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                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

[X]     ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
        EXCHANGE ACT OF 1934

        For the Fiscal Year Ended December 31, 2001      OR

[_]     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
        EXCHANGE ACT OF 1934

                        Commission File Number: 005-57091

                          FIRST MUTUAL BANCSHARES, INC.
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             (Exact name of registrant as specified in its charter)


       State of Washington                                91-2005970
---------------------------------                      ----------------
  (State or other jurisdiction                         (I.R.S. Employer
of incorporation or organization)                     Identification No.)


400 108th Avenue N.E., Bellevue, Washington                          98004
-------------------------------------------                        ----------
 (Address of principal executive offices)                          (Zip Code)


Registrant's telephone number, including area code               (425) 455-7300
                                                                 --------------

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 $1.00 per share
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                                (Title of Class)

     Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]

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

     As of March 8, 2002, there were issued and outstanding 4,730,966 shares of
the registrant's common stock. The aggregate market value of the voting stock
held by non-affiliates (2,244,398 shares) of the registrant was $30,523,813
based on the closing sales price of the registrant's common stock as quoted on
the Nasdaq National Market System which on March 8, 2002 was $13.60.


                       DOCUMENTS INCORPORATED BY REFERENCE

     1. Portions of the Annual Report to Shareholders for the fiscal year ended
        December 31, 2001 are incorporated by reference in Parts 1, 2 and 3.

     2. Portions of the Proxy Statement dated March 8, 2002 for the 2002 Annual
        Meeting of Shareholders are incorporated by reference in Parts 2 and 3.
================================================================================
<PAGE>

FORWARD-LOOKING STATEMENTS
--------------------------

     This Form 10-K Report contains statements concerning future operations,
trends, expectations, plans, capabilities, and prospects of First Mutual
Bancshares, Inc. and First Mutual Bank (together, the "Company") that are
forward-looking statements for purposes of the safe harbor provisions under the
Private Securities Litigation Reform Act of 1995. Such forward-looking
statements include statements referring to our expectations regarding future
interest rate margins, loan quality, business and asset volume, growth
opportunities, branch office expansion, anticipated increase / decrease in fee
income and other non-operating income, expectations related to operating
expenses. The outlook for deposit growth and funding sources, and observations
pertaining to the potential disparate movement of assets and liabilities.
Although the Company believes that the expectations expressed in these
forward-looking statements are based on reasonable assumptions within the bounds
of its knowledge of its business, operations, and prospects, these
forward-looking statements are subject to numerous uncertainties and risks, many
of which are beyond the control of the Company, and actual events, results, and
developments will ultimately differ from the expectations and may differ
materially from those expressed or implied in such forward-looking statements.
Factors which could affect actual results include economic conditions in the
Company's market area and the nation as a whole, interest rate fluctuations, the
impact of competitive products, services and pricing, credit risk management,
the ability of the Company to control its costs and expenses, loan delinquency
rates, and the legislative and regulatory changes affecting the banking
industry. There are other risks and uncertainties that could affect the Company
which are discussed from time to time in the filings made by the Company with
the Securities and Exchange Commission. These risks and uncertainties should be
considered in evaluating the forward-looking statements, and undue reliance
should not be placed on such statements. The Company shall not be responsible to
update any such forward-looking statements.
<PAGE>
                                     PART I

ITEM 1. BUSINESS
----------------

(a)  General

     First Mutual Bancshares, Inc. (the "Company") is a Washington corporation,
which was formed for the purpose of becoming the bank holding company for First
Mutual Bank ("First Mutual" or the "Bank"). The Banks reorganization was
completed on October 26, 1999, on which date the Bank became the wholly-owned
subsidiary of the Company, and the stockholders of the Bank became stockholders
of the Company. Prior to completion of the reorganization, the Company had no
material assets or liabilities and engaged in no business activities. Subsequent
to the reorganization, the Company has engaged in no significant activity other
than holding the stock of the Bank and engaging in certain passive investment
activities. This discussion refers to the consolidated statements of the Company
and the Bank and therefore the references to "Bank" in this discussion refers to
both entities.

