<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
      
For the fiscal year ended December 31, 1997
 
[_]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934
      
For the transition period from _____________ to _____________

                          Commission File No. 0-28442

                          HEARTLAND BANCSHARES, INC.
                          --------------------------
                (NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)

          ILLINOIS                                             37-1356594
---------------------------------                          ------------------  
 (STATE OR OTHER JURISDICTION                               (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION)                         IDENTIFICATION NUMBER)

318 SOUTH PARK AVENUE, HERRIN, ILLINOIS                        62948-3604
---------------------------------------                    ------------------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)                       (ZIP CODE)

        ISSUER'S TELEPHONE NUMBER, INCLUDING AREA CODE:  (618) 942-7373
                                                         --------------

          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 $0.01 PER SHARE
                    ---------------------------------------
                               (Title of Class)

Check whether the issuer (1) has filed all reports required by Section 13 or
15(d) of the Securities Exchange Act of 1934 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 here if no disclosure of delinquent filers pursuant to Item 405 of
Regulation S-B is 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]

The issuer's revenues for the fiscal year ended December 31, 1997 were
$4,921,000

Based on the most recent sale of the common stock at a price of $15.25 per
share, the aggregate market value of the voting stock held by non-affiliates on
March 18, 1998 was $8,732,913.  For purposes of this calculation, it is assumed
that directors, officers, the Company's Employee Stock Ownership Plan and the
Company's Management Recognition Plan are affiliates. On such date, 876,875
shares of the common stock were issued and 876,875 shares outstanding.

Transitional Small Business Disclosure Format (check one):  Yes  [_]   No [X]

                      DOCUMENTS INCORPORATED BY REFERENCE

Portions of Proxy Statement for 1998 Annual Meeting of Stockholders.  (Part III)
<PAGE>
 
                                    PART I


ITEM 1.   DESCRIPTION OF BUSINESS
---------------------------------

GENERAL

     THE COMPANY.  Heartland Bancshares, Inc. (the "Company") was incorporated
under the laws of the State of Illinois in January 1996 at the direction of the
Board of Directors of the First Federal Savings and Loan Association of Herrin
(the "Association") for the purpose of serving first as a savings institution
holding company for the Association upon its conversion from mutual to stock
form (the "Conversion"), and then as a bank holding company upon the subsequent
conversion of the Association to a national bank (the "Bank Conversion") known
as Heartland National Bank (the "Bank").  On June 28, 1996, the Conversion and
the Bank Conversion were consummated and the Company completed its initial
public offering of its common stock.  A total of 876,875 shares were sold at
$10.00 per share.  Net proceeds from the offering, after deducting expenses and
the funds necessary to fund the Company's employee stock ownership plan
("ESOP"), amounted to approximately $7.4 million.  Unless otherwise stated
herein, references to the Bank refer to the Bank and its predecessor, the
Association.  The Company is registered with and subject to the regulation and
supervision of the Board of Governors of the Federal Reserve System (the
"Federal Reserve Board") as a bank holding company under the Bank Holding
Company Act of 1956, as amended (the "BHCA").

     The Company's principal business is overseeing the business of the Bank and
investing the portion of the net proceeds from its initial public offering
retained by it.  The Company has no significant assets other than its investment
in the Bank, a loan to the ESOP and certain cash and cash equivalents and
investment securities.  Accordingly, the information set forth herein relates
primarily to the Bank.  At December 31, 1997, the Company had consolidated total
assets of $67.5 million, deposits of $54.0 million and stockholders' equity of
$12.1 million.

     The Company's executive offices are located at 318 South Park Avenue,
Herrin, Illinois  62948-3604, and its main telephone number is (618) 942-7373.

     THE 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 single-family residences in its market area.
At December 31, 1997, one- to four-family residential mortgage loans comprised
79.62% of the Bank's total loan portfolio.  The Bank derives its income
principally from interest earned on loans and, to a lesser extent, interest
earned on mortgage-backed and related securities and investment securities and
noninterest income.  Funds for these activities are provided principally by
operating revenues, deposits, and repayments of outstanding loans and mortgage-
backed and related securities.

     The Bank's deposits are insured by the Savings Association Insurance Fund
("SAIF") up to the applicable limits for each depositor.  The Bank is subject to
comprehensive examination, supervision, and regulation by the Office of the
Comptroller of the Currency ("OCC") and the Federal Deposit Insurance
Corporation ("FDIC").  This regulation is intended primarily for the protection
of depositors.  The Bank is a member of the Federal Reserve Bank of St. Louis
and the Federal Home Loan Bank of Chicago.

LENDING ACTIVITIES

     General.  The Bank's gross loan portfolio totaled $47.2 million at December
31, 1997, representing 69.90% of the Company's total assets at that date.  It is
the Bank's policy to concentrate its lending within the counties of Williamson,
Jackson and Franklin located in southeastern Illinois.  At December 31, 1997,
$37.5 million, or 79.62%, of the Bank's total loan portfolio, consisted of one-
to four-family, residential mortgage loans.  At December 31, 1997, other loans
secured by real estate included multi-family residential real estate loans,
which amounted to $1.4 million, or 3.04%, of the Bank's total loan portfolio,
church loans, which amounted to $1.7 million, or 3.68%, of the Bank's total 

                                       2
<PAGE>
 
loan portfolio, commercial real estate loans which amounted to $3.1 million, or
6.66%, of the Bank's total loan portfolio and construction loans which amounted
to $381,000, or 0.81%, of the Bank's gross loan portfolio.

     The Bank also is active in the origination of consumer loans, which
primarily consist of loans secured by savings deposits, home improvement loans
and automobile loans.  Consumer loans amounted to $2.9 million, or 6.19% of the
Bank's total loan portfolio, at December 31, 1997.

     Loan Portfolio Composition.  The following table sets forth selected data
relating to the composition of the Bank's loan portfolio by type of loan at the
dates indicated.  At December 31, 1997, the Bank had no concentrations of loans
exceeding 10% of total loans other than as disclosed below.

<TABLE>
<CAPTION>
                                                 AT DECEMBER 31,
                                      -------------------------------------
                                            1997                1996
                                      -----------------   -----------------
                                      AMOUNT       %      AMOUNT       %
                                      -------   -------   -------   -------
                                              (DOLLARS IN THOUSANDS)
<S>                                   <C>       <C>       <C>       <C>
Type of Loan:
------------
Real estate loans:
 One- to four-family residential...   $37,546    79.62%   $33,208    78.82%
 Multi-family residential..........     1,433     3.04      1,520     3.61
 Construction......................       381     0.81      1,010     2.40
 Church............................     1,735     3.68      1,875     4.45
 Commercial........................     3,140     6.66      2,633     6.25
                                      -------   ------    -------   ------
   Total real estate loans.........    44,235    93.81     40,246    95.53
                                      -------   ------    -------   ------
 
Consumer loans:
 Automobiles.......................       508     1.08        346     0.82
 Savings account...................       477     1.01        503     1.20
 Home improvement..................       779     1.65        490     1.16
 Other.............................     1,157     2.45        545     1.29
                                      -------   ------    -------   ------
   Total consumer loans............     2,921     6.19      1,884     4.47
                                      -------   ------    -------   ------
 
   Total gross loans...............    47,156   100.00%    42,130   100.00%
                                      -------   ======    -------   ======
 
Less:
 Loans in process..................       375                 267
 Deferred service charge...........        74                  97
 Allowance for loan losses.........       400                 300
                                      -------             -------
   Total...........................   $46,307             $41,466
                                      =======             =======
</TABLE>

                                       3
<PAGE>
 
LOAN MATURITY SCHEDULE

          The following table sets forth certain information at December 31,
1997 regarding the dollar amount of loans maturing in the Bank's portfolio based
on their contractual terms to maturity, including scheduled repayments of
principal.  Demand loans, loans having no stated schedule of repayments and no
stated maturity, and overdrafts are reported as due in one year or less.  The
table does not include any estimate of prepayments which significantly shorten
the average life of all mortgage loans and may cause the Bank's repayment
experience to differ from that shown below.

<TABLE>
<CAPTION>
                                                        DUE AFTER
                                     DUE DURING THE     1 THROUGH       DUE AFTER
                                      YEAR ENDING     5 YEARS AFTER   5 YEARS AFTER
                                      DECEMBER 31,    DECEMBER 31,    DECEMBER 31,
                                          1998            1997            1997         TOTAL
                                     --------------   -------------   -------------   -------
                                                           (IN THOUSANDS)
<S>                                  <C>              <C>             <C>             <C> 
One- to four-family residential...        $5,902         $11,339         $20,305      $37,546
Multi-family residential..........           265             198             970        1,433
Construction......................           336              --              45          381
Church............................            --             356           1,379        1,735
Commercial........................           440             275           2,425        3,140
Consumer..........................         1,321           1,146             454        2,921
                                          ------         -------         -------      -------
 Total............................        $8,264         $13,314         $25,578      $47,156
                                          ======         =======         =======      =======
</TABLE>

          The next table sets forth at December 31, 1997, the dollar amount of
all loans due one year or more after December 31, 1997 which have predetermined
interest rates and have floating or adjustable interest rates.
<TABLE>
<CAPTION>
 
                                     PREDETERMINED     FLOATING OR
                                         RATE        ADJUSTABLE RATES
                                     -------------   ----------------
                                             (IN THOUSANDS)
<S>                                  <C>             <C> 
One- to four-family residential...      $21,033           $10,611    
Multi-family residential..........        1,168                --    
Construction......................           45                --    
Church............................           --             1,735    
Commercial........................           --             2,700    
Consumer..........................        1,600                --    
                                        -------           -------    
 Total............................      $23,846           $15,046    
                                        =======           =======     
</TABLE>

          Scheduled contractual principal repayments of loans do not reflect the
actual life of such assets.  The average life of loans is substantially less
than their contractual terms because of prepayments.  In addition, due-on-sale
clauses on loans generally give the Bank the right to declare a loan immediately
due and payable in the event, among other things, that the borrower sells the
real property subject to the mortgage and the loan is not repaid.  The average
life of mortgage loans tends to increase when current mortgage loan market rates
are substantially higher than rates on existing mortgage loans and, conversely,
decreases when current mortgage loan market rates are substantially lower than
rates on existing mortgage loans.

          Originations, Purchases and Sales of Loans.  The Bank 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 Bank concentrates its lending
activities in its market area.

                                       4
<PAGE>
 
          The following table sets forth certain information with respect to the
Bank's loan originations for the periods indicated.  There were no loans
purchased or sold during the periods indicated.

<TABLE>
<CAPTION>
                                         YEAR ENDED DECEMBER 31,
                                         -----------------------
                                            1997         1996
                                          -------      -------
                                            (IN THOUSANDS)
<S>                                       <C>          <C>
Loans originated:
 Real estate loans:
  One- to four-family residential...      $ 9,253      $ 9,534
  Multi-family residential..........          420          431
  Construction......................        1,539        2,599
  Church............................          795          835
  Commercial........................        1,705           --
 Consumer loans.....................        2,823        1,710
                                          -------      -------
 
   Total loans originated...........      $16,535      $15,109
                                          =======      =======
</TABLE>

          The Bank's loan originations are derived from a number of sources,
including referrals by realtors, depositors and borrowers, as well as walk-in
customers.  The Bank'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 Bank's loan
officers.  All of the Bank's loan officers are salaried, and the Bank does not
compensate loan officers on a commission basis for loans originated.  Loan
applications are accepted at each of the Bank's offices.

          Loan Underwriting Policies.  The Bank's lending activities are subject
to the Bank's written, non-discriminatory underwriting standards and to loan
origination procedures prescribed by the Bank's Board of Directors and its
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.  Property valuations are performed by appraisers approved by the
Bank's Board of Directors.  All residential real estate loans and all consumer
loans in excess of an individual loan officer's approval authority must be
approved by the Bank's Loan Committee, which consists of the President of the
Bank and two other directors.  All multi-family real estate loans and commercial
real estate loans must be approved by the full Board of Directors.  Individual
officers of the Bank 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.

          Currently, applications for fixed-rate, single-family real estate
loans are underwritten and documented in accordance with the standards of the
Federal Home Loan Mortgage Corporation ("FHLMC") and the Federal National
Mortgage Association ("FNMA").  Prior to October 1994, however, the Bank did not
use FHLMC and FNMA documents to close its loans.  It is the Bank's policy to
record a lien on the real estate securing the loan and to obtain title insurance
or a lawyer's opinion of title which insures that the property is free of prior
encumbrances.  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, paid flood insurance policies.
Earthquake insurance is also required on all real estate loans except land
loans.  Mine subsidence insurance is also required when the property securing
the loan is located in an area that has been determined to be undermined.

          Federal regulations require that all appraisals performed in
connection with federally related transactions must be performed by state-
certified or state-licensed appraisers.  Federally related transactions are
defined to include real estate-related financial transactions which the OCC
regulates, and would include mortgages made by the Bank.  Appraisals by state-
certified appraisers will be required for all such transactions having a value
of $1.0 million or more.  The OCC is authorized to determine other circumstances
in which appraisals must be performed by state-certified appraisers.  The OCC
has adopted regulations requiring that all real estate-related financial
transactions engaged in by 

                                       5
<PAGE>
 
national banks having a transaction value of $250,000 or more, other than those
involving appraisals of one- to four-family residential properties, require an
appraisal performed by a state-certified appraiser. One- to four-family
residential property financing may require an appraisal by a state-certified
appraiser if the amount involved exceeds $1.0 million or the financing involves
a "complex" one- to four-family property appraisal. Exceptions are made for
financings in which the transaction value is $250,000 or less or when the lien
is not necessary security. Illinois currently has a certification program in
effect. It is the policy of the Bank 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 Bank.

          The Bank is permitted to lend up to 100% of the appraised value of the
real property securing a mortgage loan.  The Bank is required by federal
regulations to obtain private mortgage insurance on that portion of the
principal amount of any loan that is 90% or greater of the appraised value of
the property.  The Bank will make a single-family residential mortgage loan with
a loan-to-value ratio of up to 95% and to require private mortgage insurance for
loan amounts in excess of 80%.  The maximum loan-to-value ratio permitted on
land loans is 50%.  The Bank generally limits the loan-to-value ratio on
commercial and multi-family real estate mortgage loans to 70%.

          Under applicable law, with certain limited exceptions, loans and
extensions of credit by a national bank to a person outstanding at one time
shall not exceed 15% of the institution's unimpaired capital and surplus.  Loans
and extensions of credit fully secured by readily marketable collateral may
comprise an additional 10% of unimpaired capital and surplus.  The Bank's loans
to one borrower were limited to $1.5 million at December 31, 1997.  At December
31, 1997, the Bank had no lending relationships in excess of the loans-to-one-
borrower limit.  At December 31, 1997, the Bank's largest loan was a $579,000
loan to a local law firm and the Bank's next five largest loans ranged from
$402,000 to $534,000.  All six loans were current and continued to perform in
accordance with their terms at December 31, 1997.

          Interest rates charged by the Bank 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.

          One- to Four-Family Residential Real Estate Lending.  The Bank
historically has been and continues to be an originator of one- to four-family,
residential real estate loans in its primary market area.  At December 31, 1997,
one- to four-family, residential mortgage loans, totaled $37.5 million, or
79.62%, of the Bank's total loan portfolio.

          The Bank originates both fixed rate and adjustable rate mortgage
loans.  The Bank offers fixed rate mortgage loans with terms of up to 20 years.
The Bank originates one and three-year adjustable rate loans with terms of up to
30 years.  Since October 1994, the adjustable rate loans originated by the Bank
are indexed to the one or three-year Treasury Bill rate, adjusted for constant
maturity.  Approximately $13.3 million of the Bank's adjustable rate loans at
December 31, 1997 were tied to this index.  Rate adjustments on one-year
adjustable rate loans are limited to a maximum of two percentage points per
adjustment and six percentage points over the life of the loan.  Rate
adjustments on three-year adjustable rate loans are limited to a maximum of
three percentage points per adjustment and six percentage points over the life
of the loan.

          Adjustable rate loans originated prior to October 1994 were indexed to
the FHLB Average Interest Rate Paid on Previously Occupied Homes.  Changes in
this index generally lag changes in other indices.  Interest rates on such loans
are not adjusted based upon an increment over such rate but adjust based upon
the changes in such rate, subject to floors and ceilings on the rate.  As of
December 31, 1997, approximately $3.9 million of the Bank's adjustable rate
loans had been originated in accordance with these terms.

          The retention of adjustable-rate mortgage loans in the Bank's loan
portfolio helps reduce the Bank's exposure to changes in interest rates.
However, there are unquantifiable credit risks resulting from potential
increased costs to the borrower as a result of repricing of adjustable-rate
mortgage loans.  It is possible that during periods of rising interest rates,
the risk of default on adjustable-rate and short-term or callable fixed-rate
mortgage loans may increase due to the 

                                       6
<PAGE>
 
upward adjustment of interest cost to the borrower. Accordingly, there can be no
assurance that yields on the Bank's adjustable-rate mortgages will adjust
sufficiently to compensate for increases in the Bank's cost of funds.

          Multi-Family and Commercial Real Estate Lending.  The Bank's multi-
family residential loan portfolio consists primarily of loans secured by small
apartment buildings.  The Bank's commercial real estate loan portfolio consists
primarily of loans to finance the acquisition of small retail establishments and
distribution centers.  Such loans generally range in size from $18,000 to
$579,000.  At December 31, 1997, the Bank had $1.4 million of multi-family
residential loans and $3.1 million of commercial real estate loans, which
amounted to 3.0% and 6.7%, respectively, of the Bank's total loan portfolio at
such date.  Multi-family and commercial real estate loans are generally
underwritten with loan-to-value ratios of up to 70% of the lesser of the
appraised value or the purchase price of the property.  Generally, such loans
are made for ten year terms and may provide for a balloon payment at the end of
such term.  The maximum term for these types  of loans is 20 years.  Because of
the inherently greater risk involved in this type of lending, the Bank generally
limits its multi-family and commercial real estate lending to borrowers within
its market area with which it has had prior experience.

          Multi-family residential and commercial real estate lending entails
significant additional risks as compared with single-family residential property
lending.  Multi-family residential and commercial real estate loans typically
involve large 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 office and 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 Bank
generally limits itself to its market area or to borrowers with which it has
prior experience or who are otherwise well known to the Bank.  It has been the
Bank's policy to obtain annual financial statements of the project for which
commercial and multi-family residential real estate loans are made.   In
addition, in the case of commercial mortgage loans made to a partnership or a
corporation, the Bank seeks, whenever possible, to obtain personal guarantees
and annual financial statements of the principals of the partnership or
corporation.

          Church Lending.  The Bank's loan portfolio includes a number of real
estate loans made to finance the construction or acquisition of church
properties located in the Bank's market area.  At December 31, 1997, the Bank
had seven church loans aggregating approximately $1.7 million, the largest of
which had a balance outstanding of $534,000.  Such loans are generally
originated on a fixed rate basis at a rate approximately 0.5% higher than the
fixed rate charged on one- to four-family residential real estate loans.  The
maximum term on church loans is generally 15 years.

          Construction Lending.  On a limited basis, the Bank also offers
construction loans to qualified borrowers for construction of single-family
residences in the Bank's market area.  Typically, the Bank limits its
construction lending to individuals who are building their primary residences or
to a limited number of local builders with whom the Bank has substantial
experience for the construction of a maximum of two one- to four-family
residential properties.  These loans generally provide for a six-month
construction period with only interest being paid during such time and convert
to a permanent loan at the end of the construction period.  Construction loans
are underwritten in accordance with the same standards as the Bank's mortgages
on existing properties.  Construction loans generally have a maximum loan-to-
value ratio of 80% of the appraised value of the property on an "as completed
basis."  Borrowers must satisfy all credit requirements which would apply to the
Bank's permanent mortgage loan financing for the subject property.

          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, the Bank may be required to advance funds beyond the amount
originally committed to permit completion of the development.  If the estimate
of value proves to be inaccurate, the Bank may be confronted, at or prior to the
maturity of the loan, with a project having a value which is insufficient to
assure full repayment.  The ability of a developer to sell developed lots or
completed dwelling units 

                                       7
<PAGE>
 
will depend on, among other things, demand, pricing, availability of comparable
properties and economic conditions. The Bank has sought to minimize this risk by
limiting construction lending to qualified borrowers in the Bank's market area
and by limiting the aggregate amount of outstanding construction loans. At
December 31, 1997, construction loans amounted to $381,000, or 0.81%, of the
Bank's loan portfolio.

          Consumer Lending.  The consumer loans originated by the Bank include
loans secured by savings deposits, home improvement loans, automobile loans,
home equity loans and unsecured loans.  At December 31, 1997, consumer loans
totaled $2.9 million, or 6.19%, of the Bank's total loan portfolio.

          Automobile loans are secured by both new and used cars and, depending
on the creditworthiness of the borrower, may be made for up to 90% of the
dealer's invoice plus destination and local charges, or, with respect to used
automobiles, the loan value as published by the National Automobile Dealers
Association.  New cars are financed for a period of up to five years, while used
cars are financed for up to four and one-half years depending on the age of the
vehicle.  Collision insurance is required for all automobile loans.  At December
31, 1997, automobile loans totaled $508,000, or 1.08%, of the Bank's total loan
portfolio.

          Home improvement loans generally are made on the security of
residences on which the Bank holds the first mortgage.  The maximum size of home
improvement loans is 85% of the "as completed" appraised value of the residence,
less the outstanding principal of the first mortgage, and have terms of up to 10
years.  The Bank also participates in the Federal Housing Authority ("FHA")
Title I Home Improvement loan program.  Such loans must be to finance only
certain types of improvements up to a maximum loan size of $7,500.  The FHA
guarantees 90% of the principal amount of each such loan.  Home improvement
loans generally are made on a fixed-rate basis.  At December 31, 1997, home
improvement loans amounted to $779,000, or 1.65%, of the Bank's total loan
portfolio.

          The Bank makes deposit account loans for up to 90% of the depositor's
deposit account balance.  The interest rate is normally 2% above the rate paid
on the deposit account, and the account must be pledged as collateral to secure
the loan.  Interest generally is billed on a quarterly basis.  At December 31,
1997, loans on deposit accounts totaled $477,000, or 1.01%, of the Bank's total
loan portfolio.

          Consumer lending affords the Bank the opportunity to earn yields
higher than those obtainable on single-family residential lending or
agricultural lending.  However, consumer loans entail greater risk than do
residential mortgage loans, particularly in the case of loans which are
unsecured or secured by rapidly depreciable assets such as automobiles.
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 and credit card 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.

          Loan Fees and Servicing.  In addition to interest earned on loans, the
Bank receives fees in connection with late payments and for miscellaneous
services related to its loans.  Due to competition from other lenders in its
Market Area, the Bank does not charge fees in connection with loan originations,
modifications or extensions.  The Bank generally does not service loans for
others and has earned minimal income from this activity.

          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 Bank takes immediate steps to have the delinquency cured and the
loan restored to current status.  All loans originated since October 1994
provide that a late fee of 5% of principal and interest due will be due after a
payment is 15 days delinquent.  Loans originated prior to October 1994 provided
that no late fee would be assessed until a payment was 40 days or more
delinquent, at which time a late fee was assessed equal to 5% of principal and
interest.  As a matter of policy, the Bank will contact the borrower after a
payment is 45 days delinquent.  Computer generated notices are sent out prior to
this time.  If payment is not promptly received, the borrower is contacted
again, and efforts are made 

                                       8
<PAGE>
 
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, or
management concludes that payment in full is not likely.  Consumer loans are
generally charged off, or any expected loss is reserved for, after they become
more than 120 days past due.  All other loans are charged off when management
concludes that they are uncollectible.  See Note 1 of Notes to Consolidated
Financial Statements.

          Real estate acquired by the Bank as a result of foreclosure is
classified as real estate acquired through foreclosure until such time as it is
sold.  When such property is acquired, it is recorded at the lower of cost or
its fair value less estimated selling costs.  Any required write-down of the
loan to its fair value less estimated selling costs upon foreclosure is charged
against the allowance for loan losses.  See Note 1 of the Notes to Consolidated
Financial Statements.

          The following table sets forth information with respect to the Bank's
nonperforming assets at the dates indicated.  There were no loans accruing which
are contractually past due 90 days or more or restructured loans within the
meaning of SFAS No. 15.

<TABLE>
<CAPTION>
                                                     AT DECEMBER 31,
                                                    -----------------
                                                     1997      1996
                                                     -----     -----
                                                  (DOLLARS IN THOUSANDS)
<S>                                                  <C>       <C>
Loans accounted for on a nonaccrual basis: (1)
 Real estate:
  One- to four-family residential................    $ 534     $ 383
  Multi-family residential.......................       --        88
  Church.........................................       --        --
  Commercial.....................................       --        --
 Commercial......................................       --        --
 Consumer........................................       85        22
                                                     -----     -----
  Total nonperforming loans......................    $ 619     $ 493
                                                     =====     =====
 
Percentage of total loans........................     1.31%     1.19%
                                                     =====     =====
Other nonperforming assets (2)...................    $ 239     $ 133
                                                     =====     =====
</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 of the
     collectibility of the loan.
(2)  Other nonperforming assets represents property acquired by the Bank through
     foreclosure.  This property is carried at the lower of its fair market
     value or the principal balance of the related loan, whichever is lower.


