Board of Directors and a
study of the feasibility of the proposed project. The Bank also reviews and
inspects each project at the commencement of construction and prior to payment
of draw requests during the term of the construction loan. The Bank generally
charges a construction fee between 1% and 2%.

    Construction financing generally is considered to involve a higher degree of
risk of loss than long-term financing on improved, occupied real estate. Risk of
loss on a construction loan is dependent largely upon the accuracy of the
initial estimate of the property's value at completion of construction or
development and the estimated cost (including interest) of construction. During
the construction phase, a number of factors could result in delays and cost
overruns. If the estimate of construction costs proves to be inaccurate and the
borrower is unable to meet the Bank's requirements of putting up additional
funds to cover extra costs or change orders, then the Bank will demand that the
loan be paid off and, if necessary, institute foreclosure proceedings, or
refinance the loan. If the estimate of value proves to be inaccurate, the Bank
may be confronted, at or prior to the maturity of the loan, with collateral
having a value which is insufficient to assure full repayment. The Bank has
sought to minimize this risk by limiting construction lending to qualified
borrowers (i.e., borrowers who satisfy all credit requirements and whose loans
satisfy all other underwriting standards which would apply to the Bank's
permanent mortgage loan financing for the subject property) in the Bank's market
area. On loans to builders, the Bank works only with selected builders with whom
it has experience and carefully monitors the creditworthiness of the builders.

    Commercial Real Estate Lending. The Company's commercial real estate loan
portfolio consists of loans to finance the acquisition of small office
buildings, shopping centers and commercial and industrial buildings. Such loans
generally range in size from $100,000 to $900,000. At June 30, 1997, the Company
had $2.6 million of commercial real estate loans, which amounted to 3.9% of the
Company's gross loan portfolio at such date. Commercial real estate loans either
are originated on an adjustable-rate basis with terms of up to 25 years or are
amortized over a maximum of 25 years with a maturity generally of three to five
years, and are underwritten with loan-to-value ratios of up to 80% of the lesser
of the appraised value or the purchase price of the property. Because of the
inherently greater risk involved in this type of lending, the Company generally
limits its commercial real estate lending to borrowers within its market

                                       6
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area or with which it has had prior experience. The Company intends to
significantly expand commercial real estate lending.

    Commercial real estate lending entails additional risks as compared with
single-family residential property lending. Commercial real estate loans
typically involve larger loan balances to single borrowers or groups of related
borrowers. The payment experience on such loans typically is dependent on the
successful operation of the real estate project, retail establishment or
business. These risks can be significantly impacted by supply and demand
conditions in the market for office, retail and residential space, and, as such,
may be subject to a greater extent to adverse conditions in the economy
generally. To minimize these risks, the Company generally limits itself to its
market area or to borrowers with which it has prior experience or who are
otherwise known to the Company. It has been the Company's policy to obtain
annual financial statements of the business of the borrower or the project for
which commercial real estate loans are made. In addition, in the case of
commercial mortgage loans made to a partnership or a corporation, the Company
seeks, whenever possible, to obtain personal guarantees and annual financial
statements of the principals of the partnership or corporation.

    Consumer Lending. The consumer loans currently in the Company's loan
portfolio consist of home improvement loans, loans secured by savings deposits
and overdraft protection for checking accounts. At June 30, 1997, consumer and
other loans totaled $5.6 million, or 8.4% of the Company's gross loan portfolio.

    In July 1995, the Company instituted a home improvement loan program. Such
loans are made to finance a variety of other home improvement projects, such as
replacement windows, siding and room additions. The Company's policy is to
originate home improvement loans throughout Maryland, except for the western
portion of the state, and northern Virginia. While the Company originates some
home improvement loans on a direct basis, most of the home improvement loans in
the Company's portfolio are originated on an indirect basis through the
Company's relationships with selected independent contractors. The Company's
underwriting policies apply to all home improvement loans whether or not
directly originated by the Company. Home improvement loans generally have terms
ranging from three to 15 years and have fixed interest rates. Home improvement
loans are made on both secured and unsecured bases. However, the majority of
home improvement loans with a principal loan amount over $10,000 or which have a
term longer than 84 months are made on a secured basis with loan-to-value ratios
up to 80% or 90%, depending on the type of project financed. At June 30, 1997,
home improvement loans amounted to $4.6 million, or 6.9% of the Company's gross
loan portfolio, with $1.7 million of such loans being secured by real estate.

    The Company makes savings account loans for up to 90% of the depositor's
savings account balance. The interest rates normally range from 2.0% to 2.5%
above the rate paid on a passbook savings account, and the account must be
pledged as collateral to secure the loan. Interest generally is billed on a
monthly basis. At June 30, 1997, loans on deposit accounts totaled $364,000, or
0.6% of the Company's gross loan portfolio.

    Consumer lending affords the Company the opportunity to earn yields higher
than those obtainable with other types of lending. However, consumer loans
entail greater risk than do other loans, particularly in the case of loans which
are unsecured or secured by rapidly depreciable assets. Repossessed collateral
for a defaulted consumer loan may not provide an adequate source of repayment of
the outstanding loan balance as a result of the greater likelihood of damage,
loss or depreciation. The remaining deficiency often does not warrant further
substantial collection efforts against the borrower. In addition, consumer loan
collections are dependent on the borrower's continuing financial stability, and
thus are more likely to be adversely affected by events such as job loss,
divorce, illness or personal bankruptcy.

    Commercial Lending. The Bank's commercial loans consist of commercial
business loans and commercial leases, which may not be secured by real estate.
For a discussion of the Bank's commercial real estate lending see "--Commercial
Real Estate Lending."

    During fiscal 1995, the Company began offering loans to finance the lease of
equipment by small businesses. The Company initiated this program as a result of
its relationship with a Maryland equipment leasing company and such

                                       7
<PAGE>
 
loans were made with full recourse to the leasing company. However, the Company
currently originates such loans on a nonrecourse basis. In extending a
commercial lease loan, the Company reviews the borrower's financial statements,
credit reports, tax returns and other documentation. Generally, commercial lease
loans are made in amounts ranging between $3,000 and $35,000 with terms of up to
five years and carry fixed interest rates. At June 30, 1997, commercial lease
loans totaled $388,000, or 0.6% of the Company's gross loan portfolio.

    During fiscal 1996 the Company began a commercial lending program. At June
30, 1997 the Company's commercial loans totaled $3.4 million or 5.1% of the
Company's gross loan portfolio. This commercial lending program employs many of
the alternative financing and guarantee programs available through the U.S.
Small Business Administration and other state and local economic development
agencies.

    The Bank originates commercial business loans to small and medium sized
businesses in its market area. The Bank's commercial borrowers are generally
small businesses engaged in manufacturing, distribution or retailing, or
professionals in healthcare, accounting and law. Commercial business loans are
generally made to finance the purchase of inventory, new or used commercial
business assets and for short-term working capital. Such loans generally are
secured by equipment and inventory, and, if possible, cross-collateralized by a
real estate lien, although commercial business loans are sometimes granted on an
unsecured basis. Such loans generally are made for terms of seven years or less,
depending on the purpose of the loan and the collateral, with loans to finance
working capital made for one year or less, with interest rates that adjust at
least annually with the prime rate as stated in The Wall Street Journal plus a
                                                -----------------------
margin of up to 4%. Generally, commercial business loans are made in amounts
ranging between $10,000 and $1.3 million.

    The Bank underwrites its commercial business loans on the basis of the
borrower's cash flow and ability to service the debt from earnings rather than
on the basis of underlying collateral value, and the Bank seeks to structure
such loans to have more than one source of repayment. The borrower is required
to provide the Bank with sufficient information to allow the Bank to make its
lending determination. In most instances, this information consists of at least
two years of financial statements, a statement of projected cash flows, current
financial information on any guarantor and any additional information on the
collateral. For loans with maturities exceeding one year, the Bank requires that
borrowers and guarantors provide updated financial information at least annually
throughout the term of the loan.

    The Bank's commercial business loans may be structured as term loans or as
lines of credit. Commercial business term loans are generally made to finance
the purchase of assets and have maturities of five years or less. Commercial
business lines of credit are typically made for the purpose of providing working
capital and are usually approved with a term of 12 months and are reviewed at
that time to determine if extension is warranted. The Bank also offers both
commercial and standby letters of credit for its commercial borrowers.
Commercial letters of credit are written for a maximum term of one year. The
terms of standby letters of credit generally do not exceed one year.

    Commercial business loans are often larger and may involve greater risk than
other types of lending. Because payments on such loans are often dependent on
successful operation of the business involved, repayment of such loans may be
subject to a greater extent to adverse conditions in the economy. The Bank seeks
to minimize these risks through its underwriting guidelines, which require that
the loan be supported by adequate cash flow of the borrower, profitability of
the business, collateral and personal guarantees of the individuals in the
business. In addition, the Bank limits this type of lending to its market area
and to borrowers with which it has prior experience or who are otherwise well
known to the Bank.

    Loan Fees and Servicing. The Company receives fees in connection with late
payments and for miscellaneous services related to its loans. The Company also
charges fees in connection with loan originations typically up to 3 points (one
point being equal to 1% of the loan amount) on real estate loan originations.
The Company generally does not service loans for others, except for 30 year
fixed-rate residential mortgage loans originated and sold by the Company with
servicing retained, and earns minimal income from this activity. The Company has
sold participating interests on

                                       8
<PAGE>
 
residential and commercial real estate loans to other local financial
institutions. At June 30, 1997 the Company was servicing loans for others
totaling approximately $1.5 million.

    Nonperforming Loans and Other Problem Assets. It is management's policy to
continually monitor its loan portfolio to anticipate and address potential and
actual delinquencies. When a borrower fails to make a payment on a loan, the
Company takes immediate steps to have the delinquency cured and the loan
restored to current status. Loans which are delinquent 15 days incur a late fee
of 5% of principal and interest due. As a matter of policy, the Company will
contact the borrower after the loan has been delinquent 15 days. If payment is
not promptly received, the borrower is contacted again, and efforts are made to
formulate an affirmative plan to cure the delinquency. Generally, after any loan
is delinquent 90 days or more, formal legal proceedings are commenced to collect
amounts owed.

    Loans generally are placed on nonaccrual status if the loan becomes past due
more than 90 days, except in instances where in management's judgment there is
no doubt as to full collectibility of principal and interest. Consumer loans are
generally charged off, or any expected loss is reserved for, after they become
more than 90 days past due. All other loans are charged off when management
concludes that they are uncollectible. See Note 4 of Notes to Consolidated
Financial Statements.