     First Mutual Bank was incorporated as a Washington state-chartered mutual
savings bank in 1968 known as First Mutual Savings Bank and was the successor to
Eastside Savings and Loan Association, which was organized in 1952 and commenced
operations in 1953. The Bank converted from mutual to stock form through the
sale and issuance of 966,000 shares of Common Stock in December 1985. In
connection with the holding company reorganization, the Bank changed its name to
First Mutual Bank. Effective June 2000, the Federal Reserve Bank approved the
election for the Company to become a financial holding company. The Bank is
subject to regulation by the State of Washington Department of Financial
Institutions and the Federal Deposit Insurance Corporation ("FDIC"). The Company
is subject to regulation by the Federal Reserve Board.

     The business of the Bank consists of attracting deposits from the general
public as well as wholesale funding sources and investing those funds primarily
in commercial and residential real estate loans, business loans, loans secured
by savings accounts, and consumer loans. The Bank also invests in federal
government and agency obligations; structured notes; real estate mortgage
investment conduits ("REMICs"); mortgage-backed securities; and corporate and
municipal securities. In addition to portfolio lending, the Bank conducts
mortgage banking activities, that encompasses the selling of primarily
fixed-rate loans into the secondary mortgage market. The Bank generally sells
the right to service the loans sold (I.E., collection of principal and interest
payments) for which it receives a fee.

     The principal sources of funds for the Bank's lending and investment
activities are deposits, repayment of loans, loan sales and Federal Home Loan
Bank ("FHLB") of Seattle advances. The Bank's primary sources of income are
interest on loans, gains on sales of loans, loan servicing rights, and
investment securities, service-charge income on deposit accounts and interest
and dividends on investment securities. Its principal expenses are interest paid
on deposits and borrowings, and general and administrative costs.

     The Bank's savings and lending operations are conducted through eleven
full-service facilities located in Bellevue (3), Kirkland (2), Redmond, Seattle
(2), Issaquah, Bellingham, and Monroe. The Bank also has an income property loan
production office located in Tacoma, Washington and a consumer loan office
located in Jacksonville, Florida. The Bank's main office is located at 400 108th
Avenue N.E., Bellevue, Washington. See "Item 2. - Properties" herein for
additional information on the Bank's facilities.


                                        1
<PAGE>
LENDING ACTIVITIES
------------------
     GENERAL. The Bank's loan portfolio and loans held-for-sale totaled $567.6
million at December 31, 2001 (loans held-for-sale totaled $4.5 million of this
amount). On that date before deductions, $83.9 million, or 15%, of total
outstanding loans, including loans held-for-sale, consisted of loans secured by
one-to-four-unit residential properties; $174.1 million, or 31%, consisted of
loans secured by mortgages on over-four-unit residential properties;
construction loans constituted $84.2 million, or 15%; and $200.7 million, or
35%, consisted of commercial real estate loans. The balance of the Bank's
outstanding loans was comprised of consumer and business loans. (See table on
next page)

     The Bank's principal lending activities have focused on the origination of
conventional permanent loans on residential and commercial real estate. Total
loans originated were $310.4 million and $211.1 million for the years ended
December 31, 1999 and 2000, respectively, and $323.1 million for the year ended
December 31, 2001.

     In order to maintain the interest rate sensitivity of its loan portfolio
and investments, the Bank places an emphasis on the origination of
adjustable-rate mortgage loans on residential and commercial properties, and
construction, business, and consumer loans at interest rates subject to periodic
adjustment based upon the prevailing Prime rate. At December 31, 2001, $499.0
million, or 88% of net loans receivable, including loans held-for-sale, were
comprised of loans that were other than long-term, fixed-rate mortgage loans.
This amount consists of $53.3 million in residential mortgage loans with rates
adjustable at periods ranging from one to five years, $377.1 million in business
loans and loans secured by income-producing and multifamily residential
properties, $52.6 million in net construction loans, and $16.0 million in
consumer loans.