          At December 31, 1997, nonaccrual loans amounted to $619,000 as
compared to $493,000 at December 31, 1996.  The residential nonaccrual loans
consisted of 16 single family home loans with outstanding balances at December
31, 1997, ranging from $2,000 to $95,000.   Consumer nonaccrual loans at
December 31, 1997 were $85,000 as compared to $22,000 at December 31, 1996.  The
increase in total nonaccrual loans was due to the deterioration of the financial
condition of certain loan customers.

          During the year ended December 31, 1997, gross interest income of
$23,000 would have been recorded on loans accounted for on a nonaccrual basis if
the loans had been current throughout the respective periods.  There were no
restructured loans during the periods.

                                       9
<PAGE>
 
          There were no loans which are not currently classified as non-accrual,
90 days past due or restructured but where known information about possible
credit problems of borrowers causes 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.

          Real estate acquired through foreclosure is initially recorded at the
lower of cost (net loan receivable balance at date of foreclosure) or fair value
less estimated selling costs.  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.  The Bank
records a valuation allowance for estimated selling costs of the property
immediately after foreclosure.  Subsequent to foreclosure, real estate acquired
through foreclosure is periodically evaluated by management and an allowance for
loss is established if the estimated fair value of the property, less estimated
costs to sell, declines.  At December 31, 1997, the Bank had $239,000 in real
estate owned, consisting of five single-family residences.

          Federal regulations require national banks to classify their assets on
the basis of quality on a regular basis.  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 national bank to a sufficient degree of risk to
warrant classification but do possess credit deficiencies or potential
weaknesses deserving management's close attention.  Assets classified as
substandard or doubtful require a national bank to establish general allowances
for loan losses.  If an asset or portion thereof is classified loss, a national
bank must either establish a specific allowance for loss in the amount of the
portion of the asset classified loss, or charge off such amount.  Federal
examiners may disagree with a bank's classifications.  If a bank does not agree
with an examiner's classification of an asset, it may appeal this determination
to the District Manager of the OCC.  The Bank regularly reviews its assets to
determine whether any assets require classification or re-classification.  At
December 31, 1997, the Bank had $622,000 in classified assets, which consisted
of $619,000 in assets classified as substandard and $3,000 in assets classified
as loss.

          Allowance for Loan Losses.  In originating loans, the Bank 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 Bank'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
Bank increases its allowance for loan losses by charging provisions for loan
losses against the Bank's income.  During the year ended December 31, 1997, the
Bank made a $156,000 provision to the allowance for loan losses on the basis of
management's assessment of the level of risk in the loan portfolio.  Among other
factors, management believed that this increase was warranted because of charges
made against the reserve during 1997 as well as the additional risks posed by
the increase in the Bank's church, commercial real estate and consumer loan
portfolios.

          Management will continue to actively monitor the Bank'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.

                                       10
<PAGE>
 
          The Bank'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 Bank's assets and
evaluates the need to establish allowances on the basis of this review.  Assets
reviewed include nonaccrual loans, accruing loans 90 days or more delinquent,
loans modified in troubled debt restructurings and real estate owned, as well as
any additional classified loans or loans not falling within any of the above
categories but where known information about possible credit problems of
borrowers causes management to have serious concerns as to the ability of the
borrowers to comply with loan repayment terms and may result in disclosure of
the loans as nonaccrual, 90 days past due or restructured.  Allowances are
established by the Board of Directors on a quarterly basis based on an
assessment of risk in the Bank'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 or at the date the Bank determines a property
is an "in-substance foreclosed" property, the Bank would transfer the property
to real estate acquired in settlement of loans at the lower of cost 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.

          OCC policy requires 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) up to 60% of the portfolio that is
classified doubtful; (ii) up to 25% 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
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 Bank's allowance for
loan losses for the periods indicated.  There were $60,000 of loans charged off
during 1997.


<TABLE>
<CAPTION>
                                             YEAR ENDED DECEMBER 31,
                                             ----------------------- 
                                               1997          1996
                                               -----         -----
                                             (DOLLARS IN THOUSANDS)
 
<S>                                       <C>           <C>
Balance at beginning of period.........        $ 300         $ 300
Charge-offs............................          (60)           (5)
Recoveries.............................            4            --
Provision for loan losses..............          156             5
                                               -----         -----
Balance at end of period...............        $ 400         $ 300
                                               =====         =====
Ratio of net charge-offs to average
 loans outstanding during the period...         0.12%         0.01%
                                               =====         =====
</TABLE>

                                       11
<PAGE>
 
          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 DECEMBER 31,
                                          --------------------------------------------
                                                  1997                    1996
                                          --------------------    -------------------- 
                                                    PERCENT OF              PERCENT OF
                                                     LOANS IN                LOANS IN
                                                   CATEGORY TO             CATEGORY TO
                                          AMOUNT   TOTAL LOANS    AMOUNT   TOTAL LOANS
                                          ------   -----------    ------   ----------- 
                                                     (DOLLARS IN THOUSANDS)
<S>                                         <C>         <C>         <C>         <C>
Real estate - mortgage:
   One- to four-family residential.....     $318         79.62%     $237         78.82%
   Multi-family residential............       12          3.04        11          3.61
   Construction........................        3          0.81         7          2.40
   Church..............................       15          3.68        13          4.45
   Commercial..........................       27          6.66        19          6.25
Consumer...............................       25          6.19        13          4.47
                                            ----        ------      ----        ------
     Total allowance for loan losses...     $400        100.00%     $300        100.00%
                                            ====        ======      ====        ======
</TABLE>

INVESTMENT ACTIVITIES

          The Bank is permitted under federal law to make certain investments,
including investments in securities issued by various federal agencies and state
and municipal governments, deposits at the FHLB of Chicago, mortgage-backed and
related securities, certificates of deposits in federally insured institutions,
certain bankers' acceptances and federal funds.  It may also invest, subject to
certain limitations, in commercial paper having one of the two highest
investment ratings of a nationally recognized credit rating agency, and certain
other types of corporate debt securities and mutual funds.  Federal regulations
require the Bank to maintain an investment in FHLB and Federal Reserve Bank
stock and a minimum amount of liquid assets which may be invested in cash and
specified securities.

          The investment policy of the Company and the Bank currently allows for
investment in various types of mortgage-backed and related securities, liquid
assets, including United States Government and Agency securities, time deposits
at the FHLB of Chicago, certificates of deposit or bankers' acceptances at other
federally insured depository institutions subject to certain limitations, and
obligations of states and political subdivisions.  Generally, the objectives of
the Bank's investment policy are to:  (i) maximize returns; (ii) provide and
maintain liquidity within the guidelines of OCC regulations; (iii) maintain a
balance of high-quality, diversified investments to minimize risk; (iv) provide
collateral for pledging requirements; (v) serve as a counter-cyclical balance to
the loan portfolio; (vi) manage interest rate risk; and (vii) to insure
compliance with all regulatory requirements.  In accordance with the investment
policy, at December 31, 1997, the Company and the Bank had investments in U.S.
Government and agency notes, obligations of state and political subdivisions,
interest-earning deposits and certificates of deposit and FHLB of Chicago stock
and Federal Reserve Bank stock.

          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 Bank.
Such intermediaries may include quasi-governmental agencies such as GNMA, which
are guaranteed as the payment of principal and interest by the U.S. Government,
and FHLMC and FNMA, which are guaranteed by those agencies only.  Mortgage-
backed securities generally increase the quality of the Bank's assets by virtue
of the guarantees that back them, are more liquid than individual mortgage loans
and may be used to collateralize borrowings or other obligations of the Bank.

                                       12
<PAGE>
 
          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 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 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 Bank's mortgage-backed and related securities portfolio consists
primarily of seasoned fixed-rate and adjustable rate mortgage-backed and related
securities.  The Bank makes such investments in order to manage cash flow,
diversify assets and obtain yield.

                                       13
<PAGE>
 
          The following table sets forth the carrying value of the Company's
investments on a consolidated basis at the dates indicated.

<TABLE>
<CAPTION>
                                         AT DECEMBER 31,
                                        -----------------
                                         1997      1996
                                        -------   -------
                                          (IN THOUSANDS)
<S>                                     <C>       <C>
Securities available for sale (1):
 U.S. Government and agency and
  municipal securities...............   $ 1,714   $ 2,108
 Collateral mortgage obligations.....        --        --
 Mortgage-backed securities..........     1,249     2,814
 
Securities held to maturity:
 U.S. government and agency and
  municipal securities...............     5,627     9,030
 Mortgage-backed securities..........     5,737     6,663
                                        -------   -------
   Total investment securities.......    14,327    20,615
 
Cash and cash equivalents............     3,319       658
Certificates of deposit..............        95       293
FHLB and FRB stock...................       577       489
                                        -------   -------
   Total investments.................   $18,318   $22,055
                                        =======   =======
</TABLE>
 
-------------------------
(1)  The carrying value of securities available for sale is the market value.

                                       14
<PAGE>
 
          The following table sets forth information in the scheduled
maturities, amortized cost, market values and average yields for the Company's
investment and mortgage-backed securities portfolio at December 31, 1997.

<TABLE>
<CAPTION>
                                           ONE YEAR OR LESS      ONE TO FIVE YEARS     FIVE TO TEN YEARS    MORE THAN TEN YEARS
                                          -------------------   -------------------   -------------------   -------------------
                                          CARRYING   AVERAGE    CARRYING   AVERAGE    CARRYING   AVERAGE    CARRYING   AVERAGE
                                           VALUE      YIELD      VALUE      YIELD      VALUE      YIELD      VALUE      YIELD
                                          --------   -------    --------   -------    --------   -------    --------   -------
                                                                          (DOLLARS IN THOUSANDS)

<S>                                         <C>         <C>       <C>         <C>         <C>       <C>       <C>         <C>
 Securities available for sale:
  U.S. government, agency and
   municipal securities...............      $  100      5.51%     $1,614      6.33%       $ --        --%     $   --        --%
  Mortgage-backed securities..........          --        --       1,249      6.92          --        --          --        --

Securities held to maturity:
  U.S. government and agency
   and municipal securities...........       2,042      5.25       3,360      5.97         225      5.38          --        --
  Mortgage-backed securities..........          --        --       3,366      6.00         761      5.28       1,610      6.54
                                            ------                ------                  ----                ------

    Total.............................      $2,142      5.26%     $9,589      6.17%       $986      5.30%     $1,610      6.54%
                                            ======                ======                  ====                ======

<CAPTION>
                                           TOTAL INVESTMENT PORTFOLIO
                                          ----------------------------
                                          CARRYING   MARKET    AVERAGE
                                           VALUE      VALUE     YIELD
                                          --------   ------    -------
                                              (DOLLARS IN THOUSANDS)

<S>                                       <C>        <C>       <C>
 Securities available for sale:
  U.S. government, agency and
   municipal securities...............     $ 1,714   $ 1,714      6.29%
  Mortgage-backed securities..........       1,249     1,249      6.92

Securities held to maturity:
  U.S. government and agency
   and municipal securities...........       5,627     5,651      5.69
  Mortgage-backed securities..........       5,737     5,694      6.06
                                           -------   -------

    Total.............................     $14,327   $14,308      6.01%
                                           =======   =======
</TABLE>

                                       15
<PAGE>
 
DEPOSIT ACTIVITY AND OTHER SOURCES OF FUNDS

          General.  Deposits are the primary source of the Bank's funds for
lending, investment activities and general operational purposes.  In addition to
deposits, the Bank derives funds from loan principal and interest repayments,
maturities of investment securities and mortgage-backed and related 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.

          Deposits.  The Bank attracts deposits principally from within its
market area by offering a variety of deposit instruments, including checking
accounts, NOW accounts, regular savings accounts, Individual Retirement
Accounts, and certificates of deposit which range in maturity from 90 days to
three 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 Bank on a periodic basis.  The Bank reviews its
deposit mix and pricing on a weekly basis.  In determining the characteristics
of its deposit accounts, the Bank considers the rates offered by competing
institutions, funds acquisition and liquidity requirements, growth goals and
federal regulations.  Management believes it prices its deposits comparably to
rates offered by its competitors.  The Bank does not accept brokered deposits.

          The Bank competes for deposits with other institutions in its market
areas by offering deposit instruments that are competitively priced and by
providing customer service through convenient and attractive offices,
knowledgeable and efficient staff and hours of service that meet customers'
needs.  Substantially all of the Bank's depositors are Illinois residents.

          Savings deposits in the Company on a consolidated basis at December
31, 1997 were represented by the various types of savings programs described
below.

<TABLE>
<CAPTION>
INTEREST    MINIMUM                                           MINIMUM      BALANCES     PERCENTAGE OF
  RATE       TERM                       CATEGORY               AMOUNT    IN THOUSANDS   TOTAL SAVINGS
--------    -------                     --------              --------   ------------   ------------- 
<C>         <S>               <C>                             <C>        <C>            <C>
 
  N/A%      None              Non-interest bearing accounts        N/A        $   667            1.23%
3.84-4.98   None              Passbook accounts               $  10.00          7,055           13.06
  2.83      None              NOW accounts                       50.00          8,868           16.42
  4.08      12 Month          Christmas Club                      5.00              8            0.01
 
                              Certificates of Deposit
                              -----------------------
 
4.80-4.81   91 days           Fixed-term, fixed-rate             2,500            433            0.80
5.30-5.35   6 month           Fixed-term, fixed-rate             2,500          3,962            7.33
5.60-5.74   12 month          Fixed-term, fixed-rate               500          9,508           17.60
5.68-5.75   18 month          Fixed-term, fixed-rate               500          2,107            3.90
5.86-5.96   30 month          Fixed-term, fixed-rate               500          6,238           11.55
5.70-6.05   36 month          Fixed-term, fixed-rate               500            768            1.42
5.94-6.05   48 month          Fixed-term, fixed-rate               500            551            1.02
6.00-6.08   60 month          Fixed-term, fixed-rate               500          2,488            4.61
6.03-6.30   72 month          Fixed-term, fixed-rate               500          1,151            2.13
6.53-6.85   96 month          Fixed-term, fixed-rate               500          1,355            2.51
5.75-5.92   IRAs              Fixed-term, fixed-rate               100          3,448            6.38
5.33-6.25   Variable          Fixed-term, fixed rate           100,000          4,136            7.66
  6.98      36 month (1)      Fixed-term, adjustable-rate        5,000          1,279            2.37
                                                                              -------          ------
                                                                              $54,022          100.00%
                                                                              =======          ======
</TABLE>

-------------------------
(1)  Customer has option at any time during term of certificate to request a
     one-time increase to the then-prevailing 36 month certificate of deposit
     rate.

                                       16
<PAGE>
 
        The following table sets forth the change in dollar amount of deposits
in the various types of accounts offered by the Company between the dates
indicated.

<TABLE>
<CAPTION>
                                                                  INCREASE
                                    BALANCE AT                (DECREASE) FROM     BALANCE AT
                                   DECEMBER 31,     % OF        DECEMBER 31,     DECEMBER 31,     % OF
                                       1997       DEPOSITS          1996             1996       DEPOSITS
                                   ------------   --------    ---------------    ------------   -------- 
                                                           (DOLLARS IN THOUSANDS)
<S>                                     <C>         <C>                <C>            <C>         <C>
 
Non-interest bearing accounts...        $   667       1.23%            $  419         $   248        .47%
Passbook and regular savings....          7,055      13.06                406           6,649      12.58
NOW.............................          8,868      16.42                (44)          8,912      16.87
Christmas club..................              8       0.01                 (2)             10       0.02
Certificates of deposit.........         33,976      62.90              1,394          32,582      61.67
IRA.............................          3,448       6.38               (983)          4,431       8.39
                                        -------     ------             ------         -------     ------
 
     Total......................        $54,022     100.00%            $1,190         $52,832     100.00%
                                        =======     ======             ======         =======     ======
</TABLE>

          The following table sets forth the average month-end balances and
interest rates for interest-bearing demand deposits and time deposits for the
periods indicated.
<TABLE>
<CAPTION>
                                              YEAR ENDED DECEMBER 31,
                                      ---------------------------------------
                                             1997                 1996
                                      -----------------    ----------------- 
                                      AVERAGE   AVERAGE    AVERAGE   AVERAGE
                                      BALANCE     RATE     BALANCE     RATE
                                      -------   -------    -------   ------- 
                                              (DOLLARS IN THOUSANDS)

<S>                                   <C>          <C>     <C>          <C>
Savings deposits...................   $ 6,934      3.96%   $ 7,173      3.94%
Interest-bearing demand deposits...     9,059      2.83      9,367      3.04
Certificates of deposit............    36,295      5.68     38,673      5.78
                                      -------              -------
 Total.............................   $52,288              $55,213
                                      =======              =======
</TABLE>

          The following table indicates the amount of the Bank's certificates of
deposit of $100,000 or more by time remaining until maturity as of December 31,
1997 and at such date represented 7.66% of total deposits and had a weighted
average rate of 6.18%.  The Bank's certificates of deposit in excess of $100,000
primarily consist of deposits from individual retail customers.   To the extent
the Bank is unable to replace maturing deposits, it may sell investment
securities classified as available for sale.

<TABLE>
<CAPTION>
 
                                                             CERTIFICATES
                MATURITY PERIOD                              OF DEPOSITS
                ---------------                             --------------
                                                            (IN THOUSANDS)

                <S>                                         <C>
                Three months or less...................          $  950
                Over three months through six months...             500
                Over six months through 12 months......           1,348
                Over 12 months.........................           1,338
                                                                 ------
                  Total................................          $4,136
                                                                 ======
</TABLE>

                                       17
<PAGE>
 
          Borrowings.  Savings deposits historically have been the primary
source of funds for the Bank's lending, investments and general operating
activities.  The Bank is authorized, however, to use advances from the FHLB of
Chicago to supplement its supply of lendable funds and to meet deposit
withdrawal requirements.  The FHLB of Chicago 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 Bank is required to
own stock in the FHLB of Chicago 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.  At December 31, 1997, the Bank had
$750,000 of FHLB advances outstanding.  Such advances were repaid in January
1998.

          The following table sets forth certain information regarding short-
term borrowings by the Bank at the dates and for the periods indicated.

<TABLE>
<CAPTION>
                                                                AT
                                                            DECEMBER 31,
                                                        -------------------
                                                         1997          1996
                                                         ----          ----
                                                      (DOLLARS IN THOUSANDS)
<S>                                                     <C>           <C>
Amounts outstanding at end of period:
     FHLB advances...............................       $  750        $  --
 
Rate paid on:
     FHLB advances...............................         5.86%          --
 
Maximum amount of borrowings outstanding
  at end of any month end:
     FHLB advances...............................        1,750           --
 
Approximate average short-term borrowings
  outstanding with respect to:
     FHLB advances...............................        1,375           --
 
Approximate weighted average rate paid on: (1)
     FHLB advances...............................         5.69%          --
</TABLE>

_______________
(1)  Based on month-end balances.

                                       18
<PAGE>
 
SUBSIDIARY ACTIVITIES

  The Bank has one subsidiary service corporation, Herrin First Service
Corporation.  Herrin First Service Corporation was formed in 1971 by the Bank
for the purpose of developing a residential subdivision located in Herrin.  Such
development was completed and all lots were subsequently sold.  No further
development activities have been undertaken or are planned, and the subsidiary
is inactive.  Its assets consist of various liquid assets totaling $236,000.

PERFORMANCE RATIOS

  The table below sets forth certain performance ratios of the  Company at or
for the years indicated.

<TABLE>
<CAPTION>
                                                                   AT OR FOR THE
                                                                    YEAR ENDED
                                                                   DECEMBER 31,
                                                             -----------------------
                                                              1997             1996
                                                             ------           ------
<S>                                                          <C>              <C>
 
PERFORMANCE RATIOS:
   Return on assets (net income divided by average
      total assets).......................................     0.24%            0.81%
   Return on average stockholders' equity (net income
      divided by average stockholders' equity)............     1.33             5.69
   Interest rate spread (combined weighted average
      interest rate earned less combined weighted
      average interest rate cost).........................     2.41             2.16
   Ratio of average interest-earning assets to average
      interest-bearing liabilities........................   119.63           113.33
   Ratio of noninterest expense to average total assets...     2.84             2.81
</TABLE>

COMPETITION

  The Bank faces strong competition both in originating real estate,
agriculture, automobile, consumer and other loans and in attracting deposits.
The Bank competes for real estate and other loans principally on the basis of
interest rates, the types of loans it originates and the quality of services it
provides to borrowers.  Its competition in originating real estate loans comes
primarily from other savings institutions, commercial banks and mortgage bankers
making loans secured by real estate located in the Bank's market area.
Commercial banks, credit 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.

EMPLOYEES

  As of December 31, 1997, the Bank had 23 full-time employees and two part-time
employees, none of whom was represented by a collective bargaining agreement,
and management considers the Bank's relationships with its employees to be good.

                                       19
<PAGE>
 
                           SUPERVISION AND REGULATION

REGULATION OF THE COMPANY

  GENERAL.  The Company is a bank holding company within the meaning of the
BHCA.  As such, the Company is registered with the Federal Reserve Board and
subject to Federal Reserve Board regulation, examination, supervision and
reporting requirements.  As a bank holding company, the Company is required to
furnish to the Federal Reserve Board annual and quarterly reports of its
operations at the end of each period and to furnish such additional information
as the Federal Reserve Board may require pursuant to the BHCA.  The Company is
also subject to regular examination by the Federal Reserve Board.

  Under the BHCA, 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.

  RIEGLE-NEAL INTERSTATE BANKING AND BRANCHING EFFICIENCY ACT OF 1994.
Effective September 29, 1995, the Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994 (the "Riegle-Neal 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 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 Riegle-Neal 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 Riegle-Neal 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 Riegle-Neal Act.

  Additionally, the federal banking agencies are authorized 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
has opted out of the Riegle-Neal Act by adopting a law after the date of
enactment of the Riegle-Neal Act and prior to June 1, 1997 which applies equally
to all out-of-state banks and expressly prohibits merger transactions involving
out-of-state banks.  Interstate acquisitions of branches are permitted only if
the law of the state in which the branch is located permits such acquisitions.
Interstate mergers and branch acquisitions are also subject to the nationwide
and statewide insured deposit concentration amounts described above.

  The Riegle-Neal Act authorizes the OCC and FDIC to approve interstate
branching de novo by national and state banks, respectively, only in states
which specifically allow for such branching.  The Riegle-Neal Act also requires
the appropriate federal banking agencies to prescribe regulations which prohibit
any out-of-state bank from using the interstate branching authority primarily
for the purpose of deposit production.

  The BHCA also prohibits, with certain exceptions, a bank holding company from
acquiring direct or indirect ownership or control of more than 5% of the voting
shares of a company that is not a bank or a 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 activities of the Company are subject to these legal
and regulatory limitations under the BHCA and the Federal Reserve Board's
regulations thereunder.  Notwithstanding the 

                                       20
<PAGE>
 
Federal Reserve Board's prior approval of specific nonbanking activities, the
Federal Reserve Board has the power to order a holding company or its
subsidiaries to terminate any activity, or to terminate its ownership or control
of any subsidiary, when it has reasonable cause to believe that the continuation
of such activity or such ownership or control constitutes a serious risk to the
financial safety, soundness or stability of any bank subsidiary of that holding
company.

  CAPITAL ADEQUACY.  The Federal Reserve Board has adopted guidelines regarding
the capital adequacy of bank holding companies, which require bank holding
companies to maintain specified minimum ratios of capital to total assets and
capital to risk-weighted assets.  See "-- Regulation of the Bank -- Capital
Adequacy."

  DIVIDENDS AND DISTRIBUTIONS.  The Federal Reserve Board has the power to
prohibit dividends by bank holding companies if their actions constitute unsafe
or unsound practices.  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.

  Bank holding companies are required to give the Federal Reserve Board notice
of any purchase or redemption of their 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 bank holding company's consolidated net
worth.  The Federal Reserve Board may disapprove such a purchase or redemption
if it determines that the proposal would violate any law, regulation, Federal
Reserve Board order, directive, or any condition imposed by, or written
agreement with, the Federal Reserve Board.  Bank holding companies whose capital
ratios exceed the thresholds for "well capitalized" banks on a consolidated
basis are exempt from the foregoing requirement if they were rated composite 1
or 2 in their most recent inspection and are not the subject of any unresolved
supervisory issues.

REGULATION OF THE BANK

  GENERAL.  As a national bank, the Bank is subject to the primary supervision
of the OCC under the National Bank Act.  The OCC regularly examines the
operations of the Bank, including but not limited to capital adequacy, reserves,
loans, investments and management practices.  These examinations are for the
protection of the Bank's depositors and not its shareholders.  In addition, the
Bank is required to furnish quarterly and annual reports to the OCC.  The OCC's
enforcement authority includes the power to remove officers and directors and
the authority to issue cease-and-desist orders to prevent a bank from engaging
in unsafe or unsound practices or violating laws or regulations governing its
business.