    Real estate acquired by the Company as a result of foreclosure is classified
as real estate owned until such time as it is sold. When such property is
acquired, it is initially recorded at the lower of cost or estimated fair value
and subsequently at the lower of book value or fair value less estimated costs
to sell. Fair value is defined as the amount in cash or cash-equivalent value
of other consideration that a real estate parcel would yield in a current
sale between a willing buyer and a willing seller, as measured by market
transactions. If a market does not exist, fair value of the item is estimated
based on selling prices of similar items in active markets or, if there are no
active markets for similar items, by discounting a forecast of expected cash
flows at a rate commensurate with the risk involved. Fair value is generally
determined through an appraisal at the time of foreclosure. Any required write-
down of the loan to its fair value upon foreclosure is charged against the
allowance for loan losses. See Notes 1 and 4 of Notes to Consolidated Financial
Statements.

                                       9
<PAGE>
 
    The following table sets forth information with respect to the Company's
nonperforming assets at the dates indicated.

<TABLE> 
<CAPTION> 
                                                             At June 30,
                                                     --------------------------
                                                        1997            1996   
                                                     ----------       ---------
                                                            (In thousands)
<S>                                                  <C>              <C> 
Loans accounted for on a non-accrual basis: (1)
    Real estate:
       Residential . . . . . . . . . . . . .         $     123        $    240
       Commercial. . . . . . . . . . . . . .                --              --
       Construction. . . . . . . . . . . . .                --              --
    Consumer . . . . . . . . . . . . . . . .                --              --
    Commercial . . . . . . . . . . . . . . .                --              --
                                                     ----------       ---------
       Total . . . . . . . . . . . . . . . .         $     123        $    240
                                                     ==========       =========

Accruing loans which are contractually past due
   90 days or more . . . . . . . . . . . . .         $      --        $     --
                                                     ----------       ---------
       Total . . . . . . . . . . . . . . . .         $      --        $     --
                                                     ==========       =========

       Total nonperforming loans . . . . . .         $     123        $    240
                                                     ==========       =========

Percentage of total loans. . . . . . . . . .              0.19%           0.46%
                                                     ==========       =========

Other non-performing assets (2). . . . . . .         $      31        $     31
                                                     ==========       =========

Loans modified in troubled debt
  restructurings . . . . . . . . . . . . . .         $      --        $     --
                                                     ==========       =========
</TABLE> 

----------
(1) Non-accrual status denotes loans on which, in the opinion of management, the
    collection of additional interest is unlikely. Payments received on a
    nonaccrual loan are either applied to the outstanding principal balance or
    recorded as interest income, depending on management's assessment
    collectibility of the loan.

(2) Other nonperforming assets represents property acquired by the Company
    through foreclosure or repossession. This property is carried at the lower
    of its fair market value less estimated selling costs or the principal
    balance of the related loan, whichever is lower.

    During the year ended June 30, 1997, gross interest income of $5,500 would
have been recorded on loans accounted for on a nonaccrual basis if the loans had
been current throughout the respective periods. Interest on such loans included
in income during that period amounted to $7,000.

    At June 30, 1997, nonaccrual loans consisted of three mortgage loans secured
by single-family residential real estate properties aggregating $123,000. In
addition, the Company had no loans not classified as non-accrual, 90 days past
due or restructured where known information about possible credit problems of
borrowers caused management to have serious concerns as to the ability of the
borrowers to comply with present loan repayment terms and may result in
disclosure as non-accrual, 90 days past due or restructured.

    At June 30, 1997, the Company had $31,000 in real estate owned, which
consisted of one parcel of undeveloped, industrially zoned land located in the
Dundalk area of Baltimore County, Maryland.

    Regulations require banks to classify their assets on the basis of quality
on a regular basis. An asset meeting one of the classification definitions set
forth below may be classified and still be a performing loan. An asset is
classified as substandard if it is determined to be inadequately protected by
the current retained earnings and paying capacity of the obligor or of the
collateral pledged, if any. An asset is classified as doubtful if full
collection is highly questionable or improbable. An asset is classified as loss
if it is considered uncollectible, even if a partial recovery could be expected
in the future. The regulations also provide for a special mention designation,
described as assets which do not currently expose a savings institution to a
sufficient degree of risk to warrant classification but do possess credit
deficiencies or potential weaknesses deserving management's close attention.
Such assets designated as special mention may include nonperforming loans
consistent with the above definition. Assets classified as substandard or
doubtful require a bank to establish general allowances for loan losses. If an
asset or portion thereof is classified loss, a bank must either establish a
specific allowance for loss in the amount of the portion of the asset classified
loss, or charge off

                                       10
<PAGE>
 
such amount. Examiners may disagree with a bank's classifications. The Company
regularly reviews its assets to determine whether any assets require
classification or re-classification. At June 30, 1997, the Company had $826,000
in classified assets, consisting of $655,000 in assets classified as special
mention, $140,000 in assets classified as substandard, and no assets classified
as doubtful or loss. Special mention assets consisted of six single-family
residential mortgage loans totalling $578,000 and 11 unsecured home improvement
loans with an aggregate unpaid principal balance of $77,000. The substandard
assets consisted of three single-family residential mortgage loans aggregating
$123,000, four home improvement loans totaling $17,000 and $31,000 in real
estate owned.

    Allowance for Loan Losses. In originating loans, the Company recognizes that
credit losses will be experienced and that the risk of loss will vary with,
among other things, the type of loan being made, the creditworthiness of the
borrower over the term of the loan, general economic conditions and, in the case
of a secured loan, the quality of the security for the loan. It is management's
policy to maintain an adequate allowance for loan losses based on, among other
things, the Company's and the industry's historical loan loss experience,
evaluation of economic conditions, regular reviews of delinquencies and loan
portfolio quality and evolving standards imposed by federal bank examiners. The
Company increases its allowance for loan losses by charging provisions for
possible loan losses against the Company's income.

    Management will continue to actively monitor the Company's asset quality and
allowance for loan losses. Management will charge off loans and properties
acquired in settlement of loans against the allowances for losses on such loans
and such properties when appropriate and will provide specific loss allowances
when necessary. Although management believes it uses the best information
available to make determinations with respect to the allowances for losses and
believes such allowances are adequate, future adjustments may be necessary if
economic conditions differ substantially from the economic conditions in the
assumptions used in making the initial determinations.

    The Company's methodology for establishing the allowance for loan losses
takes into consideration probable losses that have been identified in connection
with specific assets as well as losses that have not been identified but can be
expected to occur. Management conducts regular reviews of the Company's assets
and evaluates the need to establish allowances on the basis of this review.
Allowances are established on a quarterly basis based on an assessment of risk
in the Company's assets taking into consideration the composition and quality of
the portfolio, delinquency trends, current charge-off and loss experience, loan
concentrations, the state of the real estate market, regulatory reviews
conducted in the regulatory examination process and economic conditions
generally. Additional provisions for losses on loans are made in order to bring
the allowance to a level deemed adequate. Specific reserves will be provided for
individual assets, or portions of assets, when ultimate collection is considered
improbable by management based on the current payment status of the assets and
the fair value of the security. At the date of foreclosure or other
repossession, the Company would transfer the property to real estate acquired in
settlement of loans initially at the lower of cost or estimated fair value and
subsequently at the lower of book value or fair value less estimated selling
costs. Any portion of the outstanding loan balance in excess of fair value less
estimated selling costs would be charged off against the allowance for loan
losses. If, upon ultimate disposition of the property, net sales proceeds exceed
the net carrying value of the property, a gain on sale of real estate would be
recorded. Management anticipates that the Company's provisions for loan losses
will increase in the future as it implements the Board of Directors' strategy of
continuing existing lines of business while gradually expanding commercial real
estate, commercial business and consumer lending, which loans generally entail
greater risks than single-family residential mortgage loans.

    Banking regulatory agencies have adopted a policy statement regarding
maintenance of an adequate allowance for loan and lease losses and an effective
loan review system. This policy includes an arithmetic formula for checking the
reasonableness of an institution's allowance for loan loss estimate compared to
the average loss experience of the industry as a whole. Examiners will review an
institution's allowance for loan losses and compare it against the sum of: (i)
50% of the portfolio that is classified doubtful; (ii) 15% of the portfolio that
is classified as substandard; and (iii) for the portions of the portfolio that
have not been classified (including those loans designated as special mention),
estimated credit losses over the upcoming 12 months given the facts and
circumstances as of the evaluation date. This amount is considered neither a
"floor" nor a "safe harbor" of the level of allowance for loan losses an
institution should

                                       11
<PAGE>
 
maintain, but examiners will view a shortfall relative to the amount as an
indication that they should review management's policy on allocating these
allowances to determine whether it is reasonable based on all relevant factors.

    The following table sets forth an analysis of the Company's allowance for
loan losses for the periods indicated.

<TABLE> 
<CAPTION> 
                                                        Year Ended June 30,
                                                     ---------------------------
                                                        1997            1996  
                                                     ----------       ----------
                                                      (Dollars in thousands)
<S>                                                  <C>              <C> 
Balance at beginning of period . . . . . . .         $     219        $    159
Loans charged off:
   Residential real estate mortgage. . . . .                 1              --
   Consumer. . . . . . . . . . . . . . . . .                68               8
                                                     ----------       ----------
      Total charge-offs. . . . . . . . . . .                69               8
Recoveries:
   Single-family residential mortgage. . . .                 2              --
   Consumer. . . . . . . . . . . . . . . . .                 5              --
                                                     ----------       ----------
      Total recoveries . . . . . . . . . . .                 7              --
                                                     ----------       ----------
Net loans charged off. . . . . . . . . . . .                62               8
Provision for loan losses. . . . . . . . . .               240              68
                                                     ----------       ----------
Balance at end of period . . . . . . . . . .         $     397        $    219
                                                     ==========       ==========

Ratio of net charge-offs to average
   loans outstanding during the period . . .              0.11%            .02%
                                                     ==========       ==========
</TABLE> 

     The following table allocates the allowance for loan losses by loan
category at the dates indicated. The allocation of the allowance to each
category is not necessarily indicative of future losses and does not restrict
the use of the allowance to absorb losses in any category.

<TABLE> 
<CAPTION> 
                                                                           At June 30,
                                                 --------------------------------------------------------------
                                                              1997                               1996
                                                 -----------------------------    -----------------------------
                                                              Percent of Loans                 Percent of Loans
                                                              in Each Category                 in Each Category
                                                  Amount      to Total Loans      Amount       to Total Loans
                                                  ------      ----------------    ------       ----------------
                                                                     (Dollars in thousands)
<S>                                               <C>         <C>                 <C>          <C>
Real estate mortgage:                                                                         
   Residential . . . . . . . . . . . .            $  111        79.09%            $   101         90.06%
   Commercial. . . . . . . . . . . . .                29         3.90                  12          2.05
   Construction. . . . . . . . . . . .                20         2.99                  --            --
Consumer and other . . . . . . . . . .                89         8.36                  24          5.61
Commercial . . . . . . . . . . . . . .                38         5.66                  20          2.28
Unallocated. . . . . . . . . . . . . .               110           --                  62            --
                                                  ------       ------             -------        ------
     Total allowance for loan losses .            $  397       100.00%            $   219        100.00%
                                                  ======       ======             =======        ======
</TABLE> 

Investment Activities

    General. The Company makes investments in order to maintain the levels of
liquid assets required by regulatory authorities and manage cash flow, diversify
its assets, obtain yield and to satisfy certain requirements for favorable tax
treatment. The investment activities of the Company consist primarily of
investments in mortgage-backed securities and other investment securities,
consisting primarily of securities issued or guaranteed by the U.S. government
or agencies thereof. Typical investments include federally sponsored agency
mortgage pass-through and federally sponsored agency and mortgage-related
securities. Investment and aggregate investment limitations and credit quality
parameters of each class of investment are prescribed in the Company's
investment policy. The Company performs

                                       12
<PAGE>
 
analyses on mortgage-related securities prior to purchase and on an ongoing
basis to determine the impact on earnings and market value under various
interest rate and prepayment conditions. Under the Company's current investment
policy, securities purchases must be approved by the Company's Asset/Liability
Management Committee. The Company's Asset/Liability Management Committee has
limited authority to sell investment securities and purchase comparable
investment securities with similar characteristics. The Board of Directors
reviews all securities transactions on a monthly basis.