     The following tables provide selected data relating to the composition of
the Bank's loan portfolio by type of loan and type of security on the dates
indicated.
<TABLE><CAPTION>
                                                                           At December 31,
                                  -------------------------------------------------------------------------------------------------
                                          2001                2000                1999                1998                1997
                                  -----------------   -----------------   -----------------   -----------------   -----------------
                                   Amount    Percent   Amount    Percent   Amount    Percent   Amount    Percent   Amount    Percent
                                  ---------  ------   ---------  ------   ---------  ------   ---------  ------   ---------  ------
<S>                               <C>        <C>      <C>        <C>      <C>        <C>      <C>        <C>      <C>        <C>
                                                                        (Dollars in Thousands)
TYPE OF LOAN:
Conventional Real
  Estate Loans:
    Interim construction loans... $  84,245   14.84%  $ 103,727   21.19%  $  72,906   16.05%  $  60,641   15.67%  $  44,494   12.35%
    Loans on existing property...   250,038   44.05     198,240   40.49     186,632   41.07     160,068   41.37     139,846   38.81
    Loans refinanced.............   208,383   36.72     196,089   40.05     204,630   45.03     174,691   45.15     183,165   50.83
Insured or guaranteed real
  estate loans...................       244    0.04         257    0.05         275    0.06         320    0.08         604    0.17
Consumer loans & other...........    42,488    7.49      34,219    6.99      24,435    5.38      17,465    4.52      11,831    3.28
Business loans...................    11,995    2.11       5,033    1.03       3,347    0.74       2,629    0.68       1,583    0.44
Less -
    Loans in process.............   (22,270)  (3.92)    (40,087)  (8.19)    (29,959)  (6.59)    (21,765)  (5.63)    (14,934)  (4.14)
    Reserve for loan losses......    (7,032)  (1.24)     (6,729)  (1.37)     (6,309)  (1.39)     (5,569)  (1.44)     (4,858)  (1.35)
    Deferred loan fees and
      other discounts............      (537)  (0.09)     (1,198)  (0.24)     (1,576)  (0.35)     (1,574)  (0.40)     (1,400)  (0.39)
                                  ---------  ------   ---------  ------   ---------  ------   ---------  ------   ---------  ------
TOTAL............................ $ 567,554  100.00%  $ 489,551  100.00%  $ 454,381  100.00%  $ 386,906  100.00%  $ 360,331  100.00%
                                  =========  ======   =========  ======   =========  ======   =========  ======   =========  ======
</TABLE>
                                        2
<PAGE>
<TABLE><CAPTION>
                                                                           At December 31,
                                  -------------------------------------------------------------------------------------------------
                                          2001                2000                1999                1998                1997
                                  -----------------   -----------------   -----------------   -----------------   -----------------
                                   Amount    Percent   Amount    Percent   Amount    Percent   Amount    Percent   Amount    Percent
                                  ---------  ------   ---------  ------   ---------  ------   ---------  ------   ---------  ------
<S>                               <C>        <C>      <C>        <C>      <C>        <C>      <C>        <C>      <C>        <C>
                                                                        (Dollars in Thousands)
TYPE OF SECURITY:
Residential:
    One-to-four-family........... $  83,887   14.78%  $  74,359   15.19%  $  96,418   21.22%  $  95,807   24.76%  $ 117,285   32.55%
    Multifamily..................   174,062   30.66     160,297   32.74     148,354   32.65     118,015   30.50     101,317   28.12
Construction.....................    84,245   14.84     103,727   21.19      72,906   16.04      60,641   15.67      44,494   12.35
Commercial real estate...........   200,716   35.37     159,930   32.66     146,765   32.30     121,257   31.34     105,013   29.14
Consumer loans & other...........    42,488    7.49      34,219    6.99      24,435    5.38      17,465    4.52      11,831    3.28
Business loans...................    11,995    2.11       5,033    1.03       3,347    0.74       2,629    0.68       1,583    0.44
Less -
    Loans in process.............   (22,270)  (3.92)    (40,087)  (8.19)    (29,959)  (6.59)    (21,765)  (5.63)    (14,934)  (4.14)
    Reserve for loan losses......    (7,032)  (1.24)     (6,729)  (1.37)     (6,309)  (1.39)     (5,569)  (1.44)     (4,858)  (1.35)
    Deferred loan fees and
      other discounts............      (537)  (0.09)     (1,198)  (0.24)     (1,576)  (0.35)     (1,574)  (0.40)     (1,400)  (0.39)
                                  ---------  ------   ---------  ------   ---------  ------   ---------  ------   ---------  ------
TOTAL............................ $ 567,554  100.00%  $ 489,551  100.00%  $ 454,381  100.00%  $ 386,906  100.00%  $ 360,331  100.00%
                                  =========  ======   =========  ======   =========  ======   =========  ======   =========  ======
</TABLE>