  The Bank is a member of the Federal Reserve System and its deposits are
insured by the FDIC to the legal maximum of $100,000 for each insured depositor.
Some of the aspects of the lending and deposit business of the Bank that are
subject to regulation by the Federal Reserve Board and the FDIC include reserve
requirements and disclosure requirements in connection with personal and
mortgage loans and savings deposit accounts.  In addition, the Bank is subject
to numerous federal and state laws and regulations which set forth specific
restrictions and procedural requirements with respect to the establishment of
branches, investments, interest rates on loans, credit practices, the disclosure
of credit terms and discrimination in credit transactions.

  CAPITAL ADEQUACY.  The Federal Reserve Board and the OCC have established
guidelines with respect to the maintenance of appropriate levels of capital by
bank holding companies and national banks, respectively.  The regulations impose
two sets of capital adequacy requirements: minimum leverage rules, which require
bank holding companies and banks to maintain a specified minimum ratio of
capital to total assets, and risk-based capital rules, which require the
maintenance of specified minimum ratios of capital to "risk-weighted" assets.

                                       21
<PAGE>
 
  The regulations of the Federal Reserve Board and the OCC require bank holding
companies and national banks, respectively, to maintain a minimum leverage ratio
of "Tier 1 capital" (as defined in the risk-based capital guidelines discussed
in the following paragraphs) to total assets of 3.0%.  Although setting a
minimum 3.0% leverage ratio, the capital regulations state that only the
strongest bank holding companies and banks, with composite examination ratings
of 1 under the rating system used by the federal bank regulators, would be
permitted to operate at or near such minimum level of capital.  All other bank
holding companies and banks are expected to maintain a leverage ratio of at
least 1% to 2% above the minimum ratio, depending on the assessment of an
individual organization's capital adequacy by its primary regulator.  Any bank
or bank holding company experiencing or anticipating significant growth would be
expected to maintain capital well above the minimum levels.  In addition, the
Federal Reserve Board has indicated that whenever appropriate, and in particular
when a bank holding company is undertaking expansion, seeking to engage in new
activities or otherwise facing unusual or abnormal risks, it will consider, on a
case-by-case basis, the level of an organization's ratio of tangible Tier 1
capital (after deducting all intangibles) to total assets in making an overall
assessment of capital.

  The risk-based capital rules of the Federal Reserve Board and the OCC require
bank holding companies and state member banks to maintain minimum regulatory
capital levels based upon a weighting of their assets and off-balance sheet
obligations according to risk.  The risk-based capital rules have two basic
components: a core capital (Tier 1) requirement and a supplementary capital
(Tier 2) requirement.  Core 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 all intangible assets, except for certain purchased mortgage
servicing rights and purchased credit card relationships.  Supplementary capital
elements include, subject to certain limitations, the allowance for losses on
loans and leases; perpetual preferred stock that does not qualify as Tier 1
capital 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.

  The risk-based capital regulations assign balance sheet assets and credit
equivalent amounts of off-balance sheet obligations to one of four broad risk
categories based principally on the degree of credit risk associated with the
obligor.  The assets and off-balance sheet items in the four risk categories are
weighted at 0%, 20%, 50% and 100%.  These computations result in the total risk-
weighted assets.  The risk-based capital regulations require all banks and bank
holding companies to maintain a minimum ratio of total capital to total risk-
weighted assets of 8%, with at least 4% as core capital.  For the purpose of
calculating these ratios: (i) supplementary capital will be limited to no more
than 100% of core capital; and (ii) the aggregate amount of certain types of
supplementary capital will be limited.  In addition, the risk-based capital
regulations limit the allowance for loan losses includable as capital to 1.25%
of total risk-weighted assets.

  OCC regulations and guidelines additionally specify that national banks with
significant exposure to declines in the economic value of their capital due to
changes in interest rates may be required to maintain higher risk-based capital
ratios.  The federal banking agencies, including the OCC, have proposed a system
for measuring and assessing the exposure of a bank's net economic value to
changes in interest rates.  The federal banking agencies, including the OCC,
have stated their intention to propose a rule establishing an explicit capital
charge for interest rate risk based upon the level of a bank's measured interest
rate risk exposure after more experience has been gained with the proposed
measurement process.  Federal Reserve Board regulations do not specifically take
into account interest rate risk in measuring the capital adequacy of bank
holding companies.

  The OCC has issued final regulations which classify national banks by capital
levels and which provide for the OCC to take various prompt corrective actions
to resolve the problems of any bank that fails to satisfy the capital standards.
Under such regulations, a well-capitalized bank is one that is not subject to
any regulatory order or directive to meet any specific capital level and that
has or exceeds the following capital levels: a total risk-based capital ratio of
10%, a Tier 1 risk-based capital ratio of 6%, and a leverage ratio of 5%.  An
adequately capitalized bank is one that does not qualify as well-capitalized but
meets or exceeds the following capital requirements: a total risk-based capital
ratio 

                                       22
<PAGE>
 
of 8%, a Tier 1 risk-based capital ratio of 4%, and a leverage ratio of either
(i) 4% or (ii) 3% if the bank has the highest composite examination rating. A
bank not meeting these criteria is treated as undercapitalized, significantly
undercapitalized, or critically undercapitalized depending on the extent to
which the bank's capital levels are below these standards. A national bank that
falls within any of the three undercapitalized categories established by the
prompt corrective action regulation will be subject to severe regulatory
sanctions. As of December 31, 1997, the Bank was well-capitalized as defined by
the OCC's regulations.

  For information regarding the Bank's compliance with its regulatory capital
requirements, see Note 13 of Notes to Consolidated Financial Statements.

  BRANCHING.  Under the McFadden Act of 1927, national banks may only establish
branches to the extent specifically authorized by statute for banks chartered by
the state in which the national bank is located and subject to the restrictions
as to location imposed by state law on state banks.  The Riegle-Neal Act
authorizes the OCC and FDIC to approve interstate branching de novo by national
and state banks, respectively, only in states which specifically allow for such
branching.

  DIVIDEND LIMITATIONS.  Pursuant to the National Bank Act, no national bank may
pay dividends from its paid-in capital.  All dividends must be paid out of
current or retained net profits, after deducting reserves for losses and bad
debts.  The National Bank Act further restricts the payment of dividends out of
net profits by prohibiting a national bank from declaring a dividend on its
shares of common stock until the surplus fund equals the amount of capital stock
or, if the surplus fund does not equal the amount of capital stock, until one-
tenth of a bank's net profits for the preceding half year in the case of
quarterly or semi-annual dividends, or the preceding two half-year periods in
the case of annual dividends, are transferred to the surplus fund.  Prior OCC
approval is required for the payment of a dividend if the total of all dividends
declared by a national bank in any calendar year would exceed the total of its
net profits for that year combined with its net profits for the two preceding
years, less any required transfers to surplus or a fund for the retirement of
any preferred stock.  In addition, the Bank is prohibited by federal statute
from paying dividends or making any other capital distribution that would cause
the Bank to fail to meet its regulatory capital requirements.  Further, the OCC
also has authority to prohibit the payment of dividends by a national bank when
it determines such payment to be an unsafe and unsound banking practice.

  DEPOSIT INSURANCE.  Because the Bank was a savings association prior to the
Bank Conversion, its deposits continue to be insured by the SAIF rather than by
the Bank Insurance Fund ("BIF") which generally insured the deposits of national
banks.  The Bank is required to pay semi-annual assessments based on a
percentage of its insured deposits to the FDIC for insurance of its deposits by
the SAIF.  Under the Federal Deposit Insurance Act, the FDIC is required to set
semi-annual assessments for SAIF-insured institutions 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 raising a significant risk of
substantial future losses to the SAIF.

  Under the risk-based deposit insurance assessment system adopted by the FDIC,
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."  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.

  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 

                                       23
<PAGE>
 
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 an expense of $351,000 during the quarter
ended September 30, 1996.

  The FDIC has adopted a new assessment schedule for SAIF deposit insurance
pursuant to which the assessment rate for well-capitalized institutions with the
highest supervisory ratings would be reduced to zero and institutions in the
lowest risk assessment classification will be assessed at the rate of 0.27% of
insured deposits.  Until December 31, 1999, however, SAIF-insured institutions,
will be required to pay assessments to the FDIC at the rate of 6.5 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.

  TRANSACTIONS WITH AFFILIATES.  Transactions between a national bank and any
affiliate are governed by Sections 23A and 23B of the Federal Reserve Act.  An
affiliate of a national bank is any company or entity which controls, is
controlled by or is under common control with the national bank.  In a holding
company context, the parent holding company of a national bank (such as the
Company) and any companies which are controlled by such parent holding company
are affiliates of the national bank.  Generally, Sections 23A and 23B (i) limit
the extent to which the bank or its subsidiaries may engage in "covered
transactions" with any one affiliate to an amount equal to 10% of such bank'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 national 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 national bank.  The BHCA further
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.

  LOANS TO DIRECTORS, EXECUTIVE OFFICERS AND PRINCIPAL STOCKHOLDERS.  National
banks are also subject to the restrictions contained in Section 22(h) and 22(g)
of the Federal Reserve Act on loans to executive officers, directors and
principal stockholders.  Under Section 22(h), loans to a director, executive
officer or greater than 10% stockholder of a national bank and certain
affiliated interests of the foregoing, may not exceed, together with all other
outstanding loans to such person and affiliated interests, the bank'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
national bank, and their respective affiliates, unless such loan is approved in
advance by a majority of the board of directors of the association with any
"interested" director not participating in the voting.  The Federal Reserve
Board has prescribed the loan amount (which includes all other outstanding loans
to such person), as to which such prior board of director approval if required,
as being the greater of $25,000 or 5% of capital and surplus (up to $500,000).
Further, the Federal Reserve Board pursuant to 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
unless the loan is made pursuant to a benefit or compensation plan that is
widely available to other employees and does not give preference to insiders.
Section 22(h) also prohibits a depository institution from paying the overdrafts
of any of its executive officers or directors.  Section 22(g) of the Federal
Reserve Act requires that loans to executive officers of depository institutions
be approved by the board of directors of the institution, and imposes reporting
requirements for and additional restrictions on the type, amount and terms of
credits to such officers.  In addition, Section 106 of the BHCA prohibits

                                       24
<PAGE>
 
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.


ITEM 2.  PROPERTIES
-------------------

  The following table sets forth the location and certain additional information
regarding the Bank's offices at December 31, 1997.

<TABLE>
<CAPTION>
                                                    BOOK VALUE AT                    DEPOSITS AT
                                  YEAR    OWNED OR   DECEMBER 31,    APPROXIMATE     DECEMBER 31,
                                 OPENED    LEASED        1997       SQUARE FOOTAGE       1997
                                 ------   --------   ------------   --------------   ------------
                                                      (DOLLARS IN THOUSANDS)
<S>                                <C>       <C>            <C>          <C>            <C>
MAIN OFFICE:
 
318 South Park Avenue
Herrin, Illinois 62948             1949      Owned          $ 321        4,678          $47,798
 
BRANCH OFFICE:
 
New Route 13 East
Carterville, Illinois 62918        1975      Owned            140        1,895            6,224
</TABLE>

          The net book value of the Bank's investment in premises and equipment
totaled approximately $461,000 at December 31, 1997.  For a discussion of
premises and equipment, see Note 9 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 December 31, 1997, there were no other 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.


ITEM 4.  SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
----------------------------------------------------------

          No matters were submitted to a vote of security holders during the
fourth quarter of the fiscal year ended December 31, 1997.


                                    PART II

ITEM 5.  MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDERS'
----------------------------------------------------------------------------
MATTERS
-------

          The Company's common stock is listed over-the-counter through the
National Daily Quotation System "Pink Sheets" published by the National
Quotation Bureau, Inc.  As of December 31, 1997, there were 876,875 shares of
common stock outstanding and approximately 286 holders of record of the common
stock.

                                       25
<PAGE>
 
          The following table sets forth the high and low bid price for the
common stock and dividends declared by quarter since trading in the common stock
commenced on July 1, 1996.   This information was provided by Trident
Securities, Inc. of Atlanta, Georgia.   The quotations reflect inter-dealer
prices, without retail mark-up, mark-down or commission, and may not represent
actual transactions.

<TABLE>
<CAPTION>
    QUARTER ENDED             HIGH      LOW     DIVIDENDS DECLARED
    -------------             ----      ---     ------------------

<S>                         <C>        <C>      <C>
    September 30, 1996       $13.25    $10.00         $0.10
    December 31, 1996        $15.50    $13.00         $0.10
    March 31, 1997           $15.25    $14.00         $0.10
    June 30, 1997            $17.0625  $15.25         $0.10
    September 30, 1997       $16.25    $14.75         $0.10
    December 31, 1997        $16.25    $15.00         $0.10
</TABLE>

ITEM 6.  MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
------------------------------------------------------------------

GENERAL

    The Company completed its initial public offering on June 28, 1996 in
connection with the Conversion.  A total of 876,875 shares of Common Stock were
sold which resulted in net proceeds of $7.4 million.  The Company acquired all
of the capital stock of the Association (now, the Bank) in exchange for a
portion of the net proceeds.

    The Bank's net income is dependent primarily on its net interest income,
which is the difference between interest income earned on its loan and mortgage-
backed and related securities portfolio and interest paid on interest-bearing
liabilities.  Net interest income is determined by (i) the difference between
yields earned on interest-earning assets and rates paid on interest-bearing
liabilities ("interest rate spread") and (ii) the relative amounts of interest-
earning assets and interest-bearing liabilities.  The Bank's interest rate
spread is affected by regulatory, economic and competitive factors that
influence interest rates, loan demand and deposit flows.  To a lesser extent,
the Bank's net income also is affected by the level of non-interest income,
including fees and service charges, and by the level of its operating expenses
and provision for loan losses.

    The operations of the Bank are significantly affected by prevailing economic
conditions, competition and the monetary, fiscal and regulatory policies of
governmental agencies.  Lending activities are influenced by the demand for and
supply of housing, competition among lenders, the level of interest rates and
the availability of funds.  Deposit flows and costs of funds are influenced by
prevailing market rates of interest, primarily on competing investments, account
maturities and the levels of personal income and savings in the Bank's market
area.

ASSET/LIABILITY MANAGEMENT

    The Bank has sought to reduce its exposure to changes in interest rates by
matching more closely the effective maturities or repricing characteristics of
its interest-earning assets and interest-bearing liabilities.  The matching of
the Bank's assets and liabilities may be analyzed by examining the extent to
which its assets and liabilities are interest rate sensitive.

    The Company's Board of Directors reviews the maturities of the Company's
assets and liabilities and establishes policies and strategies designed to
regulate the Company's flow of funds and to coordinate the sources, uses and
pricing of such funds.  The first priority in structuring and pricing the
Company's and the Bank's assets and liabilities is to maintain an acceptable
interest rate spread while reducing the net effects of changes in interest
rates.

                                       26
<PAGE>
 
    The Bank has employed various strategies intended to minimize the adverse
effect of interest rate risk on future operations by providing a better match
between the interest rate sensitivity between its assets and liabilities.  In
particular, the Bank's strategies are intended to stabilize net interest income
for the long term by protecting its interest rate spread from increases in
interest rates.  Such strategies include the origination in the loan portfolio
of adjustable-rate mortgage loans secured by one- to four-family residential
real estate, and, to a lesser extent, multi-family and commercial real estate
loans and the origination of other loans with greater interest rate
sensitivities than long-term, fixed-rate, residential mortgage loans.  For the
years ended December 31, 1997 and 1996 approximately 40.93% and 51.60%,
respectively, of the one- to four-family residential loans originated by the
Bank had adjustable rates.  The Bank's origination of multi-family, church and
commercial real estate loans comprised 17.66% and 8.38% of total loan
originations during the same respective periods.

    In order to increase the interest rate sensitivity of its assets, the
Company has also maintained a consistent level of short and intermediate term
investment securities and other assets.  At December 31, 1997, the Bank had $2.2
million of investment securities and interest-bearing deposits maturing or
repricing within one year and $9.6 million of investment securities, mortgage-
backed securities and interest-bearing deposits maturing or repricing within one
to five years.

INTEREST RATE SENSITIVITY ANALYSIS

    The matching of assets and liabilities may be analyzed by examining the
extent to which such assets and liabilities are "interest rate sensitive" and by
monitoring an institution's interest rate sensitivity "gap."  An asset or
liability is said to be interest rate sensitive within a specific period if it
will mature or reprice within that period.  The interest rate sensitivity gap is
defined as the difference between the amount of interest-earning assets maturing
or repricing within a specific time period and the amount of interest-bearing
liabilities maturing or repricing within that time period.  A gap is considered
positive when the amount of interest rate sensitive assets exceeds the amount of
interest rate sensitive liabilities, and is considered negative when the amount
of interest rate sensitive liabilities exceeds the amount of interest rate
sensitive assets.  At December 31, 1997, the Bank had a cumulative positive one-
year interest rate sensitivity gap of 8.61%, as a result of which its net
interest income could be slightly positively affected by rising interest rates
and slightly negatively affected by falling interest rates.  Generally, during a
period of rising interest rates, a negative gap would adversely affect net
interest income while a positive gap would result in an increase in net interest
income, while conversely during a period of falling interest rates, a negative
gap would result in an increase in net interest income and a positive gap would
adversely affect net interest income.

                                       27
<PAGE>
 
    The following table sets forth the amounts of interest-earning assets and
interest-bearing liabilities outstanding at December 31, 1997 which are expected
to mature or reprice in each of the time periods shown.  This table reflects the
Bank's assets only and does not reflect the Company's consolidated balances.

<TABLE>
<CAPTION>
                                                           OVER ONE     OVER FIVE        OVER TEN    OVER
                                             ONE YEAR       THROUGH      THROUGH          THROUGH   TWENTY
                                              OR LESS     FIVE YEARS    TEN YEARS      TWENTY YEARS  YEARS     TOTAL
                                             --------     ----------    ---------      ------------ ------    ------- 
                                                                   (DOLLARS IN THOUSANDS)
<S>                                           <C>           <C>          <C>             <C>        <C>       <C>
Interest-earning assets:
 Single-family mortgage loans.............    $21,491       $11,213      $ 3,953         $   888    $    1    $37,546
 Investment securities....................      1,918         3,059          275              --        --      5,252
 Mortgage-backed securities...............      4,136         2,270          229             137        --      6,772
 Other short-term investments.............      3,896            95           --              --        --      3,991
 Other loans..............................      4,647         3,247        1,282             434        --      9,610
                                              -------       -------      -------         -------    ------    -------
  Total...................................     36,088        19,884        5,739           1,459         1     63,171
                                              -------       -------      -------         -------    ------    -------
 
Interest-bearing liabilities:
 NOW accounts.............................      2,201         4,515        1,594             468        28      8,806
 Passbook/Christmas club..................      1,783         3,658        1,291             379        23      7,134
 Time deposits............................     25,727        11,142          211             347        --     37,427
 FHLB advances............................        750            --           --              --        --        750
                                              -------       -------      -------         -------    ------    -------
  Total...................................     30,461        19,315        3,096           1,194        51     54,117
                                              -------       -------      -------         -------    ------    -------
 
Interest sensitivity gap..................    $ 5,627       $   569      $ 2,643         $   265    $  (50)   $ 9,054
                                              =======       =======      =======         =======    ======    =======
Cumulative interest sensitivity gap.......    $ 5,627       $ 6,196      $ 8,839         $ 9,104    $9,054    $ 9,054
                                              =======       =======      =======         =======    ======    =======
Ratio of interest-earning assets
 to interest-bearing liabilities..........     118.47%       102.95%      185.37%         122.19%     1.96%    116.73%
                                              =======       =======      =======         =======    ======    =======
Ratio of cumulative gap to total assets...       8.61%         9.48%       13.93%          13.88%    13.85%     13.85%
                                              =======       =======      =======         =======    ======    =======
</TABLE>

          The preceding table was prepared utilizing certain assumptions
regarding prepayment and decay rates provided by a private data processing and
consulting firm.  While management believes that these assumptions are
reasonable, the actual interest rate sensitivity of the Bank's assets and
liabilities could vary significantly from the information set forth in the table
due to market and other factors.  The following assumptions were used: (i)
adjustable rate mortgage-backed securities will prepay at the rate of 30.1% per
year for both six month and one-year securities; (ii) fixed rate mortgage-backed
securities will prepay annually as follows:

<TABLE>
<CAPTION>
             COUPON RATE                    ANNUAL PREPAYMENT RATE
             -----------                    ----------------------
 
<S>                                                  <C>
             Up to 6%                                 6.6%
             6.01 to 7.00%                            7.4 
             7.01 to 8.00%                            9.9 
             8.01 to 9.00%                           11.7 
             9.01 to 10.00%                          17.2  
</TABLE>

(iii)  adjustable rate first mortgage loans on single-family residential
properties will prepay at the rate of 20.1% per year for one-year loans and
34.0% for three-year loans; (iv) nonresidential mortgage loans will prepay at
the rate of 11.7% per year for fixed rate and 15.3% per year for adjustable
rate; (v) home equity loans will prepay at the rate of 11.7% per year; (vi)
consumer loans will prepay at the rate of 16.0% per year; and (vii) fixed rate
mortgage loans on single-family residential properties will prepay annually as
follows:

                                       28
<PAGE>
 
<TABLE>
<CAPTION>
             COUPON RATE                    ANNUAL PREPAYMENT RATE
             -----------                    ----------------------
 
             <S>                                    <C>
             7.01 to 8.00%                           13.8%
             8.01 to 9.00%                           19.8
             9.01 to 10.00%                          25.3
            10.01 to 12.00%                          25.1 
</TABLE>

          In addition, it is assumed that fixed maturity deposits are not
withdrawn prior to maturity and that other deposits are withdrawn or repriced at
an annual rate of 25%.

          The interest rate sensitivity of the Bank's assets and liabilities
illustrated in the table above could vary substantially if different assumptions
were used or actual experience differs from the assumptions used.  If passbook
and NOW accounts were assumed to mature in one year or less (which does not
reflect actual experience), the Bank's one-year gap would have been
substantially negative.

          Certain shortcomings are inherent in the method of analysis presented
in the preceding table setting forth the maturing and repricing of interest-
earning assets and interest-bearing liabilities.  For example, although certain
assets and liabilities may have similar maturities or periods to repricing, they
may react in different degrees to changes in market interest rates.  The
interest rates on certain types of assets and liabilities may fluctuate in
advance of change in market interest rates, while interest rates on other types
may lag behind changes in market rates.  Additionally, certain assets, such as
adjustable rate loans, have features which restrict changes in interest rates on
a short-term basis and over the life of the assets.  In addition, the proportion
of adjustable rate loans in the Bank's portfolio could decrease in future
periods if market interest rates remain at or decrease below current levels due
to refinancing activity.  Further, in the event of a change in interest rates,
prepayment and early withdrawal levels would likely deviate significantly from
those assumed in the table.  Finally, the ability of many borrowers to service
their adjustable rate debt may decrease in the event of an interest rate
increase.

                                       29
<PAGE>
 
AVERAGE BALANCE, INTEREST AND AVERAGE YIELDS AND RATES

          The following table sets forth certain information relating to the
Company's average interest-earning assets and interest-bearing liabilities and
reflects the average yield on assets and average cost of liabilities for the
periods and at the date indicated.  Such yields and costs are derived by
dividing income or expense by the average monthly balance of assets or
liabilities, respectively, for the periods presented.  Average balances are
derived from month-end balances.  Management does not believe that the use of
month-end balances instead of daily balances has caused any material difference
in the information presented.  The table also presents information for the
periods and at the date indicated with respect to the difference between the
average yield earned on interest-earning assets and average rate paid on
interest-bearing liabilities, or "interest rate spread," which savings
institutions have traditionally used as an indicator of profitability.  Another
indicator of an institution's net interest income is its "net yield on interest-
earning assets," which is its net interest income divided by the average balance
of interest-earning assets.  Net interest income is affected by the interest
rate spread and by the relative amounts of interest-earning assets and interest-
bearing liabilities.  When interest-earning assets approximate or exceed
interest-bearing liabilities, any positive interest rate spread will generate
net interest income.