    The effect of initial adoption of SFAS No. 115 was to decrease Stockholders'
Equity as of July 1, 1994 by approximately $30,800. In December 1995, the
Company utilized a one-time opportunity to change the classification of
securities and, as a result, designated its entire held-to-maturity portfolio
with an amortized cost of $21.3 million and an unrealized net loss of $73,000 as
available-for-sale. Pursuant to SFAS No. 115, investment securities classified
as held-to-maturity are recorded at amortized cost and those classified as
available-for-sale are reported at fair value, with unrealized gains and losses
excluded from earnings and reported as a separate component of stockholders'
equity. At June 30, 1997, the Company's entire portfolio of investment
securities was classified as available for sale and had an aggregate carrying
value of $9.7 million and an unrealized net loss after tax of $24,000. As a
result, management of the Company currently does not anticipate that the
presence of unrealized losses in the Company's portfolio of investment
securities and mortgage-backed securities is likely to have a material adverse
effect on the Company's financial condition, results of operations or liquidity.
Securities designated as "held to maturity" are those assets which the Company
has the ability and intent to hold to maturity. Upon acquisition, securities are
classified as to the Company's intent, and a sale would only be effected due to
deteriorating investment quality. The held to maturity investment portfolio is
not used for speculative purposes and is carried at amortized cost. In the event
the Company sells securities from this portfolio for other than credit quality
reasons, all securities within the investment portfolio with matching
characteristics may be reclassified as assets available-for-sale. Securities
designated as "available-for-sale" are those assets which the Company may not
hold to maturity and thus are carried at market value with unrealized gains or
losses, net of tax effect, recognized in retained earnings.

    Mortgage-Backed and Related Securities. Mortgage-backed securities represent
a participation interest in a pool of single-family or multi-family mortgages,
the principal and interest payments on which are passed from the mortgage
originators through intermediaries that pool and repackage the participation
interest in the form of securities to investors such as the Company. Such
intermediaries may include quasi-governmental agencies such as FHLMC, FNMA and
Government National Mortgage Bank ("GNMA") which guarantee the payment of
principal and interest to investors. Mortgage-backed securities generally
increase the quality of the Company's assets by virtue of the guarantees that
back them, are more liquid than individual mortgage loans and may be used to
collaterize borrowings or other obligations of the Company.

    Mortgage-backed securities typically are issued with stated principal
amounts and the securities are backed by pools of mortgages that have loans with
interest rates that are within a range and have similar maturities. The
underlying pool of mortgages can be composed of either fixed-rate or adjustable-
rate mortgage loans. Mortgage-backed securities generally are referred to as
mortgage participation certificates or pass-through certificates. As a result,
the interest rate risk characteristics of the underlying pool of mortgages,
i.e., fixed-rate or adjustable-rate, as well as prepayment risk, are passed on
to the certificate holder. The life of a mortgage-backed pass-through security
is equal to the life of the underlying mortgages.

    The actual maturity of a mortgage-backed security varies, depending on when
the mortgagors prepay or repay the underlying mortgages. Prepayments of the
underlying mortgages may shorten the life of the investment, thereby adversely
affecting its yield to maturity and the related market value of the mortgage-
backed security. The yield is based upon the interest income and the
amortization of the premium or accretion of the discount related to the
mortgage-backed security. Premiums and discounts on mortgage-backed securities
are amortized or accredited over the estimated term of the securities using a
level yield method. The prepayment assumptions used to determine the
amortization period for premiums and discounts can significantly affect the
yield of the mortgage-backed security, and these assumptions are reviewed
periodically to reflect the actual prepayment. The actual prepayments of the
underlying

                                       13
<PAGE>
 
mortgages depend on many factors, including the type of mortgage, the coupon
rate, the age of the mortgages, the geographical location of the underlying real
estate collateralizing the mortgages and general levels of market interest
rates. The difference between the interest rates on the underlying mortgages and
the prevailing mortgage interest rates is an important determinant in the rate
of prepayments. During periods of falling mortgage interest rates, prepayments
generally increase, and, conversely, during periods of rising mortgage interest
rates, prepayments generally decrease. If the coupon rate of the underlying
mortgage significantly exceeds the prevailing market interest rates offered for
mortgage loans, refinancing generally increases and accelerates the prepayment
of the underlying mortgages. Prepayment experience is more difficult to estimate
for adjustable-rate mortgage-backed securities.

    Mortgage-related securities, which include collateralized mortgage
obligations ("CMOs"), are typically issued by a special purpose entity, which
may be organized in a variety of legal forms, such as a trust, a corporation or
a partnership. The entity aggregates pools of pass-through securities, which are
used to collateralize the mortgage-related securities. Once combined, the cash
flows can be divided into "tranches" or "classes" of individual securities,
thereby creating more predictable average lives for each security than the
underlying pass-through pools. Accordingly, under this security structure, all
principal paydowns from the various mortgage pools are allocated to a mortgage-
related securities' class or classes structured to have priority until it has
been paid off. These securities generally have fixed interest rates, and, as a
result, changes in interest rates generally would affect the market value and
possibly the prepayment rates of such securities.

    Some mortgage-related securities instruments are like traditional debt
instruments due to their stated principal amounts and traditionally defined
interest rate terms. Purchasers of certain other mortgage-related securities
instruments are entitled to the excess, if any, of the issuer's cash flows.
These mortgage-related securities instruments may include instruments designated
as residual interest and are riskier in that they could result in the loss of a
portion of the original investment. Cash flows from residual interests are very
sensitive to prepayments and, thus, contain a high degree of interest rate risk.
The Company does not purchase residual interests in mortgage-related securities.

    The Company's mortgage-backed and related securities portfolio consists
primarily of seasoned fixed-rate and adjustable-rate, mortgage-backed and
related securities. The Company makes such investments in order to manage cash
flow, diversify assets, obtain yield, to satisfy certain requirements for
favorable tax treatment and to satisfy the qualified thrift lender test.

    At June 30, 1997, mortgage-backed securities with a carrying value of $7.7
million were held as available for sale. At June 30, 1997, the Company's
mortgage-backed securities had a weighted average yield of 6.36%.

    At June 30, 1997, the Company had within its mortgage-backed securities
portfolio CMOs with a carrying value of $5.5 million, representing 6.6% of total
assets. The Company's CMOs had a weighted average yield of 6.20% at June 30,
1997.

Deposit Activity and Other Sources of Funds

    General. Deposits are the primary source of the Company's funds for lending,
investment activities and general operational purposes. In addition to deposits,
the Company derives funds from loan principal and interest repayments,
maturities of investment securities and mortgage-backed securities and interest
payments thereon. Although loan repayments are a relatively stable source of
funds, deposit inflows and outflows are significantly influenced by general
interest rates and money market conditions. Borrowings may be used on a short-
term basis to compensate for reductions in the availability of funds, or on a
longer term basis for general operational purposes. The Bank has access to
borrow from the FHLB of Atlanta.

    Deposits. The Company attracts deposits principally from within its market
area by offering a variety of deposit instruments, including checking accounts,
Christmas Club accounts, money market accounts, statement and passbook savings
accounts, Individual Retirement Accounts, and certificates of deposit which
range in maturity from

                                       14
<PAGE>
 
seven days to five years. Deposit terms vary according to the minimum balance
required, the length of time the funds must remain on deposit and the interest
rate. Maturities, terms, service fees and withdrawal penalties for its deposit
accounts are established by the Company on a periodic basis. The Company reviews
its deposit mix and pricing on a weekly basis. In determining the
characteristics of its deposit accounts, the Company considers the rates offered
by competing institutions, lending and liquidity requirements, growth goals and
federal regulations. Management believes it prices its deposits comparably to
rates offered by its competitors. The Company does not accept brokered deposits.

    The Company attempts to compete for deposits with other institutions in its
market area by offering competitively priced deposit instruments that are
tailored to the needs of its customers. Additionally, the Company seeks to meet
customers' needs by providing convenient customer service to the community,
efficient staff and convenient hours of service. Substantially all of the
Company's depositors are Maryland residents. To provide additional convenience,
the Company participates in the MOST Automatic Teller Machine network at
locations throughout the United States, through which customers can gain access
to their accounts at any time. To better serve its customers, the Company has
installed automatic teller machines at its office in Dundalk and at Dundalk
Community College.

    Borrowings. Savings deposits historically have been the primary source of
funds for the Company's lending, investments and general operating activities.
The Company is authorized, however, to use advances from the FHLB of Atlanta to
supplement its supply of lendable funds and to meet deposit withdrawal
requirements. The FHLB of Atlanta functions as a central reserve bank providing
credit for savings institutions and certain other member financial institutions.
As a member of the FHLB System, the Company is required to own stock in the FHLB
of Atlanta and is authorized to apply for advances. Advances are pursuant to
several different programs, each of which has its own interest rate and range of
maturities. The Company has a Blanket Agreement for advances with the FHLB under
which the Company may borrow up to 25% of assets subject to normal collateral
and underwriting requirements. Advances from the FHLB of Atlanta are secured by
the Company's stock in the FHLB of Atlanta and other eligible assets. At June
30, 1997, the Company had a credit agreement with a commercial bank, due July
15, 1997. The note bears interest at a floating and fluctuating rate equal to
two percent per annum in excess of the daily London Interbank Offered Rate
(7.6875% at June 30, 1997). The note was secured by assets of the Company and
was repaid on July 1, 1997. During 1997, the Company had no borrowings other
than the credit agreement.