     LOAN MATURITY. The following table sets forth certain information at
December 31, 2001, regarding the dollar amount of loans maturing based on their
contractual terms to maturity or repricing. Demand loans, loans having no stated
schedule of repayments and no stated maturity are reported as due in one year or
less. Loan balances exclude unearned discounts, deferred loan origination fees,
and allowance for loan losses.
<TABLE><CAPTION>
                                      Due       2 Years     3 Years
                                    Within      Through     Through
                                   One Year     3 Years     5 Years     After 5
                                     From        After       After       Years
                                   December     December    December    Through     Beyond
                                   31, 2001     31, 2001    31, 2001   10 Years    10 Years      Total
                                   ---------   ---------   ---------   ---------   ---------   ---------
<S>                                <C>         <C>         <C>         <C>         <C>         <C>
                                                               (In Thousands)
Conventional Real Estate Loans:
  Interim construction loans...... $  61,975   $      --   $      --   $      --   $      --   $  61,975
  Loans on existing property......   194,023      35,229      10,730       1,571       8,485     250,038
  Loans refinanced................   161,702      29,359       8,942       1,309       7,071     208,383
  Insured or guaranteed real
    estate loans..................       173          --          --          --          71         244
  Consumer loans..................    17,082       1,658       4,555      14,986       4,207      42,488
  Business loans..................     9,772          81         589       1,553          --      11,995
                                   ---------   ---------   ---------   ---------   ---------   ---------
Total Loans......................  $ 444,727   $  66,327   $  24,816   $  19,419   $  19,834   $ 575,123
                                   =========   =========   =========   =========   =========   =========
</TABLE>

     The following table sets forth the dollar amount of all loans, categorized
by fixed interest rates and floating or adjustable interest rates. Loan balances
exclude unearned discounts, deferred loan origination fees, and allowance for
loan losses.

                                        3
<PAGE>
<TABLE><CAPTION>
                                        Due Within
                              One Year From December 31, 2001           Due After December 31, 2002
                             ---------------------------------       ---------------------------------
                               Fixed     Adjustable                    Fixed     Adjustable
                               Rates       Rates       Total           Rates       Rates       Total
                             ---------   ---------   ---------       ---------   ---------   ---------
<S>                          <C>         <C>         <C>             <C>         <C>         <C>
                                                          (In Thousands)

Mortgage loans.............  $  23,630   $ 394,242   $ 417,872       $  19,368   $  83,401   $ 102,769
Consumer loans.............        467      16,616      17,083          25,405          --      25,405
Business loans.............        498       9,274       9,772              --       2,222       2,222
                             ---------   ---------   ---------       ---------   ---------   ---------
     Total.................  $  24,595   $ 420,132   $ 444,727       $  44,773   $ 85,620    $ 130,396
                             =========   =========   =========       =========   =========   =========
</TABLE>

     RESIDENTIAL LOANS. At December 31, 2001, approximately 15% of the Bank's
total loan portfolio, including loans held-for-sale, consisted of loans secured
by one-to-four-unit family dwellings located within the States of Washington,
Oregon, and Idaho.

     The Bank's lending policies generally limit the maximum loan-to-value ratio
on residential mortgage loans to 97% of the appraised value as determined by an
independent appraiser, with the condition that private mortgage insurance is
required on home loans with loan-to-value ratios in excess of 80%.