<TABLE>
<CAPTION>
                                                                YEARS ENDED DECEMBER 31,
                                              ------------------------------------------------------------
                                                          1997                            1996
                                              ----------------------------    ---------------------------- 
                                                                   AVERAGE                         AVERAGE
                                                                    YIELD/                          YIELD/
                                              BALANCE   INTEREST     COST     BALANCE   INTEREST     COST
                                              -------   --------   -------    -------   --------   ------- 
                                                                 (DOLLARS IN THOUSANDS)

<S>                                           <C>         <C>       <C>       <C>         <C>       <C>
Interest-earning assets:
   Loans receivable........................   $44,841     $3,526      7.86%   $38,067     $2,981      7.83%
   Investment securities...................     9,097        562      6.18      9,863        580      5.88
   Mortgage-backed securities..............     8,257        539      6.53      9,389        586      6.24
   Short-term investments and other
      interest-earning assets..............     2,000        111      5.53      5,252        284      5.40
                                              -------     ------              -------     ------
      Total interest-earning assets........    64,195      4,738      7.38     62,571      4,431      7.08
                                                          ------                          ------
Noninterest-earning assets.................     2,683                           2,860
                                              -------                         -------
      Total assets.........................   $66,878                         $65,431
                                              =======                         =======
 
Interest-bearing liabilities:
   Deposits................................   $52,288      2,587      4.95    $55,213      2,719      4.92
   FHLB advances...........................     1,375         78      5.69         --         --        --
                                              -------     ------              -------     ------
      Total interest-bearing liabilities...    53,663      2,665      4.97     55,213      2,719      4.92
                                                          ------                          ------
 
Noninterest-bearing liabilities............       946                             928
                                              -------                         -------
      Total liabilities....................    54,609                          56,141
 
Stockholders' equity.......................    12,269                           9,290
                                              -------                         -------
      Total liabilities and
        stockholders' equity...............   $66,878                         $65,431
                                              =======                         =======
 
Net interest income........................               $2,073                          $1,712
                                                          ======                          ======
Interest rate spread.......................                           2.41%                           2.16%
                                                                    ======                          ======
Net yield on interest-earning assets.......                           3.23%                           2.74%
                                                                    ======                          ======
Ratio of average interest-earning
   assets to average interest-bearing
   liabilities.............................                         119.63%                         113.33%
                                                                    ======                          ======
</TABLE>

                                       30
<PAGE>
 
RATE/VOLUME ANALYSIS

          The table below sets forth certain information regarding changes in
interest income and interest expense of the Company for the periods indicated.
For each category of interest-earning asset and interest-bearing liability,
information is provided on changes attributable to: (i) changes in volume
(changes in volume multiplied by old rate); (ii) changes in rate (change in rate
multiplied by old volume) and (iii) changes in rate-volume (changes in rate
multiplied by the changes in volume).
<TABLE>
<CAPTION>
                                                   YEAR ENDED DECEMBER 31,
                                              -------------------------------- 
                                                  1997       VS.      1996
                                              -------------------------------- 
                                                     INCREASE (DECREASE)
                                                           DUE TO
                                              -------------------------------- 
                                                                RATE/
                                              VOLUME    RATE   VOLUME    TOTAL
                                              ------    ----   ------    ----- 
                                                       (IN THOUSANDS)
<S>                                            <C>       <C>      <C>    <C>
Interest income:
   Loans receivable........................    $ 531     $12      $ 2    $ 545
   Investment securities...................      (45)     29       (2)     (18)
   Mortgage-backed securities..............      (71)     27       (3)     (47)
   Short-term investments and
      other interest-earning assets........     (176)      7       (4)    (173)
                                               -----     ---      ---    -----
      Total interest-earning assets........      239      75       (7)     307
                                               -----     ---      ---    -----
Interest expense:
   Deposits................................     (147)     16       (1)    (132)
   FHLB advances...........................       78      --       --       78
                                               -----     ---      ---    -----
      Total interest-bearing liabilities...      (69)     16       (1)     (54)
                                               -----     ---      ---    -----
 
Change in net interest income..............    $ 308     $59      $(6)   $ 361
                                               =====     ===      ===    =====
</TABLE>

COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 1997 AND DECEMBER 31, 1996

          The Company's total assets increased by $1.6 million, or 2.44%, from
$65.9 million at December 31, 1996 to $67.5 million at December 31, 1997.

          Total net loans increased by approximately $4.8 million during the
year ended December  31, 1997.  Net loans totaled $46.3 and $41.5 million at
December 31, 1997 and 1996, respectively.  The increase in loan activity during
the year ended December 31, 1997 is due to increased marketing activities and
increased loan demand in the Company's market area.

          The allowance for loan losses totaled $400,000 and $300,000 at
December 31, 1997 and 1996, respectively.  The allowance for loan losses as a
percentage of non-performing loans was 64.62% and 60.85% as of December 31, 1997
and 1996, respectively.  During 1997, net loan charge-offs amounted to $56,000.
An additional provision of $156,000 was made during the year.  The determination
of the allowance for loan losses is based on management's analysis, performed on
a quarterly basis, of various factors, including the market value of the
underlying collateral, growth and composition of the loan portfolio, the
relationship of the allowance for loan losses to outstanding loans, historical
loss experience, delinquency trends and prevailing economic conditions.
Although management believes its allowance for loan losses is adequate, there
can be no assurance that additional allowances will not be required or that
losses on loans will not be incurred.

          At December 31, 1997, the ratio of non-performing loans to total loans
was 1.31%, as compared to 1.19% at December 31, 1996.  The increase in the ratio
is primarily due to growth in the loan portfolio during 1997 and an increase in
nonperforming loans.  At December 31, 1997, the ratio of the allowance for loan
losses to total loans was 0.86%, as compared to 0.72% at December 31, 1996.  The
increase in this ratio was due to the $156,000 provision to 

                                       31
<PAGE>
 
the allowance during 1997 which was deemed necessary due to the increase in
nonperforming loans as well as the growth in nonresidential loans.

          At December 31, 1997, the Company's investment portfolio included
mortgage-backed and related securities available for sale carried at a market
value of $1.2 million and mortgage-backed and related securities classified as
"held to maturity" totaling $5.7 million.  The balance of the Company's
investment portfolio at December 31, 1997 consisted of investment securities
classified as available for sale totaling $1.7 million and investment securities
classified as held to maturity totaling $5.6 million.

          At December 31, 1997, deposits increased to $54.0 million from $52.8
million at December 31, 1996 for a net increase of 2.27%.  The increase in
deposits was primarily attributable to marketing efforts to attract funds.

          Certificates of deposit at December 31, 1997 included approximately
$2.8 million of deposits with balances of $100,000 or more that mature within
one year.  Such time deposits are inherently risky because their continued
presence in the Bank is usually dependent solely upon the rates paid by the Bank
rather than any customer relationship and, therefore, are likely to be withdrawn
upon maturity if another institution offers higher interest rates.  The Bank may
be required to resort to other funding sources such as borrowing or sales of its
securities held available for sale if the Bank believes that increasing its
rates to maintain such deposits would adversely affect its operating results.
At this time, the Bank does not believe that it will need to significantly
increase its deposit rates to maintain such certificates of deposit and,
therefore, does not anticipate resorting to alternative funding sources.

          Historically, the Company has not made significant use of borrowings.
However, the Bank has obtained FHLB advances as needed for liquidity purposes.
At December 31, 1997, the Bank had $750,000 in FHLB advances outstanding with an
interest rate of 5.86%.

          Total stockholders' equity at December 31, 1997 amounted to $12.1
million, a decrease of $500,000, or 3.81%, due to the acquisition of $552,000 of
Company common stock by the MRP plan as well as dividends of $326,000 paid on
Company common stock.  These decreases were offset by amortization of ESOP and
MRP expense of $228,000 as well as net income of $163,000 for the year.  See "--
Liquidity and Capital Ratios" for a discussion of the Bank's compliance with
applicable regulatory capital requirements.

COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996

          NET INCOME.  For the year ended December 31, 1997, the Company earned
net income of $163,000, a decrease of approximately $366,000, or 69.19%,
compared to net income of $529,000 for the year ended December 31, 1996. Net
income for 1996 was affected by certain nonrecurring items resulting from
legislation enacted during 1996. During the third quarter of 1996, the Small
Business Job Protection Act of 1996 (the "Small Business Act") was enacted into
law. Under the Small Business Act, for years beginning after 1995, all thrift
institutions were required to recapture excess bad debt reserves over a six-year
period. However, pre-1988 reserves were not included in these excess bad debt
reserves. As the Conversion had not occurred as of December 31, 1995, the
effective date of the Small Business Act, the Bank was still a thrift
institution as of that date. Consequently, it has been determined that, as a
result of the Small Business Act, the pre-1988 reserves will not be required to
be recaptured into taxable income. As a result, in accordance with the
provisions of Statement of Financial Accounting Standards ("SFAS") No. 109,
"Accounting for Income Taxes," the $450,000 increase in income taxes recognized
during 1995 was reversed during 1996 which resulted in a $450,000 decrease in
income tax expense and deferred income taxes as of December 31, 1996. The Bank
was also required to pay a special assessment of $351,000 to recapitalize the
Savings Association Insurance Fund ("SAIF"), the FDIC fund which insures the
Bank's deposits. Factoring out these nonrecurring items, the Company's net
income for 1997 as compared to 1996 would have reflected a decline of
approximately $123,000 which was primarily attributable to increases in the
provision for loan losses and in non-interest expense.

                                       32
<PAGE>
 
          NET INTEREST INCOME.  Net interest income increased $361,000, or
21.09%, from $1.7 million for the year ended December 31, 1996 to $2.1 million
for the year ended December 31, 1997.  The increase in net interest income was
primarily due to an increase in the ratio of average interest-earning assets to
average interest-bearing liabilities from 113.33% for the year ended December
31, 1996 to 119.63% for the year ended December 31, 1997, as well as an improved
yield on interest-earning assets due to the redeployment of certain funds from
investments to higher-yielding loans.  The average balance of interest-earning
assets increased from $62.6 million for the year ended December 31, 1996 to
$64.2 million for the year ended December 31, 1997.  The interest rate spread of
the Company increased by 25 basis points from 2.16% for the year ended December
31, 1996 to 2.41% for the year ended December 31, 1997 as the five basis point
increase in the average cost of interest-bearing liabilities was more than
offset by the 30 basis point increase in the average yield on interest-earning
assets.

          INTEREST INCOME.  Total interest income increased $307,000, or 6.93%,
from $4.4 million for the year ended December 31, 1996 to $4.7 million for the
year ended December 31, 1997.  The increase was due primarily to an increase of
$1.6 million, or 2.60%, in average interest-earning assets from $62.6 million
for the year ended December 31, 1996 to $64.2 million for the year ended
December 31, 1997.  The increase in the average earning assets is primarily due
to the averages reflecting a full year performance of proceeds obtained from the
sale of the Company's common stock in connection with the Conversion.  The
increase in interest income also reflects a 30 basis point increase in the
average yield on interest-earning assets from 7.08% for the year ended December
31, 1996 to 7.38% for the year ended December 31, 1997.

          Interest on loans increased $545,000, or 18.28%, from $3.0 million for
the year ended December 31, 1996 to $3.5 million for the year ended December 31,
1997.  The increase in interest on loans was due to an increase of $6.7 million,
or 17.79%, in the average balance of loans from $38.1 million for the year ended
December 31, 1996 to $44.8 million for the year ended December 31, 1997.  Loans
primarily increased through the increased origination of single-family mortgage
loans.  Interest on investment securities decreased $18,000, or 3.1%, from
$580,000 for the year ended December 31, 1996 to $562,000 for the year ended
December 31, 1997.  Such decrease was due to a decrease of $800,000, or 7.77%,
in the average balance of investment securities from $9.9 million for the year
ended December 31, 1996 to $9.1 million for the year ended December 31, 1997.
Interest on mortgage-backed and related securities decreased $47,000, or 8.02%,
from $586,000 for the year ended December 31, 1996 to $539,000 for the year
ended December 31, 1997.  Such decrease was due to a decrease of $1.1 million,
or 12.06%, in the average balance of mortgage-backed and related securities from
$9.4 million for the year ended December 31, 1996 to $8.3 million for the year
ended December 31, 1997.  Interest on short-term investments decreased by
$173,000, or 60.92%, from $284,000 for the year ended December 31, 1996 to
$111,000 for the year ended December 31, 1997.  Such decrease was due to a
decrease of $3.3 million, or 61.92%, in the average balance of short-term
investments from $5.3 million for the year ended December 31, 1996 to $2.0
million for the year ended December 31, 1997.  The decrease in investment
related assets was the result of changes in the asset mix to loans receivable.

          INTEREST EXPENSE.  Interest expense decreased by $54,000, or 1.99%,
from $2.7 million for the year ended December 31, 1996 to $2.6 million for the
year ended December 31, 1997.  This decrease was primarily due to a decrease of
$1.5 million in the average balance of interest-bearing liabilities from $55.2
million for the year ended December 31, 1996 to $53.7 million for the year ended
December 31, 1997.  Offsetting this decrease was $78,000 paid on advances
received from the Federal Home Loan Bank during the year ended December 31,
1997.

          PROVISION FOR LOAN LOSSES.  The allowance for loan losses is
established through a provision for loan losses based on management's evaluation
of the risk inherent in its loan portfolio and the general economy.  Such
evaluation is based on an analysis of various factors, including the market
value of the underlying collateral, growth and composition of the loan
portfolio, the relationship of the allowance for loan losses to outstanding
loans, historical loss experience, delinquency trends and prevailing and
projected economic conditions.  The Bank established a provision for loan losses
of $156,000 for the year ended December 31, 1997, a substantial increase from
the $5,000 provision for loan losses made during the year ended December 31,
1996.  The increase in the provision was deemed necessary due 

                                       33
<PAGE>
 
to an increase in charged-off loans (net of recoveries) from $5,000 in 1996 to
$56,000 in 1997 as well as the continued growth in the Bank's loan portfolio.

          NON-INTEREST INCOME.  Non-interest income decreased by $17,000, or
8.06%, from $211,000 for the year ended December 31, 1996 to $194,000 for the
year ended December 31, 1997.  The largest components of non-interest income for
the years ended December 31, 1997 and 1996 included $50,000 and $61,000,
respectively, in loan and other service fees and $121,000 and $135,000,
respectively, in other service charges and other miscellaneous operating income.
In addition, the Company recognized $23,000 of realized gains on sales of
investments and other real estate for the year ended December 31, 1997 compared
to $15,000 of realized gains for the year ended December 31, 1996.

          NON-INTEREST EXPENSE.  Non-interest expense increased $52,000, or
2.82%, from $1.8 million for the year ended December 31, 1996 to $1.9 million
for the year ended December 31, 1997.  This increase was primarily due to
increases of $199,000 in compensation and employee benefits expense, $179,000 in
legal and professional fees primarily attributed to the legal fees incurred in
connection with the Company's proxy fight and the additional expenses resulting
from a full year as a publicly traded organization, and net increases of $25,000
in various other expense items.  This increase was partially offset by the
absence of a SAIF assessment.  During 1996, the Bank paid a $351,000 one-time
assessment imposed by the FDIC on institutions insured by the SAIF.

          INCOME TAX EXPENSE.  The provision for income taxes for the years
ended December 31, 1997 and 1996 as a percentage of income before income taxes
was 25.23% and (587.01)%, respectively.  The large increase in income tax
expense is  primarily the result of the $450,000 reversal in 1996 of a 1995
addition to deferred tax expense.  This 1995 addition related to the expected
recapture into taxable income of excess bad debt deductions upon the completion
of the conversion from thrift institution to bank.  With the enactment of the
Small Business Job Protection Act of 1996, management believed that the pre-1988
excess bad debt deductions which gave rise to the original deferred tax addition
will not be required to be recaptured.  Therefore, in accordance with SFAS No.
109, "Accounting for Income Taxes", the effects of the change in the tax law
were reflected in the financial statements of 1996, which was the period of the
law's enactment.

LIQUIDITY AND CAPITAL RESOURCES

          Liquidity refers to the ability of the Company to convert assets into
cash or cash equivalents without significant loss.  Liquidity management
involves evaluating the Company's and the Bank's daily cash flow requirements to
meet customer demands, whether they are depositors wishing to withdraw funds or
borrowers requiring funds to meet their credit needs.  Without proper liquidity
management, the Company would not be able to perform the primary function of a
financial intermediary and would, therefore not be able to meet the production
and growth needs of the communities it serves.

          The Bank's primary sources of funds are deposits and proceeds from
maturing investment securities, mortgage-backed and related securities and
principal and interest payments on loans, investment securities and mortgage-
backed and related securities.  While maturities and scheduled amortization of
investment securities, mortgage-backed and related securities and loans are a
predictable source of funds, deposit flows and mortgage prepayments are greatly
influenced by general interest rates, economic conditions, competition and other
factors.

          The primary investing activity of the Bank is the origination of
loans, the purchase of investment securities and certificates of deposit, and
the purchase of mortgage-backed and related securities.  During the years ended
December 31, 1997 and 1996, the Bank originated loans totaling $16.5 million and
$15.1 million, respectively.  The primary financing activity of the Bank is
accepting savings deposits.

          The Bank has other sources of liquidity if there is a need for funds.
As stated earlier, the Company has a portfolio of investment securities and
mortgage-backed and related securities with an aggregate market value of $2.9
million at December 31, 1997 classified as available for sale.  Another source
of liquidity is the Bank's ability to obtain 

                                       34
<PAGE>
 
advances from the FHLB of Chicago. In addition, the Bank maintains a significant
portion of its investments in interest-bearing deposits at other financial
institutions that will be available when needed.

          A strong capital position is important to the continued profitability
of the Bank because it promotes depositor and investor confidence and provides a
solid foundation for future growth.  Under regulatory guidelines, the Bank's
capital strength is measured in two tiers which are used in conjunction with
risk-adjusted assets to calculate the risk-based capital ratios.  The Bank's
Tier I risk-based capital ratio and total risk-based capital ratio were 27.0%
and 28.1%, respectively at December 31, 1997.  These levels currently exceed the
minimum ratios of 4% and 8%, respectively.  Another important indicator of
capital adequacy in the banking industry is the leverage ratio, which is a
measure of the ratio of the Bank's Tier I capital to total average assets.  The
Bank's leverage ratio was 14.5% at December 31, 1997, which exceeded regulatory
minimum guidelines.

IMPACT OF INFLATION AND CHANGING PRICES

          The Consolidated Financial Statements and Notes thereto presented
herein have been prepared in accordance with generally accepted accounting
principles, which require the measurement of financial position and operating
results in terms of historical dollars without considering the change in the
relative purchasing power of money over time and due to inflation.  The impact
of inflation is reflected in the increased cost of the Company's operations.
Unlike most industrial companies, nearly all the assets and liabilities of the
Bank are monetary in nature.  As a result, interest rates have a greater impact
on the Company's performance than do the effects of general levels of inflation.
Interest rates do not necessarily move in the same direction or to the same
extent as the price of goods and services.

OTHER MATTERS

          As with all providers of financial services, the Bank's operations are
heavily dependent on information technology systems.  The Bank is addressing the
potential problems associated with the possibility that the computers that
control or operate the Bank's information technology system and infrastructure
may not be programmed to read four-digit date codes and, upon arrival of the
year 2000, may recognize the two-digit code "00" as the year 1900, causing
systems to fail to function or to generate erroneous data.  The Bank is working
with the companies that supply or service its information technology systems to
identify and remedy any year 2000 related problems.
 
          As of the date of this Form 10-KSB, the Bank has not identified any
specific expenses that are reasonably likely to be incurred by the Bank in
connection with this issue and does not expect to incur significant expense to
implement the necessary corrective measures.  No assurance can be given,
however, that significant expense will not be incurred in future periods.  In
the event that the Bank is ultimately required to purchase replacement computer
systems, programs and equipment, or incur substantial expense to make the Bank's
current systems, programs and equipment year 2000 compliant, the Bank's net
earnings and financial condition could be adversely affected.

          In addition to possible expense related to its own systems, the Bank
could incur losses if loan payments are delayed due to year 2000 problems
affecting any major borrowers in the Bank's primary market area.  Because the
Bank's loan portfolio is highly diversified with regard to individual borrowers
and types of businesses and the Bank's primary market area is not significantly
dependent upon one employer or industry, the Bank does not expect any
significant or prolonged difficulties that will affect net earnings or cash
flow.

IMPACT OF NEW ACCOUNTING STANDARDS

          ACCOUNTING FOR EMPLOYEE STOCK OWNERSHIP PLANS.  The Accounting
Standards Division of the AICPA approved Statement of Position 93-6 (SOP 93-6),
"Employers' Accounting for Employee Stock Ownership Plans," which is effective
for fiscal years beginning after December 15, 1993.  This statement applies to
shares of capital stock of sponsoring employers acquired by employee stock
ownership plans (ESOP) after December 31, 1992 that had not been committed to be
released as of January 1, 1992.  SOP 93-6 will, among other things, change the
measure of 

                                       35
<PAGE>
 
compensation recorded by employers from the cost of ESOP shares to the fair
value of employee stock ownership plan shares. To the extent that the fair value
of the Company's ESOP shares, committed to be released directly to compensate
employees, differs from the cost of such shares, compensation expenses and a
related charge or credit to additional paid-in capital will be reported in the
Company's consolidated financial statements.

          During 1996, the Company adopted an employee stock ownership plan.
The Company is accounting for the plan according to the provisions of SOP 93-6.

          ACCOUNTING FOR STOCK-BASED COMPENSATION.  SFAS No. 123, "Accounting
for Stock Based Compensation" was issued by the FASB in October, 1995. SFAS No.
123 establishes a fair value-based method of accounting for stock options and
other equity instruments. It requires the use of that method for transactions
with other than employees and encourages its use for transactions with
employees. It permits entities to continue to use the intrinsic value method
included in Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees", but regardless of the method used to account for the
compensation cost associated with stock option and similar plans, it requires
employers to disclose information in accordance with SFAS No. 123. The general
principle underlying SFAS No. 123 is that equity instruments are recognized at
the fair value of the consideration received for them. If the fair value of the
consideration received cannot be reasonably determined, the fair value of the
equity instrument itself may be used. The fair value method of accounting for
stock options and other instruments applies this general principle measuring
compensation cost for employers as the excess of the fair value of the equity
instrument over the amount paid by the employee. The definition of fair value in
SFAS No. 123 is the same as that included in SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed of."

          SFAS No. 123 requires significantly expanded disclosures, including
disclosure of the pro forma amount o net income (and earnings per share for
public entities) as if the fair value-based method were used to account for
stock-based compensation if the intrinsic value method of APB-25 is retained.

          The recognition requirements for transactions with other than
employees apply for transactions entered into after December 15, 1995.  The
recognition alternative of the fair value-based method for transactions with
employees may be implemented immediately upon issuance of SFAS No. 123.  The
disclosure requirements, which apply regardless of the recognition method
chosen, are applicable for financial statements for fiscal years beginning after
December 15, 1995.

          With the adoption in 1997 of stock-based compensation plans (See Note
12 of Notes to Consolidated Financial Statements), the Company is accounting for
the plan according to the disclosure requirements of SFAS No. 123.

          ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS.  In March, 1995,
the Financial Accounting Standards Board (FASB) issued SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of."  SFAS No. 121 establishes accounting standards for the impairment of long-
lived assets, certain identifiable intangibles, and goodwill related to those
assets to be held and used and for long-lived assets and certain identifiable
intangibles to be disposed of.  The statement requires that long-lived assets
and certain identifiable intangibles to be held and used by an entity be
reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable.  If, under the
criteria of the statement, an asset is impaired, an impairment loss is
recognized.  SFAS No. 121 is effective for fiscal years ending after December
15, 1995.  The Company has adopted the provisions of the statement effective for
the year ending December 31, 1996.  The adoption of SFAS No. 121 did not have a
material effect on the Company's financial position or operating results.

          ACCOUNTING FOR MORTGAGE SERVICING RIGHTS.  In May, 1995, the FASB
issued SFAS No. 122, "Accounting for Mortgage Servicing Rights."  SFAS No. 122
requires that a mortgage banking enterprise recognize as separate assets rights
to service mortgage loans for others however those servicing rights are
acquired.  A mortgage banking enterprise that acquires mortgage servicing rights
through either the purchase or origination of mortgage loans and sells or
securitizes those loans with servicing rights retained should allocate the total
cost of the mortgage loans to the mortgage 

                                       36
<PAGE>
 
servicing rights and the loans (without mortgage servicing rights) based on
their relative fair values if it is practicable to estimate those fair values.
If it is not practicable to estimate the fair values of the mortgage servicing
rights and the mortgage loans (without the servicing rights), the entire cost of
purchasing or originating the loans should be allocated to the mortgage loans
and no cost should be allocated to the mortgage servicing rights. SFAS No. 122
also requires that a mortgage banking enterprise assess its capitalized mortgage
servicing rights for impairment based on the fair value of those rights. SFAS
No. 122 must be applied prospectively for fiscal years beginning after December
15, 1995, with earlier adoption encouraged, to transactions in which a mortgage
banking enterprise sells or securitizes mortgage loans with servicing rights
retained and to impairment evaluations of all amounts capitalized as mortgage
servicing rights, including those purchased before the adoption of SFAS No. 122.
Retroactive capitalization of mortgage servicing rights retained in transactions
in which a mortgage banking enterprise originates mortgage loans and sells or
securitizes those loans before the adoption of SFAS No. 122 is prohibited. The
Company has adopted the provision of the statement for the year ending December
31, 1996. The adoption of SFAS No. 122 did not have a material effect on the
Company's financial position or operating results.

          ACCOUNTING FOR TRANSFERS AND SERVICING OF FINANCIAL ASSETS.  In June,
1996, the FASB issued SFAS No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities."  SFAS No. 125 establishes
accounting and reporting standards for transfers and servicing of financial
assets and extinguishments of liabilities based on the consistent application of
the financial components approach.  This approach requires the recognition of
financial assets and servicing assets that are controlled by the reporting
entity, the derecognition of financial assets when control is surrendered, and
the derecognition of liabilities when they are extinguished.  Specific criteria
are established for determining when control has been surrendered in the
transfer of financial assets.  SFAS No. 125 is effective for transfers and
servicing of financial assets and extinguishments of liabilities occurring after
December 31, 1996.  Subsequent to the issuance of SFAS No. 125, the FASB issued
SFAS No. 127, "Deferral of the Effective Date of Certain Provisions of FASB
Statement No. 125."  This statement defers for one year the effective date of
SFAS No. 125 as applies to secured borrowings and collateral and certain other
transactions.  The Company has adopted the relevant provisions of the statement
during 1997, and will adopt the provisions of the statement which become
effective in 1998 at that time.  The provisions of the statement adopted in 1997
did not have a material effect on the Company's financial position or operating
results, and management does not currently believe that the future adoption of
additional provisions of this statement will have such an effect.