                                       15
<PAGE>
 
    The following table sets forth certain information regarding short-term
borrowings by the Company at the dates and for the periods indicated:

<TABLE> 
<CAPTION> 
                                                            At June 30,             
                                                  ------------------------------
                                                     1997                1996  
                                                  ----------          ----------
                                                    (Dollars in thousands)
<S>                                               <C>                 <C> 
Amounts outstanding at end of period:
    FHLB advances. . . . . . . . . . . . .        $      --           $      --
    Other borrowings . . . . . . . . . . .            2,700                  --
Weighted average rate paid on:
    FHLB advances. . . . . . . . . . . . .               --%                 --%
    Other borrowings . . . . . . . . . . .             7.69%                 --

<CAPTION> 
                                                       Year Ended June 30,      
                                                  ------------------------------
                                                     1997                1996  
                                                  ----------          ----------
                                                    (Dollars in thousands)
<S>                                               <C>                 <C> 
Maximum amount of borrowings outstanding
    at any month end:
    FHLB advances. . . . . . . . . . . . .        $      --           $   5,000
    Other borrowings . . . . . . . . . . .            2,700                  --

<CAPTION> 
                                                            At June 30,               
                                                  ------------------------------
                                                     1997                1996  
                                                  ----------          ----------
                                                    (Dollars in thousands)
<S>                                               <C>                 <C> 
Approximate average short-term borrowings
   outstanding with respect to:
   FHLB advances . . . . . . . . . . . . .        $      --           $   3,282
   Other borrowings. . . . . . . . . . . .              112                  --
Approximate weighted average rate paid on: (1)
   FHLB advances . . . . . . . . . . . . .               --%               5.68%
   Other borrowings. . . . . . . . . . . .             7.91%                 -- 
</TABLE> 

----------
(1) Weighted average rate paid is derived from dividing the actual interest
    expense by the average daily short-term borrowings outstanding.


Subsidiary Activities

    The Bank has one subsidiary service corporation, PFSL Holding Corp.
("PFSL"), which it formed in November 1995 to hold certain real estate owned.

Competition

    The Company faces strong competition both in originating real estate and
consumer loans and in attracting deposits. The Company competes for real estate
and other loans principally on the basis of interest rates, the types of loans
it originates, the deposit products it offers and the quality of services it
provides to borrowers. The Company also competes by offering products which are
tailored to the local community. Its competition in originating real estate
loans comes primarily from other commercial banks, savings institutions and
mortgage bankers. Commercial banks, credit

                                       16
<PAGE>
 
unions and finance companies provide vigorous competition in consumer lending.
Competition may increase as a result of the continuing reduction of restrictions
on the interstate operations of financial institutions.

    Management considers its market area for gathering deposits to be eastern
Baltimore County in Maryland. The Company originates loans throughout the
Baltimore metropolitan area. The Company attracts its deposits through its
office in Dundalk primarily from the local community. Consequently, competition
for deposits is principally from other commercial banks, savings institutions,
credit unions, mutual funds and brokers in the local community. The Company
competes for deposits and loans by offering what it believes to be a variety of
deposit accounts at competitive rates, convenient business hours, a commitment
to outstanding customer service and a well-trained staff. The Company believes
it has developed strong relationships with local realtors and the community in
general.

Employees

    As of June 30, 1997, the Company had 25 full-time and two part-time
employees, none of whom were represented by a collective bargaining agreement.
Management considers the Company's relationships with its employees to be good.

Depository Institution Regulation

    General. The Bank is a Maryland commercial bank and its deposit accounts are
insured by the SAIF. The Bank also is a member of the Federal Reserve System.
The Bank is subject to supervision, examination and regulation by the State of
Maryland Commissioner of Financial Regulation ("Commissioner") and the Federal
Reserve Board and to Maryland and federal statutory and regulatory provisions
governing such matters as capital standards, mergers and establishment of branch
offices, and it is subject to the FDIC's authority to conduct special
examinations. The Bank is required to file reports with the Commissioner and the
Federal Reserve Board concerning its activities and financial condition and is
required to obtain regulatory approvals prior to entering into certain
transactions, including mergers with, or acquisitions of, other depository
institutions.

    As a federally insured depository institution, the Bank is subject to
various regulations promulgated by the Federal Reserve Board, including
Regulation B (Equal Credit Opportunity), Regulation D (Reserve Requirements),
Regulations E (Electronic Fund Transfers), Regulation Z (Truth in Lending),
Regulation CC (Availability of Funds and Collection of Checks) and Regulation DD
(Truth in Savings).

    The system of regulation and supervision applicable to the Bank establishes
a comprehensive framework for the operations of the Bank and is intended
primarily for the protection of the FDIC and the depositors of the Bank. Changes
in the regulatory framework could have a material effect on the Bank and their
respective operations that in turn, could have a material adverse effect on the
Company.

    Capital Requirements. The Bank is subject to Federal Reserve Board capital
requirements as well as statutory capital requirements imposed under Maryland
law. Federal Reserve Board regulations establish two capital standards for
state-chartered banks that are members of the Federal Reserve System ("state
member banks"): a leverage requirement and a risk-based capital requirement. In
addition, the Federal Reserve may on a case-by-case basis, establish individual
minimum capital requirements for a bank that vary from the requirements which
would otherwise apply under Federal Reserve Board regulations. A bank that fails
to satisfy the capital requirements established under the Federal Reserve
Board's regulations will be subject to such administrative action or sanctions
as the Federal Reserve Board deems appropriate.

    The leverage ratio adopted by the Federal Reserve Board requires a minimum
ratio of "Tier 1 capital" to adjusted total assets of 3% for banks rated
composite 1 under the CAMEL rating system for banks. Banks not rated composite 1
under the CAMEL rating system for banks are required to maintain a minimum ratio
of Tier 1 capital to adjusted total assets of 4% to 5%, depending upon the level
and nature of risks of their operations. For purposes of the

                                       17
<PAGE>
 
Federal Reserve Board's leverage requirement, Tier 1 capital consists primarily
of common stockholders' equity, certain perpetual preferred stock (which must be
noncumulative with respect to banks), and minority interests in the equity
accounts of consolidated subsidiaries; less most intangible assets, primarily
goodwill.

    The risk-based capital requirements established by the Federal Reserve
Board's regulations require state member banks to maintain "total capital" equal
to at least 8% of total risk-weighted assets. For purposes of the risk-based
capital requirement, "total capital" means Tier 1 capital (as described above)
plus "Tier 2 capital" (as described below), provided that the amount of Tier 2
capital may not exceed the amount of Tier 1 capital, less certain assets. Tier 2
capital elements include, subject to certain limitations, the allowance for
losses on loans and leases; perpetual preferred stock that does not qualify for
Tier 1 and long-term preferred stock with an original maturity of at least 20
years from issuance; hybrid capital instruments, including perpetual debt and
mandatory convertible securities, and subordinated debt and intermediate-term
preferred stock. Total risk-weighted assets generally are determined under the
Federal Reserve Board's regulations, which establish four risk categories, with
risk weights of 0%, 20%, 50% and 100%. These computations result in the total
risk-weighted assets. Most loans are assigned to the 100% risk category, except
for first mortgage loans fully secured by residential property and, under
certain circumstances, residential construction loans, both of which carry a 50%
rating. Most investment securities are assigned to the 20% category, except for
municipal or state revenue bonds, which have a 50% risk-weight, and direct
obligations of or obligations guaranteed by the United States Treasury or United
States Government agencies, which have a 0% risk-weight. In converting off-
balance sheet items, direct credit substitutes, including general guarantees and
standby letters of credit backing financial obligations, are given a 100%
conversion factor. Transaction-related contingencies such as bid bonds, other
standby letters of credit and undrawn commitments, including commercial credit
lines with an initial maturity of more than one year, have a 50% conversion
factor. Short-term, self-liquidating trade contingencies are converted at 20%,
and short-term commitments have a 0% factor.

    The Federal Reserve Board has proposed to revise its risk-based capital
requirements to ensure that such requirements provide for explicit consideration
of interest rate risk. Under the proposed rule, a state member bank's interest
rate risk exposure would be quantified using either the measurement system set
forth in the proposal or the bank's internal model for measuring such exposure,
if such model is determined to be adequate by the bank's examiner. If the dollar
amount of a bank's interest rate risk exposure, as measured under either
measurement system, exceeds 1% of the bank's total assets, the bank would be
required under the proposed rule to hold additional capital equal to the dollar
amount of the excess. Management of the Bank has not determined what effect, if
any, the Federal Reserve Board's proposed interest rate risk component would
have on the Bank's capital if adopted as proposed.

    In addition, the Bank is subject to the statutory capital requirements
imposed by the State of Maryland. Under Maryland statutory law, if the surplus
of a Maryland commercial bank at any time is less than 100% of its capital
stock, then, until the surplus is 100% of the capital stock, the commercial
bank: (i) must transfer to its surplus annually at least 10% of its net
earnings; and (ii) may not declare or pay any cash dividends that exceed 90% of
its net earnings.

                                       18
<PAGE>
 
     The table below provides information with respect to the Bank's compliance
with its regulatory capital requirements at the dates indicated.

<TABLE> 
<CAPTION> 
                                                                                                                   To Be Well
                                                                                                                Capitalized Under
                                                                                           For Capital          Prompt Corrective
                                                                    Actual              Adequacy Purposes       Action Provisions 
                                                            ---------------------     --------------------     -------------------
                                                            Amount          Ratio      Amount        Ratio      Amount       Ratio
                                                            ------          -----      ------        -----      ------       -----
                                                                                (Dollars in thousands)
<S>                                                       <C>              <C>       <C>             <C>      <C>            <C> 
As of June 30, 1997:
   Total Capital (to Risk Weighted Assets) . . . .        $   10,910       23.68%    $   3,685       8.00%    $   4,607      10.00%
   Tier 1 Capital (to Risk Weighted Assets). . . .            10,513       22.82         1,843       4.00         2,764       6.00
   Tier 1 Capital (to Average Assets). . . . . . .            10,513       12.81         3,282       4.00         4,103       5.00
                                                                                                                         
As of June 30, 1996:                                                                                                     
   Total Capital (to Risk Weighted Assets) . . . .             9,826       28.67         2,742       8.00         3,427      10.00
   Tier 1 Capital (to Risk Weighted Assets). . . .             9,607       28.03         1,371       4.00         2,056       6.00
   Tier 1 Capital (to Average Assets). . . . . . .             9,607       12.46         3,085       4.00         3,856       5.00
</TABLE> 

     Prompt Corrective Regulatory Action. Under the Federal Deposit Insurance
Corporation Improvement Act of 1991 ("FDICIA"), the federal banking regulators
are required to take prompt corrective action if an insured depository
institution fails to satisfy certain minimum capital requirements. All
institutions, regardless of their capital levels, are restricted from making any
capital distribution or paying any management fees if the institution would
thereafter fail to satisfy the minimum levels for any of its capital
requirements. An institution that fails to meet the minimum level for any
relevant capital measure (an "undercapitalized institution") may be: (i) subject
to increased monitoring by the appropriate federal banking regulator; (ii)
required to submit an acceptable capital restoration plan within 45 days; (iii)
subject to asset growth limits; and (iv) required to obtain prior regulatory
approval for acquisitions, branching and new lines of businesses. The capital
restoration plan must include a guarantee by the institution's holding company
that the institution will comply with the plan until it has been adequately
capitalized on average for four consecutive quarters, under which the holding
company would be liable up to the lesser of 5% of the institution's total assets
or the amount necessary to bring the institution into capital compliance as of
the date it failed to comply with its capital restoration plan. A "significantly
undercapitalized" institution, as well as any undercapitalized institution that
did not submit an acceptable capital restoration plan, may be subject to
regulatory demands for recapitalization, broader application of restrictions on
transactions with affiliates, limitations on interest rates paid on deposits,
asset growth and other activities, possible replacement of directors and
officers, and restrictions on capital distributions by any bank holding company
controlling the institution. Any company controlling the institution could also
be required to divest the institution or the institution could be required to
divest subsidiaries. The senior executive officers of a significantly
undercapitalized institution may not receive bonuses or increases in
compensation without prior approval and the institution is prohibited from
making payments of principal or interest on its subordinated debt. In their
discretion, the federal banking regulators may also impose the foregoing
sanctions on an undercapitalized institution if the regulators determine that
such actions are necessary to carry out the purposes of the prompt corrective
action provisions. If an institution's ratio of tangible capital to total assets
falls below a "critical capital level," the institution will be subject to
conservatorship or receivership within 90 days unless periodic determinations
are made that forbearance from such action would better protect the deposit
insurance fund. Unless appropriate findings and certifications are made by the
appropriate federal bank regulatory agencies, a critically undercapitalized
institution must be placed in receivership if it remains critically
undercapitalized on average during the calendar quarter beginning 270 days after
the date it became critically undercapitalized.