     The loan-to-value ratio, maturity, and other provisions of the loans made
by the Bank generally have reflected the policy of making less than the maximum
loan permissible in accordance with sound lending practices, market conditions,
and underwriting standards established by the Bank. Mortgage loans made by the
Bank are generally long-term loans, amortized on a monthly basis, with principal
and interest due each month. The initial contractual loan payment period for
residential loans typically ranges from five to 30 years. The Bank's experience
indicates that real estate loans remain outstanding for significantly shorter
periods than their contractual terms. Borrowers may refinance or prepay loans at
their option, subject to prepayment penalty provisions when included in the
note.

     The Bank offers one-year, two-year, three-year, five-year, seven-year and
ten-year loans with limitations on adjustments of two percent in any one year
with a maximum lifetime interest rate adjustment of between four and six
percent. The Bank also offers fixed-rate loans, which it originates for sale in
the secondary market. Since 1982, the Bank has generally followed a policy of
not originating fixed-rate mortgages for its own portfolio.

     All improved real estate which serves as security for a loan to the Bank
must be insured by such companies as may be approved by the Bank against fire,
extended coverage, vandalism, malicious mischief, and other hazards. Such
insurance must be maintained throughout the term of the loan and in an amount
not less than that amount necessary to meet the replacement cost of the property
structures, subject to insurance carrier limits.

     CONSTRUCTION AND COMMERCIAL REAL ESTATE LOANS. First Mutual's real estate
loan portfolio also includes loans on multifamily housing (over four units),
construction loans (residential, commercial, and multifamily), and commercial
loans.


                                        4
<PAGE>
     Multifamily loans are generally made in amounts between $500,000 and $2.0
million and at December 31, 2001, the largest multifamily loan was for $4.1
million. As of December 31, 2001, multifamily loans were $174.1 million, or 31%,
of the loan portfolio as compared to $160.3 million, or 33%, in 2000.

     The Bank provides interim (construction) financing for residential and
commercial property development. At December 31, 2001, the Bank had $84.2
million in construction loans of which $62.0 million was disbursed. These loans
constituted 11% of the loan portfolio.

     Single-family construction loans are further designated by the Bank into
two categories -- speculative and custom. Speculative (spec) construction loans
are approved for builder-developers who generally first build the residence and
then sell the property to the end buyer. Those loans typically are made for a
12-month period, which may be extended subject to negotiation and the payment of
an extension fee. Interest rates on spec loans are tied to the Prime rate and
are adjusted when the Prime rate changes. At the present time, rates quoted
range from 1.0% to 2.0% above the prevailing Prime rate and are dependent upon
the type of loan and its terms.

     Custom construction loans are originated directly to the borrower. The
builder, which the borrower has contracted with to build the residence, must be
approved by the Bank. The Bank oversees the disbursement of construction funds
to the borrower and builder. These loans generally have 30- or 15-year terms
with the construction period ranging from six- to 12 months, with interest
collected monthly based upon the disbursed balance of the loan. At the end of
the construction period the terms of payment are modified to fully amortize the
loan balance over the subsequent 30- or 15-year term.

     The loan programs and interest rates offered for custom construction loans
are typically the same as those offered for other one-to-four family residential
loans. The fee structure for custom construction loans is 1% - 2% higher than
that assessed other single-family loans with similar terms and conditions. The
additional loan fee compensates the Bank for the extra cost and interest rate
risk associated with this type of lending.

     At December 31, 2001, commercial real estate loans (excluding multifamily
and construction loans) constituted $200.7 million, or approximately 35% of
First Mutual's loan portfolio. These loans are typically secured by office
buildings, warehouse, commercial and retail centers located in the Bank's
primary lending area in the Greater Puget Sound area and Western Oregon.
Permanent commercial real estate loans are normally made up to 75% of the
appraised value of the property and generally have interest rates which are
adjusted annually based on the short-term FHLB of Seattle's advance rate plus a
spread ranging from 3.00% to 4.00%.