          EARNINGS PER SHARE.  In February, 1997, the FASB issued SFAS No. 128,
"Earnings per Share".  SFAS No. 128 establishes standards for computing and
presenting earnings per share ("EPS") and applies to entities with publicly held
common stock or potential common stock.  The statement simplifies the standards
for computing earnings per share previously found in APB Opinion No. 15,
"Earnings per Share", and makes them comparable to international EPS standards.
It replaces the presentation of primary EPS with a presentation of basic EPS.
It also requires dual presentation of basic and diluted EPS on the face of the
income statement for all entities with complex capital structures, and requires
a reconciliation of the two computations.  This statement is effective for
financial statements issued for periods ending after December 15, 1997, with
earlier application not permitted.  The Company has adopted SFAS No. 128
effective for the year ended December 31, 1997.

          COMPREHENSIVE INCOME.  In June, 1997, the FASB issued SFAS No. 130,
"Reporting Comprehensive Income".  SFAS No. 130 establishes standards for
reporting and display of comprehensive income and its components (revenues,
expenses, gains, and losses) in a full set of general-purpose financial
statements.  This statement requires that all items that are required to be
recognized under accounting standards as components of comprehensive income be
reported in a financial statement that is displayed with the same prominence as
other financial statements.

          This statement requires that an enterprise (a) classify items of other
comprehensive income by their nature in a financial statement and (b) display
the accumulated balance of other comprehensive income separately from retained
earnings and additional paid-in capital in the equity section of a statement of
financial position.  This statement is effective for fiscal years beginning
after December 15, 1997.  The management of the Company plans to adopt the

                                       37
<PAGE>
 
provisions of the statement at January 1, 1998, and does not currently believe
that the future adoption of this statement will have a material effect on the
Company's financial position or operating results.

          DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION.
In June, 1997, the FASB issued SFAS No. 131, "Disclosure about Segments of an
Enterprise and Related Information".  SFAS No. 131 establishes standards for the
way that public business enterprises report information about operating segments
in annual financial statements and requires that those enterprises report
selected information about operating segments in interim financial reports
issued to shareholders.  It also establishes standards for related disclosures
about products and services, geographic areas, and major customers.  This
statement is effective for financial statements for periods beginning after
December 15, 1997.  The management of the Company plans to adopt the appropriate
provisions of the statement at January 1, 1998, and does not currently believe
that the future adoption of this statement will have a material effect on the
Company's financial position or operating results.

          EMPLOYERS' DISCLOSURE ABOUT PENSIONS AND OTHER POSTRETIREMENT
BENEFITS.  In February, 1998, the FASB issued SFAS No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits."   SFAS No. 132
standardizes the disclosure requirements for pensions and other postretirement
benefits.  This statement is effective for financial statements for periods
beginning after December 15, 1997.  The management of the Company plans to adopt
the appropriate provisions of the statements at January 1, 1998, and does not
currently believe that the future adoption of this statement will have a
material effect on the Company's financial position or operating results.

                                       38
<PAGE>
 
ITEM 7.  FINANCIAL STATEMENTS
-----------------------------

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
                                                                        Page
                                                                        ----

<S>                                                                      <C>
Independent Auditors' Report..........................................   40
 
Consolidated Statements of Financial Condition
  as of December 31, 1997 and 1996....................................   41
 
Consolidated Statements of Income for the Years Ended
  December 31, 1997 and 1996..........................................   42
 
Consolidated Statements of Stockholders' Equity for the Years Ended
   December 31, 1997 and 1996.........................................   43
 
Consolidated Statements of Cash Flows for the Years Ended
   December 31, 1997 and 1996.........................................   44
 
Notes to Consolidated Financial Statements............................   46
</TABLE>

                                       39
<PAGE>
 
                     [LETTERHEAD OF GRAY HUNTER STENN LLP]



                          INDEPENDENT AUDITORS' REPORT
                          ----------------------------



The Board of Directors
Heartland Bancshares, Inc.
Herrin, Illinois


We have audited the accompanying consolidated statements of financial condition
of Heartland Bancshares, Inc. and Subsidiary (the Company) as of December 31,
1997 and 1996, and the related consolidated statements of income, stockholders'
equity and cash flows for the years then ended.  These consolidated financial
statements are the responsibility of the Company's management.  Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards.  Those standards require that we plan and perform the audits to
obtain reasonable assurance about whether the consolidated financial statements
are free of material misstatement.  An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the consolidated
financial statements.  An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation.  We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Heartland
Bancshares, Inc. and Subsidiary as of December 31, 1997 and 1996, and the
results of their operations and their cash flows for the years then ended, in
conformity with generally accepted accounting principles.


/s/ Gray Hunter Stenn LLP

Marion, Illinois
February 13, 1998

                                       40
<PAGE>
 
                          HEARTLAND BANCSHARES, INC.
                          --------------------------
                                AND SUBSIDIARY
                                --------------
                CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
                ----------------------------------------------
                                (IN THOUSANDS)
                                --------------

<TABLE>
<CAPTION>
                                                                       December 31,
       ASSETS                                                        1997       1996
       ------                                                      -------    ------- 

<S>                                                                <C>        <C>
Cash and cash equivalents
  Interest-bearing                                                 $ 3,319    $   658
  Noninterest-bearing                                                1,651      1,214
Certificates of deposit                                                 95        293
Investment securities available-for-sale at estimated market
  value (amortized cost of $1,692 and $2,087, respectively)          1,714      2,108
Investment securities held-to-maturity (estimated market
  value of $5,651 and $9,038, respectively)                          5,627      9,030
Mortgage-backed and related securities available-for-sale
  at estimated market value (amortized cost of $1,269
  and $2,860, respectively)                                          1,249      2,814
Mortgage-backed and related securities held-to-maturity
  (estimated market value of $5,694 and $6,528, respectively)        5,737      6,663
Loans receivable, net                                               46,307     41,466
Investments required by law                                            577        489
Property, equipment, and property held for investment, net             461        479
Accrued interest receivable                                            292        316
Prepaid expenses and other assets                                       32         56
Prepaid income taxes                                                    --         73
Foreclosed real estate                                                 239        133
Deferred tax asset                                                     161         64
                                                                   -------    -------
          TOTAL ASSETS                                             $67,461    $65,856
          ------------                                             =======    =======
 
      LIABILITIES AND STOCKHOLDERS' EQUITY
      ------------------------------------
 
Liabilities
-----------
  Deposits                                                         $54,022    $52,832
  Accrued interest on deposits                                          63         49
  Advances from borrowers for taxes and insurance                      228        252
  Other liabilities                                                    127        107
  Accrued income taxes                                                 126         --
  Short-term borrowings                                                750         --
                                                                   -------    -------
          Total Liabilities                                        $55,316    $53,240
          -----------------                                        -------    -------
 
Commitments and Contingencies
-----------------------------
 
Stockholders' Equity
--------------------
  Preferred stock, $.01 par value per share: 1,000,000
    shares authorized, - 0 - issued                                $    --    $    --
  Common stock, $.01 par value per share:  4,000,000
    shares authorized; 876,875 shares issued and
    outstanding at December 31, 1997 and December 31, 1996               9          9
  Additional paid-in capital                                         8,212      8,153
  Unearned employee stock ownership plan (ESOP) shares                (519)      (632)
  Management recognition plan shares                                  (496)        --
  Retained earnings - substantially restricted                       4,938      5,101
  Unrealized gain (loss) on securities
    available-for-sale, net of tax                                       1        (15)
                                                                   -------    -------
          Total Stockholders' Equity                               $12,145    $12,616
          --------------------------                               -------    -------
 
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY                         $67,461    $65,856
------------------------------------------                         =======    =======
</TABLE> 
See accompanying notes to consolidated financial statements.

                                       41
<PAGE>
 
                          HEARTLAND BANCSHARES, INC.
                          --------------------------
                                AND SUBSIDIARY
                                --------------
                       CONSOLIDATED STATEMENTS OF INCOME
                       ---------------------------------
                     (IN THOUSANDS, EXCEPT PER SHARE DATA)
                     -------------------------------------
<TABLE>
<CAPTION>
                                                                          Year Ended
                                                                          December 31,
                                                                      -------------------
                                                                       1997         1996
                                                                      ------       ------
<S>                                                                   <C>          <C> 
Interest Income
---------------
  Interest on first mortgage loans                                    $3,338       $2,851
  Interest on other loans                                                188          130
  Interest on investments, securities, and deposits with banks           673          864
  Interest on mortgage-backed securities                                 539          586
                                                                      ------       ------
          Total Interest Income                                       $4,738       $4,431
          ---------------------
 
Interest Expense
----------------
  Interest on deposits                                                $2,587       $2,719
  Interest on other borrowed funds                                        78           --
                                                                      ------       ------
          Total Interest Expense                                      $2,665       $2,719
          ----------------------                                      ------       ------
 
Net Interest Income                                                   $2,073       $1,712
-------------------                                                      
Provision for Loan Losses                                                156            5
-------------------------                                             ------       ------
 
Net Interest Income After Provision for Loan Losses                   $1,917       $1,707
---------------------------------------------------                   ------       ------
 
Non-Interest Income
-------------------
  Initial service charges and other loan fees                         $   50       $   61
  Gain on sale of investment securities                                    4           --
  Gain on sale of mortgage-backed securities                               7           13
  Gain on sale of other real estate                                       12            2
  Other                                                                  121          135
                                                                      ------       ------
          Total Non-Interest Income                                   $  194       $  211
          -------------------------                                   ------       ------
 
Non-Interest Expense
--------------------
  Compensation to directors, officers, and employees                  $  750       $  571
  Pension expense and other employee benefits                            152          132
  Office properties and equipment expense including depreciation         129          110
  Advertising                                                             44           38
  Federal insurance premiums                                              42           95
  Stationery, postage, and office supplies                                69           64
  Checking account expense                                               132          151
  Service bureau expense                                                 102           70
  SAIF special assessment                                                 --          351
  Legal and professional services                                        248           69
  Other                                                                  212          181
  Loss on sale of other real estate                                       13           --
  Loss on sale of mortgage-backed securities                              --            3
  Loss on sale of property held for investment                            --            6
                                                                      ------       ------
          Total Non-Interest Expense                                  $1,893       $1,841
          --------------------------                                  ------       ------
 
Income Before Income Taxes                                            $  218       $   77
--------------------------
Income Tax Expense (Benefit)                                              55         (452)
                                                                      ------       ------
Net Income (Loss)                                                     $  163       $  529
-----------------                                                     ======       ======
 
Earnings per Common Share - Basic
---------------------------------
  Net income                                                            $.20         $.45
                                                                      ======       ======
 
Earnings per Common Share - Assuming Dilution
---------------------------------------------
  Net income                                                            $.20         $.45
                                                                      ======       ======
</TABLE>
See accompanying notes to consolidated financial statements.

                                       42
<PAGE>
 
                   HEARTLAND BANCSHARES, INC. AND SUBSIDIARY
                   -----------------------------------------
                CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                -----------------------------------------------
                                (IN THOUSANDS)
                                --------------

<TABLE>
<CAPTION>
                                                                                                            Net
                                                                                                         Unrealized
                                                                             Management                 Gain (Loss)
                                                   Additional   Unearned    Recognition                on Securities
                                          Common    Paid-In       ESOP          Plan       Retained      Available-
                                          Stock     Capital      Shares        Shares      Earnings       for-Sale       Total
                                          ------   ----------   --------    -----------    --------    -------------    ------- 
<S>                                       <C>      <C>          <C>         <C>            <C>                <C>      <C>
 
Balance at December 31, 1995                  --       $   --      $  --          $  --      $4,733             $ 17    $ 4,750
----------------------------                                                                                    
                                                                                                                
Net income                                    --           --         --             --         529               --        529
Sale of common stock                           9        8,139         --             --          --               --      8,148
Cash dividends paid                           --           --         --             --        (161)              --       (161)
Issuance of shares to ESOP                    --           --       (702)            --          --               --       (702)
Amortization of ESOP expense                  --           14         70             --          --               --         84
Change in net unrealized gain (loss)                                                                            
  on securities available-for-sale            --           --         --             --          --              (32)       (32)
                                          ------       ------      -----          -----      ------             ----    -------
                                                                                                                
Balance at December 31, 1996                  $9       $8,153      $(632)         $  --      $5,101             $(15)   $12,616
----------------------------                                                                                    
                                                                                                                
Net income                                    --           --         --             --         163               --        163
Sale of common stock                          --           --         --             --          --               --         --
Purchase of shares for management                                                                               
  recognition plan                            --           --         --           (552)         --               --       (552)
Amortization of management                                                                                      
  recognition plan expense                    --           --         --             56          --               --         56
Cash dividends paid                           --           --         --             --        (326)              --       (326)
Issuance of shares to ESOP                    --           --         --             --          --               --         --
Amortization of ESOP expense                  --           59        113             --          --               --        172
Change in net unrealized gain (loss)                                                                            
  on securities available-for-sale            --           --         --             --          --               16         16
                                          ------       ------      -----          -----      ------             ----    -------
                                                                                                                
Balance at December 31, 1997                  $9       $8,212      $(519)         $(496)     $4,938             $  1    $12,145
----------------------------              ======       ======      =====          =====      ======             ====    =======
</TABLE>

See accompanying notes to consolidated financial statements.

                                       43
<PAGE>
 
                          HEARTLAND BANCSHARES, INC.
                          --------------------------
                                AND SUBSIDIARY
                                --------------
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                     -------------------------------------
                                (IN THOUSANDS)
                                --------------

<TABLE>
<CAPTION>
                                                                           Year Ended
                                                                           December 31,
                                                                      ---------------------
                                                                       1997          1996
                                                                      -------       -------
<S>                                                                   <C>           <C>
Cash Flows From Operating Activities
------------------------------------
  Net income                                                          $   163       $   529
                                                                      -------       -------
  Adjustments to reconcile net income to net cash
    provided (used) by operating activities:
    Depreciation                                                      $    55       $    47
    Discount accretion/premium amortization-securities, net                (2)           (1)
    Amortization of deferred loan origination fees                        (11)          (30)
    Amortization of ESOP expense                                          172            84
    Amortization of MRP expense                                            56            --
    Provision for loan losses                                             156             5
    (Gain) loss on sale of investments                                    (11)          (10)
    (Gain) loss on sale of property held for investment                    --             6
    (Gain) loss on sale of other real estate                                1            (2)
    (Increase) decrease in accrued interest receivable                     24           (83)
    (Increase) decrease in prepaid expenses                                24           (38)
    (Increase) decrease in prepaid income taxes                            73            54
    (Increase) decrease in deferred income taxes                         (107)         (475)
    (Increase) decrease in other assets                                    --          (105)
    Increase (decrease) in accrued interest payable                        14           (17)
    Increase (decrease) in other liabilities                               20            58
    Increase (decrease) in income taxes payable                           126            --
                                                                      -------       -------
          Total Adjustments                                           $   590       $  (507)
          -----------------                                           -------       -------
     Net Cash Provided by Operating Activities                        $   753       $    22
     -----------------------------------------                        -------       -------
 
Cash Flows From Investing Activities
------------------------------------
  Net (increase) decrease in certificates of deposit                  $   198       $   688
  Proceeds from maturities of investment securities
    and mortgage-backed securities                                      4,010         4,785
  Principal payments on mortgage-backed securities                      1,433         1,280
  Net (increase) decrease in loans receivable                          (5,122)       (6,442)
  Purchases of property and equipment                                     (37)          (72)
  Purchase of investment securities held-to-maturity                     (251)       (4,683)
  Purchase of mortgage-backed securities held-to-maturity                  --        (4,146)
  Purchase of investment securities available-for-sale                   (200)       (1,985)
  Purchase of mortgage-backed securities available-for-sale                --          (248)
  Proceeds from sale of investment securities available-for-sale          251            --
  Proceeds from sale of mortgage-backed securities
    available-for-sale                                                  1,084         4,025
  Purchase of Federal Home Loan Bank stock                                (88)          (24)
  Proceeds from the sale of property held for investment                   --           112
  Proceeds from sale of other real estate                                  29            63
  Purchase of Federal Reserve Bank stock                                   --          (123)
                                                                      -------       -------
     Net Cash Used in Investing Activities                            $ 1,307       $(6,770)
     -------------------------------------                            -------       -------
</TABLE>

                         (continued on following page)

                                       44
<PAGE>
 
                          HEARTLAND BANCSHARES, INC.
                          --------------------------
                                AND SUBSIDIARY
                                --------------
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                     -------------------------------------
                                (IN THOUSANDS)
                                --------------

<TABLE>
<CAPTION>
                                                                               Year Ended
                                                                              December 31,
                                                                          --------------------
                                                                           1997         1996
                                                                          ------       -------

<S>                                                                       <C>          <C>
Cash Flows From Financing Activities
------------------------------------
  Net increase (decrease) in deposits                                     $1,190       $(2,800)
  Net increase (decrease) in mortgage escrow funds                           (24)         (128)
  Sale of stock                                                               --         7,446
  Dividends on common stock                                                 (326)         (161)
  Net increase in short term borrowings                                      750            --
  Shares acquired by management recognition plan                            (552)           --
                                                                          ------       -------
     Net Cash Provided by Financing Activities                            $1,038       $ 4,357
     -----------------------------------------                            ------       -------
 
Net Increase (Decrease) in Cash and Cash Equivalents                      $3,098       $(2,391)
----------------------------------------------------
 
Cash and Cash Equivalents at Beginning of Year                             1,872         4,263
                                                                          ------       -------
Cash and Cash Equivalents at End of Year                                  $4,970       $ 1,872
----------------------------------------                                  ======       =======
 
Supplemental Disclosures
------------------------
Cash Paid During the Period for:
  Interest                                                                $2,651       $ 2,736
  Income taxes paid (refunded)                                            $  (37)      $    (5)
 
Loans Transferred to Foreclosed Real Estate During Period                 $  220       $   199
Proceeds From Sales of Foreclosed Real Estate Financed Through Loans      $   84       $    --
</TABLE>

See accompanying notes to consolidated financial statements.

                                       45
<PAGE>
 
                          HEARTLAND BANCSHARES, INC.
                          --------------------------
                                        
                                AND SUBSIDIARY
                                --------------
                                        
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  ------------------------------------------
                                        
                          DECEMBER 31, 1997 AND 1996
                          --------------------------


1.   Summary of Significant Accounting Policies
     ------------------------------------------

     The accounting and reporting policies of Heartland Bancshares, Inc. (the
     "Company") and its subsidiary, Heartland National Bank (the "Bank"), are in
     accordance with generally accepted accounting principles and conform to
     general practices within the financial institution industry.  The more
     significant of the principles used in preparing the financial statements
     are briefly described below.

     Business
     --------

     The Company (through the Bank) provides a full range of financial services
     to individual and corporate customers from two office locations in Herrin
     and Carterville, Illinois.  The Company is subject to competition from
     other financial institutions in the area, is subject to the regulations of
     certain federal agencies, and undergoes periodic examinations by those
     regulatory authorities.

     On June 28, 1996, First Federal Savings and Loan Association of Herrin (the
     "Association") completed its conversion from a federal mutual savings and
     loan association to a federal stock savings and loan association and then
     from a stock association to a national bank known as Heartland National
     Bank.  Simultaneously, Heartland National Bank was acquired by Heartland
     Bancshares, Inc. which was formed to act as the holding company of the
     Bank.  At the date of the conversion, the Company completed the sale of
     876,875 shares of $.01 par value common stock at $10.00 per share.  Net
     proceeds from the above transactions, after deducting offering expenses,
     underwriting fees, and amounts retained to fund the Company's employee
     stock ownership plan (ESOP), totaled approximately $7.4 million.

     The Company is primarily engaged in the business of directing, planning and
     coordinating the business activities of the Bank.  These activities
     primarily consist of accepting deposits from the general public and
     investing these funds in loans in the Bank's market area and in investment
     securities and mortgage-backed securities.  In the future, the holding
     company structure will permit the Company to expand the financial services
     currently offered through the Bank although there are no definitive plans
     or arrangements for such expansion at present.

     Basis of Presentation
     ---------------------

     The consolidated financial statements have been prepared in conformity with
     generally accepted accounting principles.  In preparing the consolidated
     financial statements, management is required to make estimates and
     assumptions that affect the reported amounts of assets and liabilities as
     of the date of the balance sheet and revenues and expenses for the year.
     Actual results could differ significantly from those estimates.  Material
     estimates that are particularly susceptible to significant change in the
     near-term relate to the determination of the allowance for loan losses and
     the valuation of real estate acquired in connection with foreclosures or in
     satisfaction of loans.

     Management believes that the allowances for losses on loans and real estate
     acquired by foreclosures or in satisfaction of loans are adequate.  While
     management uses available information to provide for such 

                                       46
<PAGE>
 
     allowances, future additions to the allowances may be necessary based upon
     changes in economic conditions. In addition, various regulatory agencies,
     as an integral part of their examination process, periodically review the
     Company's allowances for losses. Such agencies may require the Company to
     recognize additions to the allowances based upon their judgments about
     information available to them at the time of their examination.

     Prior to the acquisition of the Association on June 28, 1996, and the
     Association's simultaneous conversion to the Bank, the Company had not
     issued any stock, had no assets or liabilities, and had not engaged in any
     business activities other than that of an organizational nature.
     Accordingly, the consolidated financial statements included herein reflect
     the operations of the Association only for periods prior to June 28, 1996.

     Principles of Consolidation
     ---------------------------

     The accompanying consolidated financial statements include the accounts of
     Heartland Bancshares, Inc., Heartland National Bank, and Herrin First
     Service Corporation, a wholly-owned subsidiary of Heartland National Bank.
     All significant intercompany balances and transactions are eliminated in
     consolidation.

     The subsidiary was formed in 1971 by the Association for the purpose of
     developing a residential subdivision.  Such development was completed and
     all lots were subsequently sold.  No further development activities have
     been undertaken or are currently planned although the corporation, with
     regulatory approval, recently purchased and subsequently sold one
     residential real estate property.

     Cash and Cash Equivalents
     -------------------------

     Cash and cash equivalents were $4,970,000, and $1,872,000 at December 31,
     1997 and December 31, 1996, respectively.  For purposes of reporting cash
     flows, cash and cash equivalents include cash on hand, amounts of cash due
     from banks, and the Bank's Regulation D reserve.   The Bank has a reserve
     requirement pass- thru deposit for its deposits at the Federal Home Loan
     Bank of Chicago.  This requirement was $5,000 and $20,000 at December 31,
     1997 and December 31, 1996, respectively.  Certificates of deposit with
     banks are shown separately from cash in the financial statements.

     Investment Securities
     ---------------------

     The Company accounts for its security holdings in accordance with Statement
     of Financial Accounting Standards No. 115 "Accounting for Certain
     Investments in Debt and Equity Securities" (SFAS No. 115).  At acquisition,
     SFAS No. 115 requires that securities be classified into one of three
     categories:  trading, available-for-sale, or held-to-maturity.  Trading
     securities are bought and held principally with the intention of selling
     them in the near term.  The Company has no trading securities.  Investment
     securities that management has the ability and intent to hold to maturity
     are classified as held-to-maturity and carried at cost, adjusted for
     amortization of premium and accretion of discounts using the level-yield
     method over their contractual lives.  Other marketable securities are
     classified as available-for-sale and are carried at fair value.  Realized
     and unrealized gains and losses on trading securities are included in net
     income.  Unrealized gains and losses on securities available-for-sale are
     recognized as direct increases or decreases in retained earnings, net of
     related tax.  Cost of securities sold is recognized using the specific
     identification method.

     Securities available-for-sale are stated at fair value for December 31,
     1997 and December 31, 1996.  Fair value is based on market prices quoted in
     financial publications or other independent sources.  Subsequent to
     adoption of SFAS No. 115, net unrealized gains or losses are excluded from
     earnings and reported, net of deferred income taxes, as a separate
     component of stockholders' equity until realized.  The adjusted cost of the
     specific security available-for-sale that is sold is used to compute any
     gain or loss upon sale.

                                       47
<PAGE>
 
     Mortgage-Backed Securities
     --------------------------

     Mortgage-backed securities represent participating interests in pools of
     long-term first mortgage loans originated and serviced by issuers of the
     securities.  Mortgage-backed securities classified as held-to-maturity are
     carried at unpaid principal balances, adjusted for unamortized premiums and
     unearned discounts.  Premiums and discounts are amortized using methods
     approximating the level-yield method over the remaining period to
     contractual maturity, adjusted for anticipated prepayments.  Mortgage-
     backed securities classified as available- for-sale are stated at fair
     value at December 31, 1997 and December 31, 1996.  Should any securities be
     sold, cost of securities sold is determined using the specific
     identification method.