     Federal banking regulators have adopted regulations implementing the prompt
corrective action provisions of FDICIA. Under these regulations, the federal
banking regulators will generally measure a depository institution's capital
adequacy on the basis of the institution's total risk-based capital ratio (the
ratio of its total capital to risk-weighted assets), Tier 1 risk-based capital
ratio (the ratio of its core capital to risk-weighted

                                       19
<PAGE>
 
assets) and leverage ratio (the ratio of its core capital to adjusted total
assets). Under the regulations, an institution that is not subject to an order
or written directive by its primary federal regulator to meet or maintain a
specific capital level will be deemed "well capitalized" if it also has: (i) a
total risk-based capital ratio of 10% or greater; (ii) a Tier 1 risk-based
capital ratio of 6.0% or greater; and (iii) a leverage ratio of 5.0% or greater.
An "adequately capitalized" depository institution is an institution that does
not meet the definition of well capitalized and has: (i) a total risk-based
capital ratio of 8.0% or greater; (ii) a Tier 1 risk-based capital ratio of 4.0%
or greater; and (iii) a leverage ratio of 4.0% or greater (or 3.0% or greater if
the depository institution has a composite 1 CAMEL rating). An "undercapitalized
institution" is a depository institution that has (i) a total risk-based capital
ratio less than 8.0%; or (ii) a Tier 1 risk-based capital ratio of less than
4.0%; or (iii) a leverage ratio of less than 4.0% (or less than 3.0% if the
institution has a composite 1 CAMEL rating). A "significantly undercapitalized"
institution is defined as a depository institution that has: (i) a total risk-
based capital ratio of less than 6.0%; or (ii) a Tier 1 risk-based capital ratio
of less than 3.0%; or (iii) a leverage ratio of less than 3.0%. A "critically
undercapitalized" institution is defined as a depository institution that has a
ratio of "tangible equity" to total assets of less than 2.0%. Tangible equity is
defined as core capital plus cumulative perpetual preferred stock (and related
surplus) less all intangibles other than qualifying supervisory goodwill and
certain mortgage servicing rights. The appropriate federal banking agency may
reclassify a well capitalized depository institution as adequately capitalized
and may require an adequately capitalized or undercapitalized institution to
comply with the supervisory actions applicable to institutions in the next lower
capital category (but may not reclassify a significantly undercapitalized
institution as critically under-capitalized) if it determines, after notice and
an opportunity for a hearing, that the institution is in an unsafe or unsound
condition or that the institution has received and not corrected a less-than-
satisfactory rating for any CAMEL rating category. At June 30, 1997, the Bank
was classified as "well capitalized" under Federal Reserve regulations.

     Safety and Soundness Guidelines. Under FDICIA, as amended by the Riegle
Community Development and Regulatory Improvement Act of 1994 (the "CDRI Act"),
each federal banking agency was required to establish safety and soundness
standards for institutions under its authority. The federal banking agencies,
including the Federal Reserve Board, have released Interagency Guidelines
Establishing Standards for Safety and Soundness. The guidelines require
depository institutions to maintain internal controls and information systems
and internal audit systems that are appropriate for the size, nature and scope
of the institution's business. The guidelines also establish certain basic
standards for loan documentation, credit underwriting, interest rate risk
exposure, and asset growth. The guidelines further provide that depository
institutions should maintain safeguards to prevent the payment of compensation,
fees and benefits that are excessive or that could lead to material financial
loss, and should take into account factors such as comparable compensation
practices at comparable institutions. In addition, a depository institution
should maintain systems, commensurate with its size and the nature and scope of
its operations, to identify problem assets and prevent deterioration in those
assets as well as to evaluate and monitor earnings and ensure that earnings are
sufficient to maintain adequate capital and reserves. If the appropriate federal
banking agency determines that a depository institution is not in compliance
with the safety and soundness guidelines, it may require the institution to
submit an acceptable plan to achieve compliance with the guidelines. A
depository institution must submit an acceptable compliance plan to its primary
federal regulator within 30 days of receipt of a request for such a plan.
Failure to submit or implement a compliance plan may subject the institution to
regulatory sanctions. Management believes that the Bank meets substantially all
the standards adopted in the interagency guidelines.

     Federal Home Loan Bank System. The FHLB System consists of 12 district
FHLBs subject to supervision and regulation by the Federal Housing Finance Board
("FHFB"). The FHLBs provide a central credit facility primarily for member
institutions. As a member of the FHLB of Atlanta, the Bank is required to
acquire and hold shares of capital stock in the FHLB of Atlanta in an amount at
least equal to 1% of the aggregate unpaid principal of its home mortgage loans,
home purchase contracts, and similar obligations at the beginning of each year,
or 1/20 of its advances (borrowings) from the FHLB of Atlanta, whichever is
greater. The Bank was in compliance with this requirement with investment in
FHLB of Atlanta stock at June 30, 1997 of $520,000. The FHLB of Atlanta serves
as a reserve or central bank for its member institutions within its assigned
district. It is funded primarily from proceeds derived from the sale of
consolidated obligations of the FHLB System. It offers advances to members in
accordance with policies and procedures established by the FHFB and the Board of
Directors of the FHLB of Atlanta. Long-term advances may only be made for the
purpose of providing funds for residential housing finance. At June 30, 1997,
the Bank had no advances outstanding from the FHLB of Atlanta.

                                       20
<PAGE>
 
     Federal Reserve System. Pursuant to regulations of the Federal Reserve
Board, all FDIC-insured depository institutions must maintain average daily
reserves against their transaction accounts. No reserves are required to be
maintained on the first $4.3 million of transaction accounts, reserves equal to
3% must be maintained on the next $49.3 million of transaction accounts, and a
reserve of 10% must be maintained against all remaining transaction accounts.
These reserve requirements are subject to adjustment by the Federal Reserve
Board. Because required reserves must be maintained in the form of vault cash or
in a noninterest bearing account at a Federal Reserve Bank, the effect of the
reserve requirement is to reduce the amount of the institution's interest-
earning assets. At June 30, 1997, the Bank met its reserve requirements.

     The Bank is a member of the Federal Reserve System and subscribed for stock
in the Federal Reserve Bank of Richmond in an amount equal to 6% of the Bank's
paid-up capital and surplus. The Bank is subject to the reserve requirements to
which the Bank is presently subject under Federal Reserve Board regulations.

     The monetary policies and regulations of the Federal Reserve Board have a
significant effect on the operating results of commercial banks. The Federal
Reserve Board's policies affect the levels of bank loans, investments and
deposits through its open market operation in United States government
securities, its regulation of the interest rate on borrowings of member banks
from Federal Reserve Banks and its imposition of non-earning reserve
requirements on all depository institutions, such as the Bank, that maintain
transaction accounts or non-personal time deposits.

     Deposit Insurance. The Bank's savings deposits are insured by the SAIF,
which is administered by the FDIC. The Bank is required to pay assessments,
based on a percentage of its insured deposits, to the FDIC for insurance of its
deposits by the FDIC through the Savings Association Insurance Fund ("SAIF") of
the FDIC. The FDIC is required to set semi-annual assessments for SAIF-insured
institutions at a level necessary to maintain the designated reserve ratio of
the SAIF at 1.25% of estimated insured deposits, or at a higher percentage of
estimated insured deposits that the FDIC determines to be justified for that
year by circumstances indicating a significant risk of substantial future losses
to the SAIF.

     Under the FDIC's risk-based deposit insurance assessment system, the
assessment rate for an insured depository institution depends on the assessment
risk classification assigned to the institution by the FDIC, which is determined
by the institution's capital level and supervisory evaluations. Based on the
data reported to regulators for the date closest to the last day of the seventh
month preceding the semi-annual assessment period, institutions are assigned to
one of three capital groups -- well capitalized, adequately capitalized or
undercapitalized -- using the same percentage criteria as under the prompt
corrective action regulations. See " -- Prompt Corrective Regulatory Action."
Within each capital group, institutions are assigned to one of three subgroups
on the basis of supervisory evaluations by the institution's primary supervisory
authority, and such other information as the FDIC determines to be relevant to
the institution's financial condition and the risk posed to the deposit
insurance fund. Subgroup A consists of financially sound institutions with only
a few minor weaknesses. Subgroup B consists of institutions that demonstrate
weaknesses which, if not corrected, could result in significant deterioration of
the institution and increased risk of loss to the deposit insurance fund.
Subgroup C consists of institutions that pose a substantial probability of loss
to the deposit insurance fund unless effective corrective action is taken.

     For the past several semi-annual periods, institutions with SAIF-assessable
deposits, like the Bank, have been required to pay higher deposit insurance
premiums than institutions with deposits insured by the BIF. In order to
recapitalize the SAIF and address the premium disparity, the recently-enacted
Deposit Insurance Funds Act of 1996 authorized the FDIC to impose a one-time
special assessment on institutions with SAIF-assessable deposits, based on the
amount determined by the FDIC to be necessary to increase the reserve levels of
the SAIF to the designated reserve ratio of 1.25% of insured deposits.
Institutions were assessed at the rate of 65.7 basis points based on the amount
of their SAIF-assessable deposits as of March 31, 1995. As a result of the
special assessment the Bank incurred a pre-tax expense of $415,000, during the
fiscal year ended June 30, 1997.