     Income property loans, consisting of multifamily, construction, and
commercial real estate loans, totaled $406.6 million at December 31, 2001. That
figure compares to $369.0 million at year-end 2000 and $326.8 million at
year-end 1999. The increase in income property loans of $79.8 million, or 24%,
over a two-year period is the result of an emphasis on income property lending.

     Income property real estate financing the generally considered to involve a
somewhat higher degree of credit risk than the financing of residential
properties. The risk of loss on an income property 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. If the estimate of the construction cost
of the property upon completion of the project proves to be inaccurate, the Bank
may be required to advance funds beyond the amount originally committed to
permit completion of the

                                        5
<PAGE>
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 collateral which is
insufficient to assure full repayment. On permanent income property real estate
loans, the risk to the Bank is primarily attributable to the cash flow from the
property being financed. If the cash flow from the property is reduced (E.G., if
leases are not obtained or renewed), the borrower's ability to repay the Bank's
loan may be impaired.

     The Bank's underwriting criteria are designed to evaluate and minimize the
risk of income property real estate lending. Among other things, the Bank
considers the credit history and reputation of the borrower, the borrower's net
worth and liquidity, the amount of the borrower's equity in the project,
independent appraisal and review of cost estimates, pre-construction sale and
leasing information, and cash flow projections of the borrower. To manage and
control the risk inherent in this type of lending, the Bank has adopted a
concentration of credit policy which, among other things, generally limits the
amount the Bank can lend to any one borrower to $5.0 million unless this
requirement is waived by the Investment Committee of the Board of Directors.
Effective February 28, 2002, this limit was raised to $6.75 million.

     BUSINESS BANKING. The Business Banking Department makes loans for
"owner-occupied" commercial real estate properties, construction loans and
non-real-estate-based business loans. At year-end 2001, total business banking
loans grew to $56.9 million compared to $37.1 million the previous year. Non
real-estate business loans included in those totals were $12.2 million and $4.6
million at December 31, 2001 and 2000, respectively.

     Business banking commercial real estate loans are typically made on
"owner-occupied" properties. The Business Banking Department analyzes the
owner's business that occupies the property, and looks at the business's cash
flow as the primary source of repayment. The real estate collateral provides
secondary security to the loan. Non real-estate business loans are typically
extended to medium-sized businesses for the purpose of financing inventory,
accounts receivable, equipment, facilities, etc.

     Interest rates on business loans are generally tied to the Prime rate plus
a spread ranging from 0% to 3%, or to the short-term FHLB of Seattle's advance
rate plus a spread ranging from 3% to 4%. The rates are adjusted when the index
rate changes. Prime based loans reprice immediately while the rest reprice based
on set schedules, generally annually and after a fixed period of time. Annual
fees are also usually assessed to line-of-credit business loans.

     Commercial business lending generally involves greater risk than
residential mortgage lending and involves risks that are different from those
associated with residential, commercial, and multifamily real estate lending.
Real estate lending is generally considered to be collateral-based lending with
loan amounts based on predetermined loan to collateral values, and liquidation
of the underlying real estate collateral is viewed as the primary source of
repayment in the event of borrower default. Although commercial business loans
are often collateralized by equipment, inventory, accounts receivable or other
business assets, the liquidation of collateral in the event of a borrower
default is often not a sufficient source of repayment because accounts
receivable may be uncollectible and inventories and equipment may be obsolete or
of limited use, among other things. Accordingly, the repayment of a commercial
business loan depends primarily on the creditworthiness and cash flow of the
borrower (and any guarantors), while liquidation of collateral is a secondary
source of repayment.




                                        6
<PAGE>
     CONSUMER LOANS. The Bank originates consumer loans through two departments:
sales finance lending (indirect lending), and direct consumer lending (consumer
and home equity loans). Consumer loans totaled $45.5 million at December 31,
2001 compared to $35.6 million the previous year. The increase is primarily in
sales finance lending. At December 31, 2001, sales finance loans totaled $24.4
million compared to $18.3 million in 2000.