     Real Estate Owned
     -----------------

     Real estate properties acquired through loan foreclosure are recorded at
     the lower of cost (outstanding principal balance of the related mortgage
     loan at the date of foreclosure, adjusted for any escrow balance) or
     estimated fair value, less estimated selling expenses.  Costs of holding
     real estate acquired in settlement of loans are reflected in income
     currently, except for significant property improvements, which are
     capitalized to the extent that carrying value does not exceed estimated
     fair value, net of estimated selling cost.

     Valuations are periodically performed by management and an allowance for
     losses is established by a charge to operations if the carrying value of a
     property exceeds its estimated fair value.

     Property, Equipment and Related Depreciation
     --------------------------------------------

     Land is carried at cost.  Properties and equipment are carried at cost,
     less accumulated depreciation.  Depreciation of properties and equipment is
     being determined by the straight-line method over the estimated useful
     lives of the related assets.  The estimated useful lives are ten to forty
     years for buildings and improvements and five to fifteen years for
     equipment.

     Loans Receivable
     ----------------

     Loans are considered a held-to-maturity asset and, accordingly, are carried
     at historical cost.  Loans receivable are stated at unpaid principal
     balances, less the allowance for loan losses and net deferred loan
     origination fees and discounts.  Interest on loans is accrued and credited
     to operations based upon the principal amount outstanding.  Unearned
     discount on home improvement loans is amortized over the estimated lives of
     the related loans using various methods which approximate the effective
     interest method.

     The Company adopted SFAS No. 114 "Accounting by Creditors for Impairment of
     a Loan" and SFAS No. 118 "Accounting by Creditors for Impairment of a Loan
     -- Income Recognition and Disclosures," an amendment of SFAS No. 114,
     effective January 1, 1995.  These statements address the accounting by
     creditors for impairment of certain loans.  They apply to all creditors and
     to all loans, uncollateralized as well as collateralized, except for large
     groups of smaller-balance homogeneous loans that are collectively evaluated
     for impairment, loans measured at fair value or at lower of cost or fair
     value, leases, and debt securities.  The Company considers all one- to
     four-family residential mortgage loans, construction loans, and all
     consumer loans (as presented in Note 4) to be smaller-balance homogeneous
     loans.  These statements apply to all loans that are restructured involving
     a modification of terms.  Loans within the scope of these statements are
     considered impaired when, based on current information and events, it is
     probable that all principal and interest will not be collected in
     accordance with the contractual terms of the loans.  Management determines
     the impairment of loans based on knowledge of the borrower's ability to
     repay the loan according to the contractual agreement and the borrower's
     repayment history.  Pursuant to SFAS No. 114, management does not consider
     an insignificant delay or insignificant shortfall to impair a loan.
     Management has determined that a delay less than 90 days will be considered
     an insignificant delay and that an amount less than $15,000 will be
     considered 

                                       48
<PAGE>
 
     an insignificant shortfall. The Company does not apply SFAS No. 114 using
     major risk classifications, but applies SFAS No. 114 on a loan by loan
     basis. Impaired loans are charged off when management determines that
     principal and interest are not collectible. Any excess of the Company's
     recorded investment for impairment in the loans over the measured value of
     the loans is provided for in the allowance for loan losses. Impaired loans
     during the years ended December 31, 1997 and 1996 were not material.

     Loans are placed on nonaccrual when a loan is specifically determined to be
     impaired.  Any unpaid interest previously accrued on those loans is
     reversed from income.  Interest income generally is not recognized on
     specific impaired loans unless the likelihood of further loss is remote.
     Income is subsequently recognized only to the extent that cash payments are
     received until, in management's judgment, the borrower's ability to make
     periodic interest and principal payments is back to normal, in which case
     the loan is returned to accrual status.

     Loan fees are deferred and amortized using the level-yield method over the
     estimated life of the individual loans, adjusted for actual prepayments.
     Amortization of deferred loan fees are suspended during periods in which
     the related loan is in nonaccrual status.

     Valuation Allowance for Loans and Real Estate Owned
     ---------------------------------------------------

     The Company's allowance for loan losses is maintained at a level which, in
     management's judgment, is adequate to absorb probable losses inherent in
     the loan portfolio.  The amount of the allowance is based on management's
     evaluation of the collectibility of the loan portfolio, including the
     nature of the portfolio, credit concentrations, trends in historical loss
     experience, specific impaired loans, and economic conditions.  The
     Company's allowance is increased by a provision for loan losses which is
     charged to expense and reduced by charge-offs, net of recoveries.  Changes
     in the allowance relating to impaired loans are charged or credited to the
     provision for loan losses.

     Income Taxes
     ------------

     Deferred tax assets and liabilities are reflected at currently enacted
     income tax rates applicable to the period in which the deferred tax assets
     or liabilities are expected to be realized or settled.  As changes in tax
     laws or rates are enacted, deferred tax assets and liabilities are adjusted
     through the provision for income taxes.

     Earnings per Share
     ------------------

     Earnings per share is based on the weighted average number of shares
     outstanding during the period after consideration of the dilutive effect of
     stock options.  The Company completed its initial stock offering on June
     28, 1996.  Earnings per share for the year ended December 31, 1996 have
     been computed based upon net income for the period from July 1, 1996 to
     December 31, 1996.  The effect on earnings per share for the period June
     28, 1996 to June 30, 1996 is not considered significant.  In accordance
     with Statement of Position 93-6, "Employers' Accounting for Employee Stock
     Ownership Plans," only employee stock ownership plan (ESOP) shares that
     have been committed to be released are considered outstanding shares.  See
     Note 23.

     Dividends per Share
     -------------------

     In accordance with the provisions of SOP 93-6, dividends paid on
     unallocated ESOP shares are not considered dividends for financial
     reporting purposes.

     Advertising Costs
     -----------------

     Advertising costs are charged to operations when incurred.

                                       49
<PAGE>
 
     Impact of New Accounting Standards
     ----------------------------------

     Accounting for Employee Stock Ownership Plans.  The Accounting Standards
     Division of the AICPA approved Statement of Position 93-6 (SOP 93-6),
     "Employers' Accounting for Employee Stock Ownership Plans," which is
     effective for fiscal years beginning after December 15, 1993.  This
     statement applies to shares of capital stock of sponsoring employers
     acquired by employee stock ownership plans (ESOP) after December 31, 1992
     that had not been committed to be released as of January 1, 1992.  SOP 93-6
     will, among other things, change the measure of compensation recorded by
     employers from the cost of ESOP shares to the fair value of employee stock
     ownership plan shares.  To the extent that the fair value of the Company's
     ESOP shares, committed to be released directly to compensate employees,
     differs from the cost of such shares, compensation expenses and a related
     charge or credit to additional paid-in capital will be reported in the
     Company's consolidated financial statements.

     During 1996, the Company adopted an employee stock ownership plan.  The
     Company is accounting for the plan according to the provisions of SOP 93-6.

     Accounting for Stock-Based Compensation.  SFAS No. 123, "Accounting for
     Stock Based Compensation" was issued by the FASB in October, 1995.  SFAS
     No. 123 establishes a fair value-based method of accounting for stock
     options and other equity instruments.  It requires the use of that method
     for transactions with other than employees and encourages its use for
     transactions with employees.  It permits entities to continue to use the
     intrinsic value method included in Accounting Principles Board Opinion No.
     25, "Accounting for Stock Issued to Employees", but regardless of the
     method used to account for the compensation cost associated with stock
     option and similar plans, it requires employers to disclose information in
     accordance with SFAS No. 123.  The general principle underlying SFAS No.
     123 is that equity instruments are recognized at the fair    value of the
     consideration received for them.  If the fair value of the consideration
     received cannot be reasonably determined, the fair value of the equity
     instrument itself may be used.  The fair value method of accounting for
     stock options and other instruments applies this general principle
     measuring compensation cost for employers as the excess of the fair value
     of the equity instrument over the amount paid by the employee.  The
     definition of fair value in SFAS No. 123 is the same as that included in
     SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for
     Long-Lived Assets to Be Disposed of."

     SFAS No. 123 requires significantly expanded disclosures, including
     disclosure of the pro forma amount of net income (and earnings per share
     for public entities) as if the fair value-based method were used to account
     for stock-based compensation if the intrinsic value method of APB-25 is
     retained.

     The recognition requirements for transactions with other than employees
     apply for transactions entered into after December 15, 1995.  The
     recognition alternative of the fair value-based method for transactions
     with employees may be implemented immediately upon issuance of SFAS No.
     123.  The disclosure requirements, which apply regardless of the
     recognition method chosen, are applicable for financial statements for
     fiscal years beginning after December 15, 1995.

     With the adoption in 1997 of stock-based compensation plans (See Note 12),
     the Company is accounting for the plan according to the disclosure
     requirements of SFAS No. 123.

     Accounting for the Impairment of Long-Lived Assets.  In March, 1995, the
     Financial Accounting Standards Board (FASB) issued SFAS No. 121,
     "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
     Assets to Be Disposed Of."  SFAS No. 121 establishes accounting standards
     for the impairment of long-lived assets, certain identifiable intangibles,
     and goodwill related to those assets to be held and used and for long-lived
     assets and certain identifiable intangibles to be disposed of.  The
     statement requires that long-lived assets and certain identifiable
     intangibles to be held and used by an entity be reviewed for impairment
     whenever events or changes in circumstances indicate that the carrying
     amount of an asset may not be 

                                       50
<PAGE>
 
     recoverable. If, under the criteria of the statement, an asset is impaired,
     an impairment loss is recognized. SFAS No. 121 is effective for fiscal
     years ending after December 15, 1995. The Company has adopted the
     provisions of the statement effective for the year ending December 31,
     1996. The adoption of SFAS No. 121 did not have a material effect on the
     Company's financial position or operating results.

     Accounting for Mortgage Servicing Rights.  In May, 1995, the FASB issued
     SFAS No. 122, "Accounting for Mortgage Servicing Rights."  SFAS No. 122
     requires that a mortgage banking enterprise recognize as separate assets
     rights to service mortgage loans for others however those servicing rights
     are acquired.  A mortgage banking enterprise that acquires mortgage
     servicing rights through either the purchase or origination of mortgage
     loans and sells or securitizes those loans with servicing rights retained
     should allocate the total cost of the mortgage loans to the mortgage
     servicing rights and the loans (without mortgage servicing rights) based on
     their relative fair values if it is practicable to estimate those fair
     values.  If it is not practicable to estimate the fair values of the
     mortgage servicing rights and the mortgage loans (without the servicing
     rights), the entire cost of purchasing or originating the loans should be
     allocated to the mortgage loans and no cost should be allocated to the
     mortgage servicing rights.  SFAS No. 122 also requires that a mortgage
     banking enterprise assess its capitalized mortgage servicing rights for
     impairment based on the fair value of those rights.  SFAS No. 122 must be
     applied prospectively for fiscal years beginning after December 15, 1995,
     with earlier adoption encouraged, to transactions in which a mortgage
     banking enterprise sells or securitizes mortgage loans with servicing
     rights retained and to impairment evaluations of all amounts capitalized as
     mortgage servicing rights, including those purchased before the adoption of
     SFAS No. 122.  Retroactive capitalization of mortgage servicing rights
     retained in transactions in which a mortgage banking enterprise originates
     mortgage loans and sells or securitizes those loans before the adoption of
     SFAS No. 122 is prohibited.  The Company has adopted the provision of the
     statement for the year ending December 31, 1996.  The adoption of SFAS No.
     122 did not have a material effect on the Company's financial position or
     operating results.

     Accounting for Transfers and Servicing of Financial Assets.  In June, 1996,
     the FASB issued SFAS No. 125, "Accounting for Transfers and Servicing of
     Financial Assets and Extinguishments of Liabilities."  SFAS No. 125
     establishes accounting and reporting standards for transfers and servicing
     of financial assets and extinguishments of liabilities based on the
     consistent application of the financial components approach.  This approach
     requires the recognition of financial assets and servicing assets that are
     controlled by the reporting entity, the derecognition of financial assets
     when control is surrendered, and the derecognition of liabilities when they
     are extinguished.  Specific criteria are established for determining when
     control has been surrendered in the transfer of financial assets.  SFAS No.
     125 is effective for transfers and servicing of financial assets and
     extinguishments of liabilities occurring after December 31, 1996.
     Subsequent to the issuance of SFAS No. 125, the FASB issued SFAS No. 127,
     "Deferral of the Effective Date of Certain Provisions of FASB Statement No.
     125."  This statement defers for one year the effective date of SFAS No.
     125 as applies to secured borrowings and collateral and certain other
     transactions.  The Company has adopted the relevant provisions of the
     statement during 1997, and will adopt the provisions of the statement which
     become effective in 1998 at that time.  The provisions of the statement
     adopted in 1997 did not have a material effect on the Company's financial
     position or operating results, and management does not currently believe
     that the future adoption of additional provisions of this statement will
     have such an effect.

     Earnings per Share.  In February, 1997, the FASB issued SFAS No. 128,
     "Earnings per Share".  SFAS No. 128 establishes standards for computing and
     presenting earnings per share ("EPS") and applies to entities with publicly
     held common stock or potential common stock.  The statement simplifies the
     standards for computing earnings per share previously found in APB Opinion
     No. 15, "Earnings per Share", and makes them comparable to international
     EPS standards.  It replaces the presentation of primary EPS with a
     presentation of basic EPS.  It also requires dual presentation of basic and
     diluted EPS on the face of the income statement for all entities with
     complex capital structures, and requires a reconciliation of the two
     computations.  This statement is effective for financial statements issued
     for periods ending after December 15, 1997, with earlier 

                                       51
<PAGE>
 
     application not permitted. The Company has adopted SFAS No. 128 effective
     for the year ended December 31, 1997.

     Comprehensive Income.  In June, 1997, the FASB issued SFAS No. 130,
     "Reporting Comprehensive Income".  SFAS No. 130 establishes standards for
     reporting and display of comprehensive income and its components (revenues,
     expenses, gains, and losses) in a full set of general-purpose financial
     statements.  This statement requires that all items that are required to be
     recognized under accounting standards as components of comprehensive income
     be reported in a financial statement that is displayed with the same
     prominence as other financial statements.

     This statement requires that an enterprise (a) classify items of other
     comprehensive income by their nature in a financial statement and (b)
     display the accumulated balance of other comprehensive income separately
     from retained earnings and additional paid-in capital in the equity section
     of a statement of financial position.  This statement is effective for
     fiscal years beginning after December 15, 1997.  The management of the
     Company plans to adopt the provisions of the statement at January 1, 1998,
     and does not currently believe that the future adoption of this statement
     will have a material effect on the Company's financial position or
     operating results.

     Disclosures about Segments of an Enterprise and Related Information.  In
     June, 1997, the FASB issued SFAS No. 131, "Disclosure about Segments of an
     Enterprise and Related Information".  SFAS No. 131 establishes standards
     for the way that public business enterprises report information about
     operating segments in annual financial statements and requires that those
     enterprises report selected information about operating segments in interim
     financial reports issued to shareholders.  It also establishes standards
     for related disclosures about products and services, geographic areas, and
     major customers.  This statement is effective for financial statements for
     periods beginning after December 15, 1997.  The management of the Company
     plans to adopt the appropriate provisions of the statement at January 1,
     1998, and does not currently believe that the future adoption of this
     statement will have a material effect on the Company's financial position
     or operating results.

     Employers' Disclosure about Pensions and Other Postretirement Benefits.  In
     February, 1998, the FASB issued SFAS No. 132, "Employers' Disclosures about
     Pensions and Other Postretirement Benefits".  SFAS No. 132 standardizes the
     disclosure requirements for pensions and other postretirement benefits.
     This statement is effective for financial statements for periods beginning
     after December 15, 1997.  The management of the Company plans to adopt the
     appropriate provisions of the statements at January 1, 1998, and does not
     currently believe that the future adoption of this statement will have a
     material effect on the Company's financial position or operating results.

     Reclassifications
     -----------------

     Certain reclassifications have been made for 1996 to conform with the 1997
     financial statement presentation.  The reclassifications had no effect on
     previously reported net income or retained earnings.

                                       52
<PAGE>
 
2.   Investment Securities
     ---------------------

     Securities held-to-maturity and available-for-sale consist of the
     following:

<TABLE>
<CAPTION>
                                                                                              Gross        Gross      Estimated
                                                                                Amortized   Unrealized   Unrealized    Market
                                                                                  Cost        Gains        Losses       Value
                                                                                ---------   ----------   ----------   ---------
                                                                                                   (1,000's)
                                                                                -----------------------------------------------
<S>                                                                                <C>             <C>          <C>      <C>
Held-to-Maturity:               
                                
December 31, 1997               
-----------------
U. S. government and            
 federal agencies                                                                  $4,842          $33          $ 9      $4,866
Municipal securities *                                                                785           --           --         785
                                                                                   ------          ---          ---      ------
                                
  Total                                                                            $5,627          $33          $ 9      $5,651
  -----                                                                            ======          ===          ===      ======
*Local issues with no actively traded markets to establish fair market value
 different from amortized cost.
<CAPTION>  
                                                                                              Gross        Gross      Estimated
                                                                                Amortized   Unrealized   Unrealized    Market
                                                                                  Cost        Gains        Losses       Value
                                                                                ---------   ----------   ----------   ---------
                                                                                                   (1,000's)
                                                                                -----------------------------------------------
<S>                                                                                <C>             <C>          <C>      <C>
December 31, 1996               
-----------------
U. S. government and            
 federal agencies                                                                  $8,085          $37          $29      $8,093
Municipal securities *                                                                945           --           --         945
                                                                                   ------          ---          ---      ------
                                
  Total                                                                            $9,030          $37          $29      $9,038
  -----                                                                            ======          ===          ===      ======
*Local issues with no actively traded markets to establish fair market value
 different from amortized cost.
 <CAPTION> 
                                                                                              Gross        Gross      Estimated
                                                                                Amortized   Unrealized   Unrealized    Market
                                                                                  Cost        Gains        Losses       Value
                                                                                ---------   ----------   ----------   ---------
                                                                                                   (1,000's)
                                                                                -----------------------------------------------
<S>                                                                                <C>             <C>          <C>      <C>
Available-for-Sale:             
                                
December 31, 1997               
-----------------
U. S. government and            
 federal agencies                                                                  $1,692          $22          $--      $1,714
Municipal securities                                                                   --           --           --          --
                                                                                   ------          ---          ---      ------
                                
  Total                                                                            $1,692          $22          $--      $1,714
  -----                                                                            ======          ===          ===      ======
</TABLE>

                                       53
<PAGE>
 
<TABLE>
<CAPTION>
                                        Gross        Gross      Estimated
                          Amortized   Unrealized   Unrealized    Market
                            Cost        Gains        Losses       Value
                          ---------   ----------   ----------   ---------
                                             (1,000's)
                          -----------------------------------------------
<S>                          <C>             <C>          <C>      <C>
December 31, 1996
-----------------
 
U. S. government and
 federal agencies            $2,087          $21          $--      $2,108
Municipal securities             --           --           --          --
                             ------          ---          ---      ------
 
  Total                      $2,087          $21          $--      $2,108
  -----                      ======          ===          ===      ======
</TABLE>

     The amortized cost and estimated market value of debt securities at
     December 31, 1997 and December 31, 1996, by contractual maturity, are shown
     below.  Expected maturities will differ from contractual maturities because
     issuers may have the right to call or prepay obligations without call or
     prepayment penalties.
 
Amounts maturing in:
<TABLE>
<CAPTION>
                                               Securities               Securities
                                            Held-to-Maturity        Available-for-Sale
                                           -------------------      -------------------
                                                     Estimated                Estimated
                                        Amortized     Market     Amortized     Market
                                           Cost       Value        Cost         Value
                                        ---------    ---------   ---------    ---------
                                                           (1,000's)
                                        -----------------------------------------------
 
<S>                                        <C>          <C>         <C>          <C>
December 31, 1997
-----------------
One year or less                           $2,042       $2,041      $  100       $  100
After one year through five years           3,360        3,385       1,592        1,614
After five years through ten years            225          225          --           --
After ten years                                --           --          --           --
                                           ------       ------      ------       ------
                                                                                 
 Total                                     $5,627       $5,651      $1,692       $1,714
 -----                                     ======       ======      ======       ======

<CAPTION>  
                                               Securities               Securities
                                            Held-to-Maturity        Available-for-Sale
                                           -------------------      -------------------
                                                     Estimated                Estimated
                                        Amortized     Market     Amortized     Market
                                           Cost       Value        Cost         Value
                                        ---------    ---------   ---------    ---------
                                                           (1,000's)
                                        -----------------------------------------------
<S>                                        <C>          <C>         <C>          <C>
December 31, 1996
-----------------
One year or less                           $2,410       $2,414      $  100       $  100
After one year through five years           6,300        6,304       1,737        1,756
After five years through ten years            260          260         250          252
After ten years                                60           60          --           --
                                           ------       ------      ------       ------
                                                                                 
 Total                                     $9,030       $9,038      $2,087       $2,108
 -----                                     ======       ======      ======       ======
</TABLE>

                                       54
<PAGE>
 
     No securities were pledged at December 31, 1997 or December 31, 1996 to
     secure deposits in excess of $100,000.

     For the year ended December 31, 1997, the Company sold an investment
     security resulting in net realized gains of $4,000, having a net after-tax
     effect of $2,840.  This security was sold for total proceeds of $251,000.
     No investment securities were sold during 1996.

3.   Mortgage-Backed and Related Securities
     --------------------------------------

     Mortgage-backed and related securities consist of the following:

<TABLE>
<CAPTION>
                            Gross                    Gross      Estimated
                          Amortized   Unrealized   Unrealized    Market
                            Cost        Gains        Losses       Value
                          ---------   ----------   ----------   ---------
                                             (1,000's)
                          -----------------------------------------------

<S>                          <C>             <C>         <C>       <C> 
Held-to-Maturity -

December 31, 1997
-----------------
 
FNMA                         $2,352          $12         $ 19      $2,345
GNMA                            871           21           --         892
FHLMC                         2,514            4           61       2,457
                             ------          ---         ----      ------
 
 Total                       $5,737          $37         $ 80      $5,694
 -----                       ======          ===         ====      ======
 
<CAPTION>  
                            Gross                    Gross      Estimated
                          Amortized   Unrealized   Unrealized    Market
                            Cost        Gains        Losses       Value
                          ---------   ----------   ----------   ---------
                                             (1,000's)
                          -----------------------------------------------

<S>                          <C>             <C>         <C>       <C> 
December 31, 1996
-----------------
 
FNMA                         $2,697          $10         $ 39      $2,668
GNMA                          1,030            6           25       1,011
FHLMC                         2,936            3           90       2,849
                             ------          ---         ----      ------
 
 Total                       $6,663          $19         $154      $6,528
 -----                       ======          ===         ====      ======
 
<CAPTION> 
Available-for-Sale -
                            Gross                    Gross      Estimated
                          Amortized   Unrealized   Unrealized    Market
                            Cost        Gains        Losses       Value
                          ---------   ----------   ----------   ---------
                                             (1,000's)
                          -----------------------------------------------
<S>                          <C>             <C>         <C>       <C> 
December 31, 1997
-----------------
 
FNMA                         $  433          $--         $  7      $  426
GNMA                             --           --           --          --
FHLMC                           836            1           14         823
                             ------          ---         ----      ------
 
 Total                       $1,269          $ 1         $ 21      $1,249
 -----                       ======          ===         ====      ======
</TABLE> 

                                       55
<PAGE>
 
<TABLE> 
<CAPTION> 
                                        Gross        Gross      Estimated
                          Amortized   Unrealized   Unrealized    Market
                            Cost        Gains        Losses       Value
                          ---------   ----------   ----------   ---------
                                             (1,000's)
                          -----------------------------------------------
<S>                          <C>             <C>         <C>       <C> 
December 31, 1996
-----------------
 
FNMA                         $  552          $--         $ 13      $  539
GNMA                          1,192            5            3       1,194
FHLMC                         1,116           --           35       1,081
                             ------          ---         ----      ------
 
 Total                       $2,860          $ 5         $ 51      $2,814
 -----                       ======          ===         ====      ======
 
</TABLE>

     The above securities are issued, guaranteed or collateralized by one of the
     following:  the Government National Mortgage Association (GNMA), the
     Federal National Mortgage Association (FNMA) or the Federal Home Loan
     Mortgage Corporation (FHLMC).

     A summary of maturities, by contractual maturity, of mortgage-backed and
     related securities held-to-maturity and available-for-sale as of December
     31, 1997 is shown below.