     The FDIC has proposed a rule that would lower the regular semi-annual SAIF
assessment rates by establishing a base assessment rate schedule ranging from 4
to 31 basis points effective October 1, 1996. The rule widens the range between
the lowest and highest assessment rates among healthy and troubled institutions
with the intent of creating an

                                       21
<PAGE>
 
incentive for institutions to control risk-taking behavior. The rule also
prevents the FDIC from collecting more funds than needed to maintain the SAIF's
capitalization at 1.25% of insured deposits. Until December 31, 1999, however,
SAIF-insured institutions will be required to pay assessments to the FDIC at the
rate of 6.44 basis points to help fund interest payments on certain bonds issued
by the Financing Corporation ("FICO"), an agency of the federal government
established to finance takeovers of insolvent thrifts. During this period, BIF
members will be assessed for these obligations at the rate of 1.3 basis points.
After December 31, 1999, both BIF and SAIF members will be assessed at the same
rate for FICO payments.

     SAIF members are generally prohibited from converting to BIF, also
administered by the FDIC, or merging with or transferring assets to a BIF member
before the date on which the SAIF first meets or exceeds the designated reserve
ratio of 1.25% of insured deposits. However, the FDIC may approve such a
transaction in the case of a SAIF member in default or if the transaction
involves an insubstantial portion of the deposits of each participant. In
addition, mergers, transfers of assets and assumptions of liabilities may be
approved by the appropriate bank regulator so long as deposit insurance premiums
continue to be paid to the SAIF for deposits attributable to the SAIF members,
plus an adjustment for the annual rate of growth of deposits in the surviving
bank without regard to subsequent acquisitions. Each depository institution
participating in a SAIF-to-BIF conversion transaction is required to pay an exit
fee to SAIF equal to 0.90% of the deposits transferred and an entrance fee to
BIF based on the current reserve ratio of the BIF. A savings institution is not
prohibited from adopting a commercial bank or savings bank charter if the
resulting bank remains a SAIF member.

     The FDIC has adopted a regulation which provides that any insured
depository institution with a ratio of Tier 1 capital to total assets of less
than 2% will be deemed to be operating in an unsafe or unsound condition, which
would constitute grounds for the initiation of termination of deposit insurance
proceedings. The FDIC, however, would not initiate termination of insurance
proceedings if the depository institution has entered into and is in compliance
with a written agreement with its primary regulator, and the FDIC is a party to
the agreement, to increase its Tier 1 capital to such level as the FDIC deems
appropriate. Tier 1 capital is defined as the sum of common stockholders'
equity, noncumulative perpetual preferred stock (including any related surplus)
and minority interests in consolidated subsidiaries, minus all intangible assets
other than mortgage servicing rights and qualifying supervisory goodwill
eligible for inclusion in core capital under OTS regulations and minus
identified losses and investments in certain securities subsidiaries. Insured
depository institutions with Tier 1 capital equal to or greater than 2% of total
assets may also be deemed to be operating in an unsafe or unsound condition
notwithstanding such capital level. The regulation further provides that in
considering applications that must be submitted to it by savings Banks, the FDIC
will take into account whether the savings Bank is meeting with the Tier 1
capital requirement for state non-member banks of 4% of total assets for all but
the most highly rated state non-member banks.

     Dividend Restrictions. The Bank's ability to pay dividends is governed by
the Maryland General Corporation Law, Maryland law relating to financial
institutions, and the regulations of the Federal Reserve Board. Under the
Maryland General Corporation Law, dividends may not be paid if, after giving
effect to the dividend: (i) the corporation would not be able to pay the
indebtedness of the corporation as the indebtedness becomes due in the normal
course of business; or (ii) the corporation's total assets would be less than
the sum of the corporation's total liabilities plus, unless the charter permits
otherwise, the amount needed, if the corporation were to be dissolved at the
time of distribution, to satisfy the preferential rights upon dissolution of
stockholders whose preferential rights are superior to those receiving the
dividend. Under Maryland law relating to financial institutions, if the surplus
of a commercial bank at any time is less than 100% of its capital stock, then,
until the surplus is 100% of the capital stock, the commercial bank: (i) must
transfer to its surplus annually at least 10% of its net earnings; and (ii) may
not declare or pay any cash dividends that exceed 90% of its net earnings.

     The Bank's payment of dividends is also subject to the Federal Reserve
Board's Regulation H, which provides that a state member bank may not pay a
dividend if the total of all dividends declared by the bank in any calendar year
exceeds the total of its net profits for the year combined with its retained net
profits for the preceding two calendar years, less any required transfers to
surplus or to a fund for the retirement of preferred stock, unless the bank has
received the prior approval of the Federal Reserve Board. In June 1997, the Bank
paid a dividend of $4,531,913 which exceeded the limitation for dividends that
the Bank may declare in a calendar year and for which Federal Reserve Board
approval

                                       22
<PAGE>
 
was obtained. Therefore, the Bank will need the approval of the Federal Reserve
Board in order to declare any further dividends for the calendar year.
Additionally, the Federal Reserve Board has the authority to prohibit the
payment of dividends by a Maryland commercial bank when it determines such
payment to be an unsafe and unsound banking practice. Finally, the Bank is not
able to pay dividends on its capital stock if its capital would thereby be
reduced below the remaining balance of the liquidation account established in
connection with the Stock Conversion.

     In addition, the Bank may not pay dividends on its capital stock if
its regulatory capital would thereby be reduced below the amount then required
for the liquidation account established for the benefit of certain depositors of
the Association at the time of the Stock Conversion. See Note 10 of the Notes to
Consolidated Financial Statements contained in the Company's Annual Report to
Stockholders attached hereto as Exhibit 13.

     Uniform Lending Standards. Under Federal Reserve Board regulations, state
member banks must adopt and maintain written policies that establish appropriate
limits and standards for extensions of credit that are secured by liens or
interests in real estate or are made for the purpose of financing permanent
improvements to real estate. These policies must establish loan portfolio
diversification standards, prudent underwriting standards, including loan-to-
value limits, that are clear and measurable, loan administration procedures and
documentation, approval and reporting requirements. The real estate lending
policies of state member banks must reflect consideration of the Interagency
Guidelines for Real Estate Lending Policies (the "Interagency Guidelines") that
have been adopted by the federal banking agencies.

     The Interagency Guidelines, among other things, call upon depository
institutions to establish internal loan-to-value limits for real estate loans
that are not in excess of the following supervisory limits: (i) for loans
secured by raw land, the supervisory loan-to-value limit is 65% of the value of
the collateral; (ii) for land development loans (i.e., loans for the purpose of
improving unimproved property prior to the erection of structures), the
supervisory limit is 75%; (iii) for loans for the construction of commercial,
multifamily or other nonresidential property, the supervisory limit is 80%; (iv)
for loans for the construction of one-to-four family properties, the supervisory
limit is 85%; and (v) for loans secured by other improved property (e.g.,
farmland, completed commercial property and other income-producing property
including non-owner-occupied, one-to-four family property), the limit is 85%.
Although no supervisory loan-to-value limit has been established for owner-
occupied, one-to-four family and home equity loans, the Interagency Guidelines
state that for any such loan with a loan-to-value ratio that equals or exceeds
90% at origination, an institution should require appropriate credit enhancement
in the form of either mortgage insurance or readily marketable collateral.

     The Interagency Guidelines state that it may be appropriate in individual
cases to originate or purchase loans with loan-to-value ratios in excess of the
supervisory loan-to-value limits, based on the support provided by other credit
factors. The aggregate amount of loans in excess of the supervisory loan-to-
value limits, however, should not exceed 100% of total capital and the total of
such loans secured by commercial, agricultural, multifamily and other non-one-
to-four family residential properties should not exceed 30% of total capital.
The supervisory loan-to-value limits do not apply to certain categories of loans
including loans insured or guaranteed by the U.S. government and its agencies or
by financially capable state, local or municipal governments or agencies, loans
backed by the full faith and credit of a state government, loans that are to be
sold promptly after origination without recourse to a financially responsible
party, loans that are renewed, refinanced or restructured without the
advancement of new funds, loans that are renewed, refinanced or restructured in
connection with a workout, loans to facilitate sales of real estate acquired by
the institution in the ordinary course of collecting a debt previously
contracted and loans where the real estate is not the primary collateral.

     Management will periodically evaluate its lending policies to assure
conformity to the Interagency Guidelines and does not anticipate that the
Interagency Guidelines will have a material effect on its lending activities.

     Limits on Loans to One Borrower. The Bank has chosen to be subject to
federal law with respect to limits on loans to one borrower. Generally, under
federal law, the maximum amount that a commercial bank may loan to one borrower
at one time may not exceed 15% of the unimpaired capital and surplus of the
commercial bank. The Bank's lending limit to one borrower (as of June 30, 1997)
is $1.3 million.

                                       23
<PAGE>
 
     Transactions with Related Parties. Transactions between a state member bank
and any affiliate are governed by Sections 23A and 23B of the Federal Reserve
Act. An affiliate of a state member bank is any company or entity which
controls, is controlled by or is under common control with the state member
bank. In a holding company context, the parent holding company of a state member
bank and any companies which are controlled by such parent holding company are
affiliates of the state member bank. Generally, Sections 23A and 23B (i) limit
the extent to which an institution or its subsidiaries may engage in "covered
transactions" with any one affiliate to an amount equal to 10% of such
institution's capital stock and surplus, and contain an aggregate limit on all
such transactions with all affiliates to an amount equal to 20% of such capital
stock and surplus and (ii) require that all such transactions be on terms
substantially the same, or at least as favorable, to the institution or
subsidiary as those provided to a non-affiliate. The term "covered transaction"
includes the making of loans, purchase of assets, issuance of a guarantee and
similar other types of transactions. In addition to the restrictions imposed by
Sections 23A and 23B, no state member bank may (i) loan or otherwise extend
credit to an affiliate, except for any affiliate which engages only in
activities which are permissible for bank holding companies, or (ii) purchase or
invest in any stocks, bonds, debentures, notes or similar obligations of any
affiliate, except for affiliates which are subsidiaries of the state member
bank.

     State member banks also are subject to the restrictions contained in
Section 22(h) of the Federal Reserve Act and the Federal Reserve's Regulation O
thereunder on loans to executive officers, directors and principal stockholders.
Under Section 22(h), loans to a director, executive officer and to a greater
than 10% stockholder of a state member bank and certain affiliated interests of
such persons, may not exceed, together with all other outstanding loans to such
person and affiliated interests, the institution's loans-to-one-borrower limit
(generally equal to 15% of the institution's unimpaired capital and surplus) and
all loans to such persons may not exceed the institution's unimpaired capital
and unimpaired surplus. Section 22(h) also prohibits loans, above amounts
prescribed by the appropriate federal banking agency, to directors, executive
officers and greater than 10% stockholders of a state member bank, and their
respective affiliates, unless such loan is approved in advance by a majority of
the board of directors of the institution with any "interested" director not
participating in the voting. Regulation O prescribes the loan amount (which
includes all other outstanding loans to such person) as to which such prior
board of director approval is required as being the greater of $25,000 or 5% of
capital and surplus (up to $500,000). Further, Section 22(h) requires that loans
to directors, executive officers and principal stockholders be made on terms
substantially the same as offered in comparable transactions to other persons.
Section 22(h) also generally prohibits a depository institution from paying the
overdrafts of any of its executive officers or directors.