     The Sales Finance Department began operations during the third quarter of
fiscal 1997. This department purchases non-recourse consumer financing contracts
from approved dealers in many states. Typical collateral for these contracts
include retrofitted windows, siding, roofs, spas, and motorcycles. Dealers must
be approved with the Bank prior to the purchase of contracts. Before a contract
is purchased, Bank personnel make independent credit decisions of the borrowers
by checking the creditworthiness of the borrower, calculating debt-to-income
ratios, and evaluating the value of the collateral purchased.

     The sales finance department originates loans both for portfolio and for
sale on the secondary market. Loans originated for portfolio are secured and the
Bank's lien is perfected by the use of a Financing Statement on home improvement
loans over $5,000 and by the vehicle titles on vehicles. The terms of the
contracts are fixed rate and vary in term from two to 12 years. Loans originated
for sale on the secondary market are unsecured. The loans are sold non-recourse
(as long as the Bank meets its contractual representations and warranties) to
various purchasers for a fee.

     In July of 2001, the Bank opened a satellite office of its sales finance
department in Jacksonville, Florida. Our employees based out of this office work
with contractors in the eastern portion of the United States to generate home
improvement contracts for assignment to the Bank. In 2001, virtually all of the
loans generated outside of Washington, Oregon, and Idaho were sold on the
secondary market. Loans originated in those three states were either originated
for portfolio or sold on the secondary market.

     The Bank originates home equity loans and lines of credit for its portfolio
and for sale to others in the secondary market. These loans are secured by a
second mortgage deed-of-trust on residential real estate occupied by the
borrower or owned by the borrower as an investment. Home equity loans totaled
$15.8 million at December 31, 2001 compared to $13.3 million in 2000.

     The Bank's current strategy regarding home equity loans is to sell
fixed-rate installment second mortgages. Revolving lines-of-credit retained in
the Bank's portfolio generally have a combined loan-to-value of less than 95%.
The Bank purchases credit enhancement insurance on many lines-of-credit with
combined loan-to-value over 80%. This insurance mitigates any credit losses
incurred on loans that have insurance in place. All revolving lines-of-credit
are tied to the Prime rate plus a margin. The margin is determined based on the
loan-to-value ratio, the creditworthiness of the borrower, and the borrower's
debt-to-income ratio. The interest rates charged to the borrower are adjustable
and change based on the Prime rate. The underwriting and homeowner's insurance
requirements for the Bank's home equity products fall under the same
underwriting guidelines and standards as the Bank's residential loans. See
"Residential Loans."

     The Direct Consumer Lending Department began operations in the second
quarter of 1998. The Department processes and closes consumer loan requests
generated within the Bank's deposit branches and from lending officers. The
lending products offered fall into two categories: collateral based loans
(automobiles, boats, recreational vehicles, home improvement, etc.), and
unsecured lines-of-credit. The underwriting criteria for collateral-based loans
are similar to that of the sales finance loans noted above. Primary
consideration is given to the borrower's capacity to repay the obligation. A

                                        7
<PAGE>
secondary consideration on secured consumer loans is the value of the loan
collateral as a source of repayment. The underwriting criteria on the unsecured
lines-of-credit call for a higher level of borrower creditworthiness because of
the unsecured nature of these loans. The terms on the collateral based loans are
fixed rates with terms of up to 10 years. The unsecured lines-of-credit are
variable and tied to the Prime rate plus a margin. Direct consumer loans totaled
$2.0 million at December 31, 2001 as compared to $1.9 million at year-end 2000.

     Consumer loans entail greater risk than do residential mortgage loans,
particularly in the case of consumer loans which are unsecured or secured by
rapidly depreciating assets such as automobiles. In such cases, any 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 beyond obtaining a
deficiency judgment. In addition, consumer loan collections are dependent on the
borrower's continuing financial stability and thus are more likely to be
adversely affected by job loss, divorce, illness or personal bankruptcy.
Furthermore, the application of various federal and state laws, including
federal and state bankruptcy and insolvency laws, may limit the amount which can
be recovered on such loans. Such loans may also give rise to claims and defenses
by a consumer loan borrower against an assignee of such loans such as the Bank,
and a borrower may be able to assert against such assignee claims and defenses
that it has against the seller of the underlying collateral. At December 31,
2001, consumer loans past due 90 days or more totaled $5,000 as compared to
$33,000 at year-end 2000.

     The Community Business Banking Department began operations in the fourth
quarter of fiscal 1999. The Department processes and closes small business loan
requests originating in the branch system, through referrals from other lines of
business or from lending officers. The credit products available are small,
unsecured lines-of-credit, larger secured lines-of-credit and term loans. The
primary factors for approval are the borrower's ability to repay and guarantor
creditworthiness. Collateral is taken as an abundance of caution for small
business loans and lines, and is not a factor when evaluating credit
applications. The unsecured lines-of-credit are open-ended and have a variable
rate tied to the Prime rate. Secured lines-of-credit also have a variable rate
tied to Prime. Term loans have a maturity of seven years or less, have a fixed
rate for the first 3 years and then adjust with Prime thereafter. Community
business loans totaled $2.7 million at December 31, 2001 as compared to $481,000
at year-end 2000.

     LOAN SOLICITATION AND PROCESSING. The Bank relies upon its employees to
solicit and/or originate business, consumer, income property, and residential
loans. The Bank also utilizes the services of mortgage brokers. Residential
mortgage brokers take applications from borrowers, process the credit
information, obtain property appraisals, and then submit the loan to First
Mutual for approval. If approved, the loan is funded by and closed in the name
of the Bank. Income property brokers are generally limited to taking the
initial application from borrowers. Mortgage brokers provide the Bank with a
cost-effective method of originating loans in a broader geographic area than the
Bank's customer base. Approximately 75% of all residential loans closed during
the year ended December 31, 2001, were obtained through mortgage brokers as
compared to 72% at December 31, 2000.

     The Bank's lending policy is reviewed annually and approved by the Board of
Directors. Residential loans up to specified limits may be approved by a member
of the Loan Committee or designated underwriters. Income property loans up to $1
million, business loans secured by real estate, and business loans secured by

                                        8
<PAGE>
other assets or unsecured up to $400,000 are approved by the Loan Committee,
which consists of officers Valaas, Collette, Mandery, Boudreau, Harlan, Werth,
Everett, Davis, and Young. If the cumulative extensions of credit exceed
$1,000,000, the loan is further reviewed and subject to approval by the
Investment Committee, which is comprised of Directors Valaas, Parker, Wallace,
Florence, Doud and Rowley.

     Effective February 28, 2002, the Board of Directors made a number of
changes to the Bank's lending policy. It separated the Loan Committee into the
Commercial Loan Committee and the Consumer Loan Committee. The Commercial Loan
Committee will approve income property and business loans while the Consumer
Loan Committee will deal with residential and consumer loans. All members of the
former Loan Committee were appointed to the Commercial Loan Committee. Officers
Boudreau, Harlan, Young, Boyd, and Stroup were named to the Consumer Loan
Committee.

     The approval limits noted above were also modified. The Commercial Loan
Committee can approve income property and business real-estate loans up to $2
million. Its limit for business loans secured by other assets or unsecured was
raised to $750,000. The limit on approving cumulative extensions of credit for
the Commercial Loan Committee was raised to $2.5 million and $2 million for the
Consumer Loan Committee. Finally, officer Boudreau, as chief credit officer, was
given a limit of $750,000 on income property and business real-estate loans and
$1 million on residential loans.

     LOAN ORIGINATION'S AND SALES. Loan origination's increased in 2001 to $319
million from $211 million in 2000; the comparable figure for 1999 was $310
million. The increase in originations came primarily from residential, business
banking, and sales finance loan closings. Residential loan closings increased
from $67 million in 2000 to $136 million in 2001. In addition, both business
banking and sales finance exceeded their loan production from last year by $17
million and $11 million respectively.

     Selling loans in the secondary mortgage market reduces the Bank's risk that
interest rates will escalate while holding long-term, fixed-rate loans in