<TABLE>
<CAPTION>
                                               Securities             Securities
                                            Held-to-Maturity       Available-for-Sale
                                         ----------------------   ---------------------
                                                      Estimated               Estimated
                                         Amortized     Market     Amortized    Market
                                           Cost        Value        Cost        Value
                                         ---------    ---------   ---------   ---------
                                                            (1,000's)
                                         ----------------------------------------------
 
<S>                                         <C>          <C>         <C>         <C>
Mortgage-backed securities:
 In one year or less                        $   --       $   --      $   --      $   --
 After one year through five years           3,366        3,305       1,269       1,249
 After five years through ten years            761          753          --          --
 After ten years                             1,610        1,636          --          --
                                            ------       ------      ------      ------
                                                                                 
  Total                                     $5,737       $5,694      $1,269      $1,249
  -----                                     ======       ======      ======      ======
</TABLE>

                                       56
<PAGE>
 
     A summary of maturities, by contractual maturity, of mortgage-backed and
     related securities held-to-maturity and available-for-sale as of December
     31, 1996 is shown below.
<TABLE>
<CAPTION>
                                                Securities              Securities
                                            Held-to-Maturity        Available-for-Sale
                                         ----------------------    --------------------
                                                      Estimated               Estimated
                                         Amortized      Market     Amortized    Market
                                           Cost         Value        Cost       Value
                                         ---------    ---------    ---------  ---------
                                                             (1,000's)
                                         ----------------------------------------------
<S>                                         <C>          <C>         <C>         <C>
Mortgage-backed securities:
 In one year or less                        $   --       $   --      $   --      $   --
 After one year through five years           2,444        2,369       1,668       1,620
 After five years through ten years          1,459        1,442          --          --
 After ten years                             2,760        2,717       1,192       1,194
                                            ------       ------      ------      ------
  Total                                     $6,663       $6,528      $2,860      $2,814
  -----                                     ======       ======      ======      ======
</TABLE>

     For the years ended December 31, 1997 and 1996, the Company sold mortgage-
     backed securities resulting in net realized gains of $7,000 and $10,000,
     having a net after-tax effect of $5,000 and $7,100, respectively.  These
     securities were sold for total proceeds of $1,084,000 and $4,025,000,
     respectively.

     4.  Loans Receivable, Net
         ---------------------

     A comparative summary of loans receivable follows:

<TABLE>
<CAPTION>
                                                December 31,
                                             ------------------
                                              1997       1996
                                             -------    -------
                                                  (1,000's)
                                             ------------------
<S>                                          <C>        <C>
Type of Loan:
-------------
Real estate loans:
  One- to four-family residential            $37,546    $33,208
  Multi-family residential                     1,433      1,520
  Construction                                   381      1,010
  Church                                       1,735      1,875
  Commercial                                   3,140      2,633
                                             -------    -------
 
      Total Real Estate Loans                $44,235    $40,246
      -----------------------                -------    -------
 
Consumer loans: (Net of unearned
 discount of $8,000 at December 31,
 1997 and $19,000 at December 31, 1996)
  Automobiles                                $   508    $   346
  Savings account                                477        503
  Home improvement                               779        490
  Other                                        1,157        545
                                             -------    -------
 
      Total Consumer Loans                   $ 2,921    $ 1,884
      --------------------                   -------    -------
 
      Total Gross Loans                      $47,156    $42,130
      -----------------                      -------    -------
 
Less:
  Loans in process                           $   375    $   267
  Deferred service charge                         74         97
  Allowance for loan losses                      400        300
                                             -------    -------
 
      Total                                  $46,307    $41,466
      -----                                  =======    =======
</TABLE>

                                       57
<PAGE>
 
     Nonaccrual loans totaled $619,000 and $493,000 at December 31, 1997 and
     1996, respectively.  Gross interest income of approximately $23,000 and
     $16,000 for the years ended December 31, 1997 and 1996, respectively, would
     have been recorded on nonaccrual loans if interest income had been
     recognized throughout the periods.  None of this income was actually
     recognized during these periods.

5.   Investments Required by Law
     ---------------------------

     Investments available-for-sale required by law consist of the following:

<TABLE>
<CAPTION>
                                    December 31,
                                  ----------------
                                  1997       1996
                                  -----      -----
                                     (1,000's)
                                  ----------------
<S>                               <C>        <C> 
 
Federal Home Loan Bank stock      $ 454      $ 366
Federal Reserve Bank stock          123        123
                                  -----      -----
 
      Total                       $ 577      $ 489
      -----                       =====      =====
</TABLE>
     The above investments are valued at cost, which represents redemption value
     and approximates fair value.

6.   Allowance For Loan Losses
     -------------------------
 
A summary of the changes in the allowance for loan losses for the years ended
December 31, 1997 and 1996 is as follows:
 
<TABLE> 
<CAPTION> 
                                    December 31,
                                  ----------------
                                  1997       1996
                                  -----      -----
                                     (1,000's)
                                  ----------------

<S>                               <C>        <C> 
Balance at beginning of period    $ 300      $ 300
                                             
Write offs                          (60)        (5)
Recoveries                            4         --
Provision                           156          5
                                  -----      -----
                                             
Balance at end of period          $ 400      $ 300
                                  =====      =====
</TABLE>

7.   Allowance for Other Real Estate
     -------------------------------

     A summary of the changes in the allowance for other real estate for the
     years ended December 31, 1997 and 1996 is as follows:

<TABLE> 
<CAPTION> 
                                    December 31,
                                  ----------------
                                  1997       1996
                                  -----      -----
                                     (1,000's)
                                  ----------------
<S>                               <C>        <C> 
 
Balance at beginning of period    $   5      $  --
                                             
Provision                            10          5
Sales of other real estate          (12)        --
                                  -----      -----
                                             
Balance at end of period          $   3      $   5
                                  =====      =====
</TABLE>

                                       58
<PAGE>
 
8.   Accrued Interest Receivable
     ---------------------------

     Accrued interest receivable is summarized as follows:

<TABLE> 
<CAPTION> 
                                              December 31,  
                                            ----------------
                                            1997       1996 
                                            -----      -----
                                               (1,000's)    
                                            ----------------
                                                            
<S>                                         <C>        <C>  
Investment securities                       $ 110      $ 158
Mortgage-backed securities                     36         50
Accrued dividends - FHLB stock                  8          7
Loans                                         138        101
                                            -----      -----
                                                            
      Total                                 $ 292      $ 316
      -----                                 =====      ===== 
</TABLE>

9.   Property, Equipment and Property Held for Investment
     ----------------------------------------------------

Property, equipment and property held for investment are summarized as follows:

<TABLE> 
<CAPTION> 
                                              December 31,  
                                            ----------------
                                            1997       1996 
                                            -----      -----
                                               (1,000's)    
                                            ----------------
                                                            
<S>                                         <C>        <C>  
Land and land improvements                  $ 164      $ 164
Office buildings and improvements             282        279
Furniture and equipment                       348        321
Rental property and real estate held        
 for development                               81         79
                                            -----      -----
                                            
                                            $ 875      $ 843
Less - Accumulated depreciation               414        364
----                                        -----      -----
                                            
      Total                                 $ 461      $ 479
      -----                                 =====      =====
</TABLE>

     Depreciation expense for the years ended December 31, 1997 and 1996 was
     $55,000 and $47,000, respectively.

                                       59
<PAGE>
 
10.   Deposits
      --------

     Deposit accounts and interest rates at December 31, 1997 and 1996 were as
     follows:

<TABLE>
<CAPTION>
                                         1997                      1996
                            ---------------------------- ---------------------------
                                                Percent                     Percent
                             Interest             of      Interest             of
                               Rate      Amount Accounts    Rate     Amount Accounts 
                            ----------   ------ -------- ---------   ------ --------
                                                     (1,000's)
                            --------------------------------------------------------

<S>                         <C>          <C>     <C>    <C>          <C>      <C>   
    Noninterest-bearing                                                            
    accounts                     N/A    $   667   1.23%       N/A   $   248    0.47%
                                -----   ------- ------       -----  -------  ------ 
                                                                                    
    NOW accounts                  2.83% $ 8,868  16.42%       3.04% $ 8,912   16.87%
                                 -----  ------- ------       -----  -------  ------ 
                                                                                    
    Passbook                3.84%-4.98% $ 7,055  13.06%       3.84% $ 6,649   12.58%
                            ----------  ------- ------       -----  -------  ------ 
                                                                                    
    Christmas Club                4.08% $     8    .01%       4.08% $    10    0.02%
                                 -----  ------- ------       -----  -------  ------ 
                                                                                   
    Certificates of Deposit                                                        
      91 day                4.80%-4.81% $   433    .80% 4.60%-4.73% $   549    1.04%
       6 month              5.30%-5.35%   3,962   7.33% 4.98%-5.19%   4,361    8.25%
      12 month              5.60%-5.74%   9,508  17.60% 5.28%-5.48%   7,204   13.63%
      18 month              5.68%-5.75%   2,107   3.90% 6.17%-6.32%   3,856    7.30%
     700 day                    N/A %      N/A    N/A %       6.93%     811    1.54%
      30 month              5.86%-5.96%   6,238  11.55% 5.80%-5.85%   6,000   11.36%
       3 year               5.70%-6.98%   2,047   3.79% 5.62%-7.04%   2,917    5.52%
       4 year               5.94%-6.05%     551   1.02% 6.11%-6.45%   1,092    2.07%
       5 year               6.00%-6.08%   2,488   4.61% 6.09%-6.16%   2,969    5.62%
       6 year               6.03%-6.30%   1,151   2.13% 6.17%-6.37%   1,174    2.22%
       8 year               6.53%-6.85%   1,355   2.51% 6.52%-6.83%   1,326    2.51%
      Jumbo                 5.33%-6.25%   4,136   7.66%       7.08%     323    0.61%
                            ----------  ------- ------  ----------  -------  ------
                                        $33,976  62.90%             $32,582   61.67%
                                        ------- ------              -------  ------  
   Individual retirement
    accounts                5.75%-5.92% $ 3,448   6.38% 6.09%-6.73% $ 4,431    8.39%
                            ----------- ------- ------  ----------  -------  ------
 
                Total                   $54,022 100.00%             $52,832  100.00%
                -----                   ======= ======              =======  ======
</TABLE>

     The following schedule sets forth the amount and maturities of time
     deposits at December 31, 1997 and 1996:

<TABLE>
<CAPTION>
                                                       December 31,
                                                    ------------------ 
                                                     1997       1996
                                                    -------    -------
                                                        (1,000's)
                                                    ------------------

<S>                                                 <C>       <C>
Maturing in - Less than one year                    $25,571    $23,071
            - From one to two years                  6,766      8,492
            - From two to three years                2,268      2,977
            - From three to four years               1,732        347
            - From four to five years                  529      1,245
            - Over five years                          558        881
                                                   -------    -------
 
   Total                                            $37,424    $37,013
   -----                                            =======    =======
</TABLE>

     The aggregate amount of time deposits with a minimum denomination of
     $100,000 was approximately $4,136,000 at December 31, 1997 and $4,496,000
     at December 31, 1996.

     The Bank did not have brokered deposits at December 31, 1997 and 1996.
     Deposits in excess of $100,000 are not federally insured.

                                       60
<PAGE>
 
     Deposits by officers, directors, and employees were $734,000 at December
     31, 1997 and $829,000 at December 31, 1996.

     Interest expense on deposits for the years ended December 31, 1997 and 1996
     is summarized as follows:

<TABLE>
<CAPTION>
                                     December 31,
                                  ------------------
                                   1997        1996
                                  ------      ------
                                       (1,000's)
                                  ------------------
<S>                               <C>         <C>
 
  Interest on passbooks           $  266      $  252
  Interest on NOW accounts           260         267
  Interest on time deposits        2,074       2,220
  Early withdrawal penalties         (13)        (20)
                                  ------      ------
  
        Total                     $2,587      $2,719
        -----                     ======      ======
</TABLE>

11.   Income Taxes
      ------------

     The Company and its subsidiary file consolidated federal income tax returns
     on a calendar year basis.

     Prior to the Association's decision to convert to a stock institution and
     national bank, the Association computed its income taxes allowing for the
     effect of the special bad debt deduction available to a savings and loan
     association under the Internal Revenue Code if certain conditions are met.
     In general, this special tax bad debt deduction represents the greater of
     amounts deducted based upon historical loss experience or 8% of taxable
     income.  Based upon the Association's decision to convert to bank status,
     the law in effect at that time required that the entire amount of excess
     bad debt deductions referred to above would be restored to income, and
     taxes thereon would become due.  As a result, income taxes totaling
     $450,000 were accrued in the Association's 1995 financial statements as a
     component of income tax expense.  This accrual recognized a deferred
     liability for the tax effect of bad debt reserves not previously recorded
     (those arising before 1988).

     During the third quarter of 1996, the Small Business Job Protection Act of
     1996 (Small Business Act) was enacted into law.  Under this law, for years
     beginning after 1995, thrift institutions (such as the Association) are
     required to recapture "excess bad debt reserves" over a six-year period.
     However, pre-1988 reserves are not included in these excess bad debt
     reserves.  As the conversion of the Association to the Bank had not taken
     place as of December 31, 1995 (the effective date of the new law), the Bank
     was still a thrift institution as of  that date.  Therefore, it is the
     current judgment of management that due to the change enacted by the Small
     Business Act, the pre-1988 reserves will not be required to be recaptured
     into taxable income.  As a result in accordance with the provisions of
     Statement of Financial Accounting Standards No. 109, "Accounting for Income
     Taxes", the $450,000 increase in income taxes made during 1995 was reversed
     during 1996 as a change to income from continuing operations, leading to a
     $450,000 decrease in income tax expense and deferred income taxes as of
     December 31, 1996.

                                       61
<PAGE>
 
     Income tax expense is summarized as follows:

<TABLE>
<CAPTION>
                                       December 31,
                                    -----------------
                                    1997        1996
                                    -----       -----
                                        (1,000's)
                                        ---------

<S>                                 <C>         <C>
Current Tax Expense (Benefit)
-----------------------------
  Federal                           $ 151       $  44
  State                                11         (20)
                                    -----       -----
 
      Total Current                 $ 162       $  24
      -------------                 -----       -----
 
Deferred Tax Expense (Benefit)
------------------------------
  Federal                           $ (87)      $(388)
  State                               (20)        (88)
                                    -----       -----
 
      Total Deferred                $(107)      $(476)
      --------------                -----       -----
 
Total Expense (Benefit)             $  55       $(452)
-----------------------             =====       =====
</TABLE>

     A reconciliation of income taxes at the federal statutory rates to the
     income tax expense in the financial statements is as follows:

<TABLE>
<CAPTION>
                                                      December 31,
                                                   -------------------
                                                    1997       1996
                                                   ------    ---------
                                                        (1,000's)
                                                   -------------------

<S>                                                <C>       <C>
Income tax at statutory rates                      $   74    $      26
State income tax - Net of federal tax benefit          (7)         (25)
Reversal of bad debt recapture due to new law          --         (450)
Tax exempt income                                     (14)         (10)
Other                                                   2            7
                                                   ------    ---------
 
Income tax expense (benefit)                       $   55    $    (452)
                                                   ======    =========
 
Effective tax rates                                 25.23%    (587.01)%
                                                   ======    =========
</TABLE>

     The Tax Reform Act of 1986 set the statutory rate at 34% effective July 1,
     1987.  For the periods presented, deferred tax expense results from timing
     differences in the recognition of income and expense for tax and financial
     reporting purposes.

                                       62
<PAGE>
 
     The tax effects of temporary differences that give rise to the deferred tax
     assets and deferred tax liabilities at December 31, 1997 and 1996 are as
     follows:

<TABLE>
<CAPTION>
                                                December 31,
                                              ----------------
                                              1997       1996
                                              -----      -----
                                                  (1,000's)
                                              ----------------

<S>                                           <C>     <C>
Deferred tax assets:
  Allowance for unrealized losses on
   securities available-for-sale              $  --      $  10
  Allowance for loan losses                     155        116
  Deferred loan fees                             19         23
  Benefits not currently deductible              87         23
  Other                                          --          5
                                              -----      -----
 
      Total Deferred Tax Assets               $ 261      $ 177
      -------------------------               -----      -----
 
<CAPTION>  
                                                December 31,
                                              ----------------
                                              1997       1996
                                              -----      -----
                                                  (1,000's)
                                              ----------------

<S>                                           <C>     <C>
Deferred tax liabilities:
  Federal Home Loan Bank stock dividends      $  18      $  18
  Allowance for unrealized gains
   on securities available-for-sale               1         --
  Tax basis bad debt reserve                     51         64
  Difference between book and tax
   depreciation                                  30         31
                                              -----      -----
 
      Total Deferred Tax Liabilities          $ 100      $ 113
      ------------------------------          -----      -----
 
Net Deferred Tax Asset (Liability)            $ 161      $  64
----------------------------------            =====      =====
</TABLE>

     No valuation allowance was required for deferred tax assets at December 31,
     1997 and 1996.

     Taxes relating to gains on security sales were approximately $4,000 and
     $4,000 for the years ending December 31, 1997 and 1996, respectively.

12.  Pension Plan, Benefit Plans and Agreements
     ------------------------------------------

     Financial Institutions Retirement Fund
     --------------------------------------

     The Bank participates in an industry-wide tax-qualified pension trust
     administered by the Financial Institutions Retirement Fund.  An employee
     will be eligible for membership in the Comprehensive Retirement Program on
     the first day of the month following the employee's first year of service
     and attainment of age 21.  A member will be considered active or inactive
     depending on whether or not he or she completes 1,000 hours of service each
     calendar year.

     For the plan year beginning July 1, 1997 the full funding limitation will
     continue to be applied on an employer-by-employer basis.  Each employer in
     an overfunded position will use its excess designated "Future Employer
     Contribution Offset" (FECO), to absorb future contribution requirements.
     Employers who are in an unfunded position are billed by the Fund for their
     required contributions.

     The actuarial cost method used to value all benefits except pre-retirement
     death and disability benefits is the projected unit credit cost method.
     For the pre-retirement death and disability benefits, a one year term cost
     method 

                                       63
<PAGE>
 
     is used to determine the employer contribution. In the actuarial valuation,
     assumptions are made as to future compensation levels, mortality, turnover,
     etc. Unfunded accrued liabilities and actuarial experience gains and losses
     are amortized over various periods prescribed by law. Actuarial gains and
     losses are spread as a part of the valuation method. The market value of
     the net assets of the Retirement Fund exceeds the liabilities for the
     present value of accrued benefits.

     Separate actuarial valuations are not made with respect to each employer,
     nor are the plan assets so segregated.  The Bank's (formerly the
     Association's) prior service costs have been funded and are being amortized
     over a ten-year period.  Current funding costs are charged to operations.
     Total pension expense for the years ended December 31, 1997 and 1996 was $
     - 0 - for both years.

     Employee Stock Ownership Plan
     -----------------------------

     The Company has established a tax qualified employee stock ownership plan
     (ESOP) for employees of the Company and its subsidiary.  Employees who have
     attained age 21 and completed one year of service are eligible to
     participate in the plan.  On June 28, 1996, the Company loaned the ESOP
     $701,500 to finance the plan's initial purchase of 70,150 shares.  The loan
     is due and payable in ten (10) annual payments of principal and interest
     beginning December 31, 1996.  The principal is to be repaid in equal
     installments with interest at a variable rate of 1% above prime.  The
     Company intends to contribute sufficient funds to the ESOP to enable it to
     repay the loan plus such other amounts as the Company's Board of Directors
     may determine in its discretion.  The Company accounts for its ESOP in
     accordance with Statement of Position 93-6, "Employers' Accounting for
     Employee Stock Ownership Plans."  As shares are committed to be released to
     participants, the Company reports employee benefits expense based on the
     average market price of the shares during the period and the shares become
     outstanding for earnings per share computations.  Dividends on allocated
     ESOP shares are recorded as a reduction of retained earnings; dividends on
     unallocated ESOP shares are recorded as a reduction of debt.  ESOP benefits
     expense recorded during the years ended December 31, 1997 and 1996 was
     $153,762 and $98,554, respectively.
 
     The ESOP shares were as follows:

<TABLE>
<CAPTION>
                                                       1997        1996
                                                      -------     -------
<S>                                                   <C>         <C> 
                                                                
          Allocated shares                            $ 8,418     $    --
          Shares ratably released for allocation        9,821       8,418
          Unallocated shares                           51,911      61,732
                                                      -------     -------
                                                                
             Total ESOP Shares                        $70,150     $70,150
             -----------------                        =======     =======
</TABLE>

     Fair value of unreleased shares at December 31, 1997 and 1996 was $811,000
     and $744,000, respectively.

     Director Retirement Plan
     ------------------------

     In connection with the stock conversion of the Association to the Bank, the
     Board of Directors of the Association (now the Bank) has adopted a director
     retirement plan, effective December 31, 1995, for its directors who are
     members of the Board of Directors at some time on or after the plan's
     effective date.  Under the plan, a bookkeeping account in each
     participant's name is credited with "Performance Units" according to the
     following formula: (i) 70 Performance Units for each full year of service
     as a director prior to 1996 plus (ii) 100 Performance Units for each full
     year of service as a director after 1995 with the value of each Performance
     Unit equal to the average fair market value of one share of the Company's
     common stock as of December 31st of each of the three years preceding the
     determination date (or such shorter period as to which trading information
     is available).  Additional Performance Units are to be credited at the end
     of each year after 1995 based upon the amount of dividends paid on the
     Company's common stock.  A participant's vested interest in Performance
     Units credited on the plan's effective date equals 50% if the participant
     serves on the Board for less than a year after 1995, 75% after the second
     year, and 100% after the third year.  In the event a participant's service
     on the Board is terminated due to death or disability, the vested
     percentage becomes 100% regardless of the number of years of service.
     Performance Units credited after the plan's effective date are fully vested
     at all times.

                                       64
<PAGE>
 
     As of December 31, 1997 and 1996, liabilities in the amounts of $82,657 and
     $43,919, respectively, have been recognized in the financial statements
     based on the vested value of the interests in the director retirement plan
     as of these dates.  The amount of expense recognized in the financial
     statements for the years ended December 31, 1997 and 1996 was $38,738 and
     $43,919, respectively.

     Management Recognition Plan
     ---------------------------

     On January 28, 1997, the stockholders of the Company approved a management
     recognition plan ("MRP").  With funds contributed by the Company, the MRP
     has purchased, in the aggregate, 35,075 shares of the Company's common
     stock (the maximum number of shares allowed to be purchased).  Such shares
     were purchased in the open market.  In June, 1997, the MRP's administrative
     committee voted to grant awards of common stock totaling 21,917 shares to
     certain executive  officers and directors of the Company and the Bank.
     These awards are deemed to be effective as of the date of stockholder
     approval of the MRP.  Common stock granted under the MRP vests over a five
     year period at twenty percent per year. Under current accounting standards,
     when MRP awards are granted, the Company will recognize compensation
     expense based on the fair market value of the common stock on the date the
     awards are granted with such amount being amortized over the expected
     vesting period for the award.  As of December 31, 1997, 35,075 shares had
     been purchased on the open market by the MRP to fund the plan at a total
     cost of approximately $552,000.  This amount has been recorded in the
     consolidated financial statements as an increase in a contra equity
     account.  This contra equity account will be amortized to expense over the
     period over which the MRP awards become vested.  The amount of expense
     recognized in the financial statements for the year ended December 31, 1997
     was $56,254.

     Stock Option and Incentive Plan
     -------------------------------

     Also on January 28, 1997, the stockholders of the Company approved a stock
     option and incentive plan.  The option plan provides for the granting of
     stock options and stock appreciation rights to certain employees and
     directors of the Company and the Bank and has a term of ten years from the
     effective date of the plan after which no awards may be granted.  The plan
     intends to reserve 87,687 authorized, but unissued shares (or treasury
     shares) of common stock for issuance upon the future exercise of options or
     stock appreciation rights.  At the effective date of the plan, certain
     executive officers and directors of the Company and the Bank will receive a
     grant of an option under the plan to purchase up to 87,683 shares of common
     stock at an exercise price per share equal to its fair market value on that
     date.  The plan provides for one-fifth of the options granted to be
     exercisable on each of the first five anniversaries of the date the option
     was granted.  The Company applies APB Opinion 25 in accounting for its
     stock option plan.  Recognition of compensation expense for stock options
     is not required when options are granted at an exercise price equal to or
     exceeding the fair market value of the Company's common stock on the date
     the option is granted.  Therefore, no expense related to the stock option
     plan is reflected on the accompanying financial statements.

     Had compensation cost been determined on the basis of fair value pursuant
     to FASB Statement No. 123, net income and earnings per share would have
     been reduced as follows:

<TABLE>
<CAPTION>
                                            1997  
                                          --------
          <S>                             <C>     
          Net income                              
          ----------                              
           As reported                    $163,000
                                          ========
           Pro forma                      $113,000
                                          ========
                                                  
          Basic earnings per share                
          ------------------------                
           As reported                    $    .20
                                          ========
           Pro forma                      $    .14
                                          ========
                                                  
          Diluted earnings per share              
          --------------------------              
           As reported                    $    .20
                                          ========
           Pro forma                      $    .14
                                          ======== 
</TABLE>

                                       65
<PAGE>
 
     The following is a summary of the status of the stock option plan during
     1997:

<TABLE>
<CAPTION>
 
                                                                                 Weighted
                                                                                  Average
                                                               Number of         Exercise
                                                                 Price             Price
                                                               ----------      ----------    
<S>                                                            <C>             <C> 
                                                                               
Outstanding at January 1, 1997                                         --      $       --
Granted                                                            87,687       1,227,618
Exercised                                                              --              --
Forfeited                                                              --              --
                                                               ----------      ----------
                                                                               
Outstanding at December 31, 1997                                   87,687      $1,227,618
                                                               ==========      ==========
                                                                               
Options exercisable at  December 31, 1997                              --              --
                                                               ==========      ==========
                                                               
Weighted average fair value of options granted during 1997     $1,227,618
                                                               ==========
</TABLE> 
          The following is a summary of the status of options outstanding at
           December 31, 1997:

<TABLE> 
<CAPTION> 
 
                  Outstanding Options      Exercisable Options
           ------------------------------- -------------------
                     Weighted                
                     Average      Weighted            Weighted
                    Remaining     Average             Average
Exercise            Contractual   Exercise            Exercise
  Price    Number      Life        Price     Number    Price
--------   ------   -----------   --------   ------   --------

<S>        <C>      <C>             <C>      <C>      <C> 
 $14.00    87,687   9 years         $14.00       --   $   --
</TABLE>

     Employment Agreements
     ---------------------

     The Company and the Bank have entered into separate employment agreements
     with certain officers of the Company and the Bank.  These agreements
     provide for salary terms, potential severance benefits, and potential
     benefits which could be due to these officers in the event of a change in
     control of the Company.