     State member banks also are subject to the requirements and restrictions of
Section 22(g) of the Federal Reserve Act on loans to executive officers and the
restrictions of 12 U.S.C. (section) 1972 on certain tying arrangements and
extensions of credit by correspondent banks. Section 22(g) of the Federal
Reserve Act requires loans to executive officers of depository institutions not
be made on terms more favorable than those afforded to other borrowers, requires
approval by the board of directors of a depository institution for extension of
credit to executive officers of the institution, and imposes reporting
requirements for and additional restrictions on the type, amount and terms of
credits to such officers. Section 1972 (i) prohibits a depository institution
from extending credit to or offering any other services, or fixing or varying
the consideration for such extension of credit or service, on the condition that
the customer obtain some additional service from the institution or certain of
its affiliates or not obtain services of a competitor of the institution,
subject to certain exceptions, and (ii) prohibits extensions of credit to
executive officers, directors, and greater than 10% stockholders of a depository
institution by any other institution which has a correspondent banking
relationship with the institution, unless such extension of credit is on
substantially the same terms as those prevailing at the time for comparable
transactions with other persons and does not involve more than the normal risk
of repayment or present other unfavorable features.

     Additionally, Maryland statutory law imposes restrictions on certain
transactions with affiliates of Maryland commercial banks. Generally, under
Maryland law, a director, officer or employee of a commercial bank may not
borrow, directly or indirectly, any money from the bank, unless the loan has
been approved by a resolution adopted at and recorded in the minutes of the
board of directors of the bank, or the executive committee of the bank, if that
committee is authorized to make loans. If such a loan is approved by the
executive committee, the loan approval must be reported to the board of
directors at its next meeting. Certain commercial loans made to non-employee
directors of

                                       24
<PAGE>
 
a bank and certain consumer loans made to non-officer and non-director employees
of the bank are exempt from the statute's coverage.

Regulation of the Company

     General. The Company, as the sole shareholder of the Bank, is a bank
holding company and is registered as such with the Federal Reserve Board. Bank
holding companies are subject to comprehensive regulation by the Federal Reserve
Board under the Bank Holding Company Act of 1956, as amended (the "BHCA"), and
the regulations of the Federal Reserve Board. As a bank holding company, the
Company is required to file with the Federal Reserve Board annual reports and
such additional information as the Federal Reserve Board may require, and is
subject to regular examinations by the Federal Reserve Board. The Federal
Reserve Board also has extensive enforcement authority over bank holding
companies, including, among other things, the ability to assess civil money
penalties, to issue cease and desist or removal orders and to require that a
holding company divest subsidiaries (including its bank subsidiaries). In
general, enforcement actions may be initiated for violations of law and
regulations and unsafe or unsound practices.

     Under the BHCA, a bank holding company must obtain Federal Reserve Board
approval before: (i) acquiring, directly or indirectly, ownership or control of
any voting shares of another bank or bank holding company if, after such
acquisition, it would own or control more than 5% of such shares (unless it
already owns or controls the majority of such shares); (ii) acquiring all or
substantially all of the assets of another bank or bank holding company; or
(iii) merging or consolidating with another bank holding company.

     The BHCA also prohibits a bank holding company, with certain exceptions,
from acquiring direct or indirect ownership or control of more than 5% of the
voting shares of any company which is not a bank or bank holding company, or
from engaging directly or indirectly in activities other than those of banking,
managing or controlling banks, or providing services for its subsidiaries. The
principal exceptions to these prohibitions involve certain non-bank activities
which, by statute or by Federal Reserve Board regulation or order, have been
identified as activities closely related to the business of banking or managing
or controlling banks. The list of activities permitted by the Federal Reserve
Board includes, among other things, operating a savings institution, mortgage
company, finance company, credit card company or factoring company; performing
certain data processing operations; providing certain investment and financial
advice; underwriting and acting as an insurance agent for certain types of
credit-related insurance; leasing property on a full-payout, non-operating
basis; selling money orders, travelers' checks and United States Savings Bonds;
real estate and personal property appraising; providing tax planning and
preparation services; and, subject to certain limitations, providing securities
brokerage services for customers.

     Acquisitions of Bank Holding Companies and Banks. Under the BHCA, any
company must obtain approval of the Federal Reserve Board prior to acquiring
control of the Company or the Bank. For purposes of the BHCA, "control" is
defined as ownership of more than 25% of any class of voting securities of the
Company or the Bank, the ability to control the election of a majority of the
directors, or the exercise of a controlling influence over management or
policies of the Company or the Bank.

     Under the Holding Company Act, a bank holding company must obtain the prior
approval of the Federal Reserve Board before (i) acquiring direct or indirect
ownership or control of any voting shares of any bank or bank holding company
if, after such acquisition, the bank holding company would directly or
indirectly own or control more than 5% of such shares; (2) acquiring all or
substantially all of the assets of another bank or bank holding company; or (3)
merging or consolidating with another bank holding company. Satisfactory
financial condition, particularly with regard to capital adequacy, and
satisfactory Community Reinvestment Act ratings generally are prerequisites to
obtaining federal regulatory approval to make acquisitions.

     The Change in Bank Control Act and the related regulations of the Federal
Reserve Board require any person or persons acting in concert (except for
companies required to make application under the BHCA), to file a written notice
with the Federal Reserve Board before such person or persons may acquire control
of the Company or the Bank. The Change in Bank Control Act defines "control" as
the power, directly or indirectly, to vote 25% or more of any voting securities
or to direct the management or policies of a bank holding company or an insured
bank.

                                       25
<PAGE>
 
     Under Maryland law, acquisitions of 25% or more of the voting stock of a
commercial bank or a bank holding company and other acquisitions of voting stock
of such entities which affect the power to direct or to cause the direction of
the management or policy of a commercial bank or a bank holding company must be
approved in advance by the Commissioner. Any person proposing to make such an
acquisition must file an application with the Commissioner at least 60 days
before the acquisition becomes effective. The Commissioner may deny approval of
any such acquisition if the Commissioner determines that the acquisition is
anticompetitive or threatens the safety or soundness of a banking institution.
Any voting stock acquired without the approval required under the statute may
not be voted for a period of five years. This restriction is not applicable to
certain acquisitions by bank holding companies of the stock of Maryland banks or
Maryland bank holding companies which are governed by Maryland's holding company
statute.

     Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 and its
Application in Maryland. The Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994 (the "Act") was enacted to ease restrictions on
interstate banking. Effective September 29, 1995, the Act allows the Federal
Reserve Board to approve an application of an adequately capitalized and
adequately managed bank holding company to acquire control of, or acquire all or
substantially all of the assets of, a bank located in a state other than such
holding company's home state, without regard to whether the transaction is
prohibited by the laws of any state. The Federal Reserve Board may not approve
the acquisition of a bank that has not been in existence for the minimum time
period (not exceeding five years) specified by the statutory law of the host
state. The Act also prohibits the Federal Reserve Board from approving an
application if the applicant (and its depository institution affiliates)
controls or would control more than 10% of the insured deposits in the United
States or 30% or more of the deposits in the target bank's home state or in any
state in which the target bank maintains a branch. The Act does not affect the
authority of states to limit the percentage of total insured deposits in the
state which may be held or controlled by a bank or bank holding company to the
extent such limitation does not discriminate against out-of-state banks or bank
holding companies. Individual states may also waive the 30% state-wide
concentration limit contained in the Act.

     Additionally, the Act authorizes the federal banking agencies, effective
June 1, 1997, to approve interstate merger transactions without regard to
whether such transaction is prohibited by the law of any state, unless the home
state of one of the banks opts out of the Act by adopting a law after the date
of enactment of the Act and prior to June 1, 1997 that applies equally to all
out-of-state banks and expressly prohibits merger transactions involving out-of-
state banks. The State of Maryland has enacted legislation, effective September
29, 1995, that authorizes interstate mergers involving Maryland banks. The
Maryland statute also authorizes out-of-state banks to establish branch offices
in Maryland by means of merger, branch acquisition or de novo branching,
                                                      -------
provided that the home state of the out-of-state bank provides reciprocal
interstate branching authority to Maryland banks. Effective June 1, 1997, the
Maryland statute permits an out-of-state bank to branch into Maryland without
regard to the laws of such bank's home state.

     Dividends. The Federal Reserve Board has issued a policy statement on the
payment of cash dividends by bank holding companies, which expresses the Federal
Reserve Board's view that a bank holding company should pay cash dividends only
to the extent that the company's net income for the past year is sufficient to
cover both the cash dividends and a rate of earning retention that is consistent
with the company's capital needs, asset quality and overall financial condition.
The Federal Reserve Board also indicated that it would be inappropriate for a
company experiencing serious financial problems to borrow funds to pay
dividends. Furthermore, under the prompt corrective action regulations adopted
by the Federal Reserve Board pursuant to FDICIA, the Federal Reserve Board may
prohibit a bank holding company from paying any dividends if the holding
company's bank subsidiary is classified as "undercapitalized." See "Depository
Institution Regulation -- Prompt Corrective Regulatory Action."

     Bank holding companies are required to give the Federal Reserve Board prior
written notice of any purchase or redemption of its outstanding equity
securities if the gross consideration for the purchase or redemption, when
combined with the net consideration paid for all such purchases or redemptions
during the preceding 12 months, is equal to 10% or more of the their
consolidated net worth. The Federal Reserve Board may disapprove such a purchase
or redemption if it determines that the proposal would constitute an unsafe or
unsound practice or would violate any law, regulation, Federal Reserve Board
order, or any condition imposed by, or written agreement with, the Federal
Reserve Board.

                                       26
<PAGE>
 
     Capital Requirements. The Federal Reserve Board has established capital
requirements, similar to the capital requirements for state member banks
described above, for bank holding companies with consolidated assets of $150
million or more. Since the Company's consolidated assets are less than $150
million, the Federal Reserve Board's holding company capital requirements do not
apply to the Company. However, assuming the application of such requirements to
the Company, the Company's levels of consolidated regulatory capital would
exceed the Federal Reserve Board's minimum requirements.

Taxation

    The Company and the Bank, together with the Bank's subsidiary, to date have
not filed a consolidated federal income tax return. The Company has had no
material tax liability through June 30, 1997.

    The Federal tax bad debt reserve method available to thrift institutions was
repealed in 1996 for tax years beginning after 1995. As a result, the Bank must
change to a reserve method based on actual experience to compute its bad debt
deduction. In addition, the Bank is required to recapture into income the
portion of its bad debt reserve that exceeds its base year reserves of
approximately $200,000.