13.  Regulatory Matters
     ------------------

     The Company is regulated by the Board of Governors of the Federal Reserve
     System ("FRB") and is subject to securities registration and public
     reporting regulations of the Securities and Exchange Commission.  The Bank
     is regulated by the Federal Deposit Insurance Corporation ("FDIC") and the
     Office of the Comptroller of the Currency ("OCC").

     The Bank is subject to the capital requirements of the FDIC and the OCC.
     The FDIC requires the Bank to maintain minimum ratios of Tier 1 capital to
     total risk-weighted assets and total capital to risk-weighted assets of 4%
     and 8%, respectively.  Tier 1 capital consists of total shareholders'
     equity calculated in accordance with generally accepted accounting
     principles less intangible assets, and total capital is comprised of Tier 1
     capital plus certain adjustments, the only one of which is applicable to
     the Bank is the allowance for possible loan losses.  Risk-weighted assets
     refer to the on- and off-balance sheet exposures of the Bank adjusted for
     relative risk levels using formulas set forth in FDIC regulations.  The
     Bank is also subject to an FDIC leverage capital requirement, which calls
     for a minimum ratio of Tier 1 capital (as defined above) to quarterly
     average total assets of 3% to 5%, depending on the institution's composite
     ratings as determined by its regulators.

                                       66
<PAGE>
 
     At December 31, 1997 and 1996, the Bank was in compliance with all of the
     aforementioned capital requirements as summarized below.

<TABLE>
<CAPTION>
                                                         December 31,
                                                     --------------------
                                                      1997         1996
                                                     -------      -------
                                                          (1,000's)
                                                     --------------------

<S>                                                  <C>          <C>
Tier I Capital:                                  
  Common stockholders' equity                        $ 9,543      $ 9,359
  Unrealized holding loss (gain) on              
   securities available-for-sale                          13           23
                                                     -------      -------
                                                 
      Total Tier I Capital                           $ 9,556      $ 9,382
      --------------------                           =======      =======
                                                 
Tier II Capital:                                 
  Total Tier I capital                               $ 9,556      $ 9,382
  Qualifying allowance for loan losses                   400          300
                                                     -------      -------
                                                 
      Total Capital                                  $ 9,956      $ 9,682
      -------------                                  =======      =======
                                                 
Risk-weighted assets                                 $35,404      $30,221
Average assets                                       $65,988      $63,780
</TABLE> 
 
<TABLE> 
<CAPTION> 
                                                                                    To be Well
                                                                                   Capitalized
                                                                                 under the Prompt
                                                               For Capital       Corrective Action
                                             Actual         Adequacy Purposes       Provisions
                                         --------------     -----------------    -----------------
                                         Amount   Ratio     Amount     Ratio     Amount      Ratio
                                         ------   -----     -------   -------    --------    -----
<S>                                      <C>      <C>       <C>       <C>        <C>         <C>  
As of December 31, 1997:
  Total Risk-Based Capital
   (to Risk-Weighted Assets)             $9,956   28.12%    $2,833       8.0%     $ 3,541     10.0%
  Tier I Capital
   (to Risk-Weighted Assets)              9,556   26.99%     1,416       4.0%       2,125      6.0%
  Tier I Capital
   (to Average Assets)                    9,556   14.48%     2,640       4.0%       3,299      5.0%
 
As of December 31, 1996:
  Total Risk-Based Capital
   (to Risk-Weighted Assets)             $9,682   32.04%    $2,417       8.0%     $ 3,022     10.0%
  Tier I Capital
   (to Risk-Weighted Assets)              9,382   31.04%     1,209       4.0%       1,813      6.0%
  Tier I Capital
   (to Average Assets)                    9,382   14.71%     2,551       4.0%       3,189      5.0%
</TABLE>

     Subject to applicable law, the Boards of Directors of the Company and the
     Bank may each provide for the payment of dividends.  Future declarations of
     cash dividends, if any, by the Company may depend upon dividend payments by
     the Bank to the Company.  Subject to regulations of the OCC, the Bank may
     not declare or pay a cash dividend if its stockholder's equity would
     thereby be reduced below either the aggregate amount then required for the
     liquidation account of the minimum regulatory capital requirements imposed
     by federal regulations.  The Bank may not declare or pay a cash dividend to
     the Company in excess of 100% of its net income to date, less dividends
     paid, during the current calendar year plus the preceding year's net
     income, less any dividends paid or declared during that year without prior
     regulatory approval.

                                       67
<PAGE>
 
     Retained earnings at December 31, 1997 include approximately $1,200,000 for
     which federal income tax has not been provided.  The Bank was allowed a
     special bad debt deduction limited generally to 8 percent of otherwise
     taxable income and subject to certain limitations based on aggregate loans
     and savings account balances at the end of the year.  If the amounts that
     qualify as deductions for federal income tax purposes are later used for
     purposes other than for bad debt losses, they will be subject to federal
     income tax at the then current corporate rate.  The unrecorded deferred tax
     liability on the above amount is approximately $450,000.

14.  Other Noninterest Income and Expense
     ------------------------------------

     Other noninterest income and expense amounts are summarized as follows:

<TABLE>
<CAPTION>
                                December 31,
                              ----------------
                              1997       1996
                              -----      ----- 
                                 (1,000's)
                              ---------------- 

<S>                           <C>        <C>
Other Noninterest Income
------------------------    
 Service charges              $ 103      $ 127
 Other                           18          8
                              -----      -----
 
  Total                       $ 121      $ 135
  -----                       =====      =====
</TABLE>

                                       68
<PAGE>
 
<TABLE>
<CAPTION>
                                         December 31,
                                       ----------------
                                       1997       1996
                                       -----      -----
                                           (1,000's)
                                       ----------------
<S>                                    <C>        <C>
Other Noninterest Expense
-------------------------
  Contributions                        $   6      $   6
  Dues and subscriptions                  10          7
  General assessment                      28         23
  Insurance and surety bond               19         20
  Payroll taxes                           41         36
  Real estate owned expense               10         14
  Other                                   46         46
  Filing fees                              9         21
  Printing                                28          1
  Conventions and meetings                 8          3
  Employee education and seminars          2         --
  Miscellaneous fees                       5          4
                                       -----      -----
 
      Total                            $ 212      $ 181
      -----                            =====      =====
</TABLE>

15.  Related Party Transactions
     --------------------------

     Officers and directors of the Company and the Bank, and individuals related
     to such individuals, incurred indebtedness in the form of loans as
     customers.  These loans were made on substantially the same terms,
     including interest rates and collateral, as those prevailing at the time
     for comparable transactions with other customers and did not involve more
     than the normal risk of collectibility.  The balance of these loans at
     December 31, 1997 and 1996, totaled approximately $585,000 and $542,000,
     respectively.

<TABLE>
<CAPTION>
                                          December 31,
                                       -----------------
                                       1997        1996
                                       -----       -----
                                           (1,000's)
                                       ----------------- 
<S>                                    <C>         <C>
           
           Balance at January 1        $ 542       $ 432
           
             New Loans                   112         428
             Payments                    (69)       (318)
                                       -----       -----
           
           Balance at December 31      $ 585       $ 542
                                       =====       =====
</TABLE>

     The Bank's subsidiary purchased the former residence of the Bank's current
     president during July, 1995 for $118,000.  This transaction was approved by
     both the Office of Thrift Supervision and the Federal Deposit Insurance
     Corporation.  The property was sold in May, 1996 for gross proceeds of
     $112,000.

     The above transaction was made on substantially the same terms and
     conditions as those for comparable third-party transactions.

16.  Deferred Compensation
     ---------------------

     The Company has an agreement with certain directors to invest a part of
     current directors fees.  These fees are held in Company accounts at the
     Bank's highest certificate rate until the permanent disability,
     resignation, or removal from office of the director, at which time the fees
     are payable in either a lump sum or on a monthly installment basis as
     directed by an election made by the director.

                                       69
<PAGE>
 
     The total liability is $65,000 and $61,000 for the years ended December 31,
     1997 and 1996, respectively.  A $10,000 payment was made from the accounts
     during 1996.  Deferred compensation contributions charged to income for the
     years ended December 31, 1997 and 1996 were $ - 0 - for both years.

17.  Commitments and Contingencies
     -----------------------------

     The Bank is, in the normal course of business, a party to certain off-
     balance-sheet financial instruments with inherent credit risk.  These
     instruments, which include commitments to extend credit and standby letters
     of credit, are used by the Bank to meet the financing needs of its
     customers.  These instruments involve, to varying degrees, credit risk in
     excess of the amount recognized in the Company's statements of financial
     condition.

     Financial instruments with off-balance-sheet credit risk for which the
     contract amounts represent potential risk were as follows:

<TABLE>
<CAPTION>
                                                          December 31,
                                           ------------------------------------------  
                                                  1997                    1996
                                                  ----                    ----   
                                                            (1,000s)
                                           ------------------------------------------
                                                       Interest            Interest          
                                            Amount       Rate     Amount      Rate
                                           -------   -----------  ------   ----------
<S>                                          <C>     <C>           <C>     <C>
                                                                        
Commitments to extend credit - Fixed         $ 113   8.75%-9.50%   $ 349   8.00%-8.75%
                             - Variable         45      7.88%        579       7.13%
                                             -----                 -----
                                                                        
 Total                                       $ 158                 $ 928
 -----                                       =====                 =====
</TABLE>

     The Company's maximum exposure to credit loss under commitments to extend
     credit and standby letters of credit is the equivalent of the contractual
     amount of those instruments.  The same credit policies are used by the
     Company in granting commitments and conditional obligations as are used in
     the extension of credit.

     The commitments noted above consist of loans approved by the Bank with the
     funds not yet being disbursed.  Commitments to extend credit are legally
     binding agreements to lend to a borrower as long as the borrower performs
     in accordance with the terms of the contract.  Commitments generally have
     fixed expiration dates or other termination clauses.  As a portion of the
     commitments may expire without being drawn upon, the total commitment
     amount does not necessarily represent future cash requirements.

     Standby letters of credit are commitments issued by the Bank to guarantee
     the specific performance of a customer to a third party.  At December 31,
     1997 and 1996, the Bank had no such commitments outstanding.

     Collateral may be required by both commitments and standby letters of
     credit in accordance with the normal credit evaluation process based upon
     the creditworthiness of the customer and the credit risk associated with
     the particular transaction.  Collateral held varies but may include
     residential and commercial real estate, accounts receivable, inventory and
     equipment.

     The Company is involved in various litigation arising in the ordinary
     course of business.  In the opinion of management, at the present time,
     disposition of the suits and claims will not have a material effect on the
     financial position of the Company.

18.  Significant Group Concentration of Credit Risk
     ----------------------------------------------

     Most of the Bank's business activity is with customers located within
     Williamson, Jackson, and Franklin counties in Illinois.  At December 31,
     1997 and 1996, the Bank was considered to have a significant concentration
     of credit risk for loans made to various local churches.  Loans made to
     various churches total $1,735,000 and $1,875,000 

                                       70
<PAGE>
 
     at December 31, 1997 and 1996, respectively. This comprises 4% of the total
     loan portfolio and 14% of tangible capital at December 31, 1997.

19.  Liquidation Account
     -------------------

     At the time of the conversion from mutual to stock form, the Bank
     established a liquidation account for the benefit of eligible savings
     account holders who continue to maintain their savings accounts with the
     Bank after conversion.  In the event of a complete liquidation of the Bank
     (and only in such event), eligible savings account holders who continue to
     maintain their accounts with the Bank shall be entitled to receive a
     distribution from the liquidation account after payment to all creditors
     but before any liquidation distribution with respect to common stock.  The
     initial liquidation account will be proportionately reduced for any
     subsequent reduction in the eligible holder's deposit accounts.  The
     creation and maintenance of the liquidation account will not restrict the
     use or application of any of the capital accounts of the Company, except
     that the Company may not declare or pay a cash dividend on, or repurchase
     any of, its capital stock if the effect of such dividend or repurchase
     would be to cause the Company's equity to be reduced below the aggregate
     amount then required for the liquidation account or the amount required by
     federal or state law.

20.  Fair Value of Financial Instruments
     -----------------------------------

     The following methods and assumptions were used by the Company in
     estimating fair values of financial instruments as disclosed herein:

     Cash and cash equivalents and certificates of deposit - The carrying amount
     of cash and short-term instruments approximate their fair value.

     Securities held-to-maturity and securities available-for-sale - Fair values
     for investment securities, excluding restricted equity securities, are
     based on quoted market prices.  The carrying values of restricted equity
     securities approximate fair values.

     Loans receivable and loan commitments - For variable-rate loans that
     reprice frequently and have no significant change in credit risk, fair
     values are based on carrying values.  Fair values for certain mortgage
     loans (e.g., one-to-four family residential), other consumer loans,
     commercial real estate and commercial loans are estimated using discounted
     cash flow analyses, using interest rates currently being offered for loans
     with similar terms to borrowers of similar credit quality.  Fair values for
     impaired loans are estimated using discounted cash flow analyses or
     underlying collateral values, where applicable.

     Investments required by law - Stock in Federal Home Loan Bank and stock in
     Federal Reserve Bank are valued at cost which represents redemption value
     and approximates fair value.

     Deposit liability - The fair values disclosed for demand deposits are, by
     definition, equal to the amount payable on demand at the reporting date
     (that is, their carrying amounts).  The carrying amounts of variable-rate,
     fixed-term money market accounts and certificates of deposit approximate
     their fair values at the reporting date.  Fair values for fixed-rate
     certificates of deposit are estimated using a discounted cash flow
     calculation that applies interest rates currently being offered on
     certificates to a schedule of aggregated expected monthly maturities on
     time deposits.

     Accrued interest - The carrying amounts of accrued interest approximate
     their fair values.

     Short-term borrowings - As a result of the short-term nature of these
     instruments, the carrying amount approximates their fair value.

                                       71
<PAGE>
 
     The Company, in accordance with SFAS No. 107, has estimated fair values of
     the financial instruments as follows:

<TABLE>
<CAPTION>
                                                December 31,           December 31,
                                                    1997                  1996
                                           --------------------    -------------------
                                                  (1,000's)             (1,000's)
                                           --------------------    -------------------
                                           Carrying      Fair      Carrying     Fair
                                            Amount       Value      Amount      Value
                                           --------     -------    --------    -------
<S>                                         <C>         <C>         <C>        <C>
Financial Assets:
  Cash and cash equivalents                 $ 4,970     $ 4,970     $ 1,872    $ 1,872
 
  Certificates of deposit                        95          95         293        293
 
  Investment securities and mortgage-
   backed and related securities             14,327      14,308      20,615     20,488
 
  Loans                                      46,707      45,839      41,766     42,140
  Allowance for loan losses                    (400)         --        (300)        --
                                            -------     -------     -------    -------
 
  Loans, net of allowance                    46,307      45,839      41,466     42,140
 
  Investments required by law                   577         577         489        489
 
  Accrued interest receivable                   292         292         316        316
 
Financial Liabilities:
  Deposits                                   54,022      54,145      52,832     52,994
 
  Accrued interest on deposits                   63          63          49         49
 
  Short-term borrowings                         750         750          --         --
 
Loan Commitments                                158         158         928        939
</TABLE>

21.  Parent Company Financial Information
     ------------------------------------

     The following are condensed balance sheets as of December 31, 1997 and 1996
     and condensed statements of income and cash flows for the periods ended
     December 31, 1997 and 1996 for Heartland Bancshares, Inc. (parent company
     only):

                           Condensed Balance Sheets
                           ------------------------

<TABLE>
<CAPTION>
                                                               December 31,
                                                             1997       1996
                                                            ------     ------
                                                                (1,000's)
                                                            -----------------
<S>                                                         <C>        <C>
Assets:
  Cash                                                      $  439     $  447
  Investment securities and mortgage-backed securities       2,104      2,745
  Investment in subsidiary                                   4,694      4,479
  Other assets                                                 233        108
                                                            ------     ------
      Total Assets                                          $7,470     $7,779
                                                            ======     ======
 
Liabilities and Stockholders' Equity:
  Other liabilities                                         $  175     $   12
  Stockholders' equity                                       7,295      7,767
                                                            ------     ------
 
      Total Liabilities and Stockholders' Equity            $7,470     $7,779
                                                            ======     ======
</TABLE>

                                       72
<PAGE>
 
                        Condensed Statements of Income
                        ------------------------------

<TABLE>
<CAPTION>
                                                       December 31,
                                                     1997       1996
                                                    -----       -----
                                                        (1,000's)
                                                    -----------------

<S>                                                 <C>      <C>
Interest income                                     $ 245       $  74
Interest expense                                       --          --
Other                                                   4          --
                                                    -----       -----
 
                                                    $ 249       $  74
Operating expenses                                    337          90
                                                    -----       -----
 
  Income (loss) before income taxes and equity
   in undistributed earnings of subsidiary          $ (88)      $ (16)
Income tax expense (benefit)                          (46)         (1)
                                                    -----       -----
 
  Income (loss) before equity in undistributed
   earnings of subsidiary                           $ (42)      $ (15)
Equity in undistributed earnings of subsidiary        205         380
                                                    -----       -----
 
      Net Income                                    $ 163       $ 365
                                                    =====       =====
</TABLE>

                      Condensed Statements of Cash Flows
                      ----------------------------------

<TABLE>
<CAPTION>
                                                       December 31,
                                                     1997       1996
                                                    -----       -----
                                                        (1,000's)
                                                    -----------------

<S>                                                 <C>      <C>
 
Operating activities:
  Net income                                        $ 163     $   365
  Equity in undistributed earnings of subsidiary     (205)       (380)
  Other, net                                          271         (19)
                                                    -----     -------
      Net Cash Used in Operating Activities         $ 229     $   (34)
                                                    -----     -------
                                                                     
Investing activities:                                                
  Capital contributions to subsidiary               $  --     $(4,074)
  Net (increase) decrease in investment securities    641      (2,730)
                                                    -----     -------
                                                                     
      Net Cash Used in Investing Activities         $ 641     $(6,804)
                                                    -----     -------
                                                                     
Financing activities:                                                
  Proceeds from issuance of stock                   $  --     $ 7,446
  Dividends paid                                     (326)       (161)
  Shares acquired by management recognition plan     (552)         --
                                                    -----     -------
                                                                     
      Net Cash Provided by Financing Activities     $(878)    $ 7,285
                                                    -----     -------
                                                                     
      Net Change in Cash and Cash Equivalents       $  (8)    $   447
                                                                     
Cash and Cash Equivalents at Beginning of Year        447          --
                                                    -----     -------
Cash and Cash Equivalents at End of Year            $ 439     $   447
                                                    =====     ======= 
</TABLE>

                                       73
<PAGE>
 
22.  Short-Term Borrowings
     ---------------------

     The following information relates to the short-term borrowings of the
     Company for the years ended December 31, 1997 and 1996.

<TABLE>
<CAPTION>
                                                              December 31,
                                                            1997        1996
                                                           ------       -----
                                                                (1,000's)
                                                           ------------------

<S>                                                        <C>          <C>
     Federal Home Loan Bank borrowings:
       Balance at year end                                 $  750       $  --
     
       Weighted average interest rate at year end            5.86%         --%
     
       Average amount outstanding during the year          $1,375       $  --
     
       Maximum amount outstanding at any month             $1,750       $  --
     
       Weighted average interest rate during the year        5.69%         --%
</TABLE>

     Short-term borrowings consisted of borrowings from the Federal Home Loan
     Bank with maturities greater than one business day.


23.  Earnings per Share
     ------------------

     The following data shows the amounts used in computing earnings per share
     and the effect on income and the weighted average number of shares of
     dilutive potential common stock.

<TABLE>
<CAPTION>
                                                               1997       1996
                                                             --------   --------
<S>                                                        <C>          <C>
 
     Income available to common stockholders
       used in basic EPS                                   $163,000     $365,000
                                                           ========     ========
                                                                                
     Income available to common stockholders                                    
      after assumed conversions of dilutive                                     
      securities                                           $163,000     $365,000
                                                           ========     ========
                                                                                
     Weighted average number of common shares                                   
      used in basic EPS                                     819,736      810,252
                                                                                
     Effect of dilutive securities:                                             
       Stock options                                          7,784           --
                                                           --------     --------
                                                                                
     Weighted number of common shares and dilutive                              
      potential common stock used in diluted EPS            827,520      810,252
                                                           ========     ========
</TABLE>

     Earnings per share amounts for 1996 have been restated to give effect to
     the application of SFAS No. 128 which was adopted by the Company in 1997.
     There was no effect of the restatement on earnings per share for 1996.

                                       74
<PAGE>
 
ITEM 8.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
------------------------------------------------------------------------
         FINANCIAL DISCLOSURE
         --------------------

     Not applicable.

                                    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 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 1998
Annual Meeting of Stockholders (the "Proxy Statement") is incorporated herein by
reference.

     Information regarding executive officers of the Company is incorporated by
reference to the section captioned "Proposal I -- Election of Directors --
Executive Officers Who Are Not Directors" in the Proxy Statement.


ITEM 10.  EXECUTIVE COMPENSATION
--------------------------------

     The information contained under the section captioned "Proposal I --
Election of Directors -- Executive Compensation and Other Benefits" 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 in "Security Ownership of Certain Beneficial
          Owners and Management" 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 Certain Beneficial
          Owners and Management" and "Proposal I -- Election of Directors" 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.

                                       75
<PAGE>
 
                                    PART IV

ITEM 13.  EXHIBITS, LIST AND REPORTS ON FORM 8-K
------------------------------------------------

(a)  Exhibits.  The exhibits required by Item 601 of Regulation S-B are either
     --------                                                                 
     filed as part of this Annual Report on Form 10-KSB or incorporated herein
     by reference.  The following is a list of exhibits filed as part of this
     Annual Report on Form 10-KSB and is also the Exhibit Index.

<TABLE>
<CAPTION>
          NO.     EXHIBITS
          ---     --------
<S>     <C>       <C>
 
 *       3.1      Articles of Incorporation of Heartland Bancshares, Inc.
 
 *       3.2      Bylaws of Heartland Bancshares, Inc.
 
+*      10.1      Heartland Bancshares, Inc. 1996 Stock Option and Incentive Plan
 
+*      10.2      Heartland Bancshares, Inc. Management Recognition Plan
 
+*      10.3(a)   Employment Agreements by and between Heartland National
                  Bank and Roger O. Hileman, Christy L. Cripps and Ronald D. Maddox
 
+*      10.3(b)   Employment Agreements by and between Heartland Bancshares,
                  Inc. and Roger O. Hileman, Christy L. Cripps and Ronald D. Maddox
 
+*      10.4      First Federal Savings and Loan Association of Herrin
                  Retirement Plan for Directors

        21        Subsidiaries of the Registrant

        23        Consent of Gray Hunter Stenn LLP

        27        Financial Data Schedule
</TABLE> 

-------------------------
*    Incorporated by reference to the Company's Registration Statement on Form
     SB-2 (File No. 333-798)
+    Management contract or compensatory plan.



(b)  Reports on Form 8-K.  No Reports on Form 8-K were filed by the Company
     -------------------                                                   
     during the last quarter of the fiscal year covered by this report.

                                       76
<PAGE>
 
                                   SIGNATURES

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


                                     HEARTLAND BANCSHARES, INC.

March 12, 1998                       By: /s/ Roger O. Hileman
                                         --------------------------------------
                                         Roger O. Hileman
                                         President and Chief Executive Officer
                                         (Duly Authorized Representative)


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

 
 
By:      /s/ Roger O. Hileman                                    March 12, 1998
         ------------------------------
         Roger O. Hileman
         President, Chief Executive Officer and Director
         (Principal Executive, Financial and Accounting Officer)
 
By:      /s/ James C. Walker                                     March 12, 1998
         ------------------------------
         James C. Walker
         Chairman of the Board
 
 
By:      /s/ Paul R. Calcaterra                                  March 12, 1998
         ------------------------------
         Paul R. Calcaterra
         Director
 
 
By:      /s/ B. D. Cross                                         March 12, 1998
         ------------------------------
         B. D. Cross
         Director


By:      /s/ Charles Stevens                                     March 12, 1998
         ------------------------------
         Charles Stevens
         Director


By:      /s/ Randall A. Youngblood                               March 12, 1998
         ------------------------------
         Randall A. Youngblood
         Director

                                       77