    The recapture amount resulting from the change in a thrift's method of
accounting for its bad debt reserves generally will be taken into taxable income
ratably (on a straight-line basis) over a six-year period. If the Bank meets a
"residential loan requirement" for a tax year beginning in 1996 or 1997, the
recapture of the reserves will be suspended for such tax year. Thus, recapture
can potentially be deferred for up to two years. The residential loan
requirement is met if the principal amount of housing loans made by the Bank
during the year at issue (1996 and 1997) is at least as much as the average of
the principal amount of loans made during the six most recent tax years prior to
1996. Refinancings and home equity loans are excluded.

    Earnings appropriated to the Bank's bad debt reserve and claimed as a tax
deduction are not available for the payment of cash dividends or for
distribution to stockholders (including distributions made on dissolution or
liquidation), unless the Bank includes the amount in taxable income, along with
the amount deemed necessary to pay the resulting federal income tax.

    Reversal of Tax Bad Debt Recapture. Generally, prior to the enactment of the
recent legislation, savings and loan associations that converted to commercial
banks were required to recapture some or all of their tax bad debt reserve
established for federal income taxation purposes. The Bank incurred a $740,000
expense for recapture of a portion of its tax bad debt reserve during the year
ended June 30, 1995 in connection with the determination of its predecessor's
(Patapsco Federal Savings and Loan Association (the "Association")) Board of
Directors to convert the Association to a Maryland commercial bank. After this
determination was made, legislation was introduced in Congress which provided
that savings and loan associations that convert to commercial banks will not be
required to recapture the portion of tax bad debt reserve accumulated prior to
1988. Following the introduction of this legislation, the Board of Directors
determined to delay consummation of the Bank Conversion pending the outcome of
this legislation. The legislation ultimately was enacted into law on August 20,
1996. The Association completed the Bank Conversion on September 30, 1996.
Further, the Company reversed approximately $600,000 of the $740,000 expense
previously incurred. The reversal of the tax bad debt reserve as described above
was reflected as a reduction of tax expense during the quarter ending September
30, 1996.

    The Bank's federal income tax returns have been audited through June 30,
1995.

    State Income Taxation. The State of Maryland imposes an income tax of
approximately 7% on income measured substantially the same as federally taxable
income, except that U.S. Government interest is not fully taxable.

    For additional information regarding taxation, see Note 8 of Notes to
Consolidated Financial Statements.

                                       27
<PAGE>
 
Item 2.  Description of Property
--------------------------------

    The following table sets forth the location and certain additional
information regarding the Bank's office at June 30, 1997.

<TABLE> 
<CAPTION> 
                                                           Book Value at
                                      Year     Owned or       June 30,         Approximate
                                     Opened     Leased         1997           Square Footage
                                     ------    --------    --------------     --------------
                                                    (Dollars in thousands)
<S>                                  <C>       <C>         <C>                <C> 
Main Office:
1301 Merritt Boulevard                1970      Owned          $736               9,600
Dundalk, Maryland 21222-2194
</TABLE> 

     The book value of the Bank's investment in premises and equipment totaled
$1.1 million at June 30, 1997. See Note 5 of Notes to Consolidated Financial
Statements.

Item 3. Legal Proceedings.
-------------------------

     From time to time, the Bank is a party to various legal proceedings
incident to its business. At June 30, 1997, there were no legal proceedings to
which the Company or the Bank was a party, or to which any of their property was
subject, which were expected by management to result in a material loss to the
Company or the Bank. There are no pending regulatory proceedings to which the
Company, the Bank or its subsidiary is a party or to which any of their
properties is subject which are currently expected to result in a material loss.

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

     Not applicable.


                                    PART II

Item 5.  Market for Common Equity and Related Stockholder Matters
-----------------------------------------------------------------

     The information contained under the sections captioned "Market Information"
in the Company's Annual Report to Stockholders for the Fiscal Year Ended June
30, 1997 (the "Annual Report") filed as Exhibit 13 hereto is incorporated herein
by reference.

Item 6.  Management's Discussion and Analysis or Plan of Operation
------------------------------------------------------------------

     The information contained in the section captioned "Management's Discussion
and Analysis of Financial Condition and Results of Operations" on pages 5
through 19 in the Annual Report is incorporated herein by reference.

Item 7.  Financial Statements
-----------------------------

     The Consolidated Financial Statements, Notes to Consolidated Financial
Statements, Independent Auditors' Report and Selected Financial Data contained
on pages 21 through 50 in the Annual Report, which are listed under Item 13
herein, are incorporated herein by reference.

Item 8. Changes in and Disagreements With Accountants on Accounting and
-----------------------------------------------------------------------
        Financial Disclosure
        -------------------- 

     Not applicable. 

                                       28
<PAGE>
 
                                   PART III

Item 9.  Directors, Executive Officers, Promoters and Control Persons;
----------------------------------------------------------------------
         Compliance with Section 16(a) of the Exchange Act
         -------------------------------------------------

    For information concerning the Board of Directors and executive officers of
the Company, the information contained under the section captioned "Proposal
I -- Election of Directors" in the Company's definitive proxy statement for the
Company's 1997 Annual Meeting of Stockholders (the "Proxy Statement") is
incorporated herein by reference.

Item 10.  Executive Compensation
--------------------------------

    The information contained under the sections captioned "Proposal I --
Election of Directors --Executive Compensation," " -- Director Compensation,"
" -- Employment Agreements" in the Proxy Statement is incorporated herein by
reference.

Item 11.  Security Ownership of Certain Beneficial Owners and Management
------------------------------------------------------------------------

    (a)  Security Ownership of Certain Beneficial Owners

         Information required by this item is incorporated herein by reference
         to the section captioned "Voting Securities and Principal Holders
         thereof" in the Proxy Statement.

    (b)  Security Ownership of Management

         Information required by this item is incorporated herein by reference
         to the sections captioned "Security Ownership of Management" in the
         Proxy Statement.

    (c)  Changes in Control

         Management of the Company knows of no arrangements, including any
         pledge by any person of securities of the Company, the operation of
         which may at a subsequent date result in a change in control of the
         registrant.

Item 12.  Certain Relationships and Related Transactions
--------------------------------------------------------

    The information required by this item is incorporated herein by reference to
the section captioned "Proposal I -- Election of Directors -- Transactions with
Management" in the Proxy Statement.

Item 13.  Exhibits List and Reports on Form 8-K.
-----------------------------------------------
    
    (a)  List of Documents Filed as Part of this Report 

    (1)  Financial Statements. The following consolidated financial statements
are incorporated by reference from Item 7 hereof (see Exhibit 13):

         Independent Auditors' Report
         Consolidated Statement of Financial Condition as of June 30, 1997
         and 1996
         Consolidated Statements of Income for the Years Ended June 30, 1997
         and 1996
         Consolidated Statements of Stockholders' Equity for the Years Ended
         June 30, 1997 and 1996
         Consolidated Statements of Cash Flows for the Years Ended June 30, 1997
         and 1996
         Notes to Consolidated Financial Statements

                                       29
<PAGE>
 
    (2)  Exhibits. The following is a list of exhibits filed as part of this
         Annual Report on Form 10-KSB and is also the Exhibit Index.

    No.  Description
    
*    3.1     Articles of Incorporation of Patapsco Bancorp, Inc.
*    3.2     Bylaws of Patapsco Bancorp, Inc.
**   4       Form of Common Stock Certificate of Patapsco Bancorp, Inc.
*** 10.1     Patapsco Bancorp, Inc. 1996 Stock Option and Incentive Plan
*** 10.2     Patapsco Bancorp, Inc. Management Recognition Plan
*   10.3(a)  Employment Agreement between Patapsco Federal Savings and Loan
             Association and Joseph J. Bouffard
*   10.3(b)  Employment Agreement between Patapsco Bancorp, Inc. and Joseph J.
             Bouffard
*   10.4(a)  Severance Agreements between Patapsco Federal Savings and Loan
             Association and Debra Brockschmidt, Timothy King, John McClean and
             Joseph Sallese
*   10.4(b)  Severance Agreements between Patapsco Bancorp, Inc. and Debra
             Brockschmidt, Timothy King, John McClean and Joseph Sallese for the
             year ended June 30, 1997.
*   10.5     Patapsco Federal Savings and Loan Association Retirement Plan for
             Non-Employee Directors
*   10.6     Patapsco Federal Savings and Loan Association Incentive
             Compensation Plan
*   10.7     Deferred Compensation Agreements between Patapsco Federal Savings
             and Loan Association and each of Directors McGowan and Patterson
*   10.8(a)  Severance Agreement between Patapsco Federal Savings and Loan
             Association and Frank J. Duchacek
*   10.8(b)  Severance Agreement between Patapsco Bancorp, Inc. and Frank J.
             Duchacek
    13       1997 Annual Report to Stockholders
    21       Subsidiaries of the Registrant
    23       Consent of KPMG Peat Marwick LLP
    27       Financial Data Schedule

----------------
*   Incorporated herein by reference from the Company's Registration Statement
    on Form SB-2 (File No. 33-99734).
**  Incorporated herein by reference from the Company's Registration Statement
    on Form 8-A (File No. 0-28032).
*** Incorporated herein by reference from the Company's Annual Report on Form
    10-KSB for the year ended June 30, 1996 (File No. 0-28032)

    (b) Reports on Form 8-K. On May 30, 1997, the Registrant filed a Current
        -------------------
Report on Form 8-K announcing that it had approved a special cash distribution
of $12.50 per share.

                                       30
<PAGE>
 
                                  SIGNATURES

    In accordance with Section 13 or 15(d) of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.

                                       PATAPSCO BANCORP, INC.

September 26, 1997
                                       By: /s/ Joseph J. Bouffard
                                          --------------------------------------
                                          Joseph J. Bouffard
                                          President and Chief Executive Officer

    In accordance with the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.


/s/ Joseph J. Bouffard                           September 26, 1997
-------------------------------------
Joseph J. Bouffard
President, Chief Executive Officer
  and Director
(Principal Executive Officer)

/s/ Timothy C. King                              September 26, 1997
-------------------------------------
Timothy C. King
Controller and Treasurer
(Principal Financial and Accounting Officer)

/s/ S. Robert Kinghorn                           September 26, 1997
-------------------------------------
S. Robert Kinghorn
Chairman of the Board

/s/ Joseph N. McGowan                            September 26, 1997
-------------------------------------
Joseph N. McGowan
Vice Chairman of the Board

/s/ Theodore C. Patterson                        September 26, 1997
-------------------------------------
Theodore C. Patterson
Director and Secretary

/s/ Robert M. Lating                             September 26, 1997
-------------------------------------
Robert M. Lating
Director

/s/ Douglas H. Ludwig                            September 26, 1997
-------------------------------------
Douglas H. Ludwig
Director

/s/ Nicole N. Kantorski                          September 26, 1997
-------------------------------------
Nicole N. Kantorski
Director

/s/ Thomas P. O'Neill                            September 26, 1997
-------------------------------------
Thomas P. O'Neill  
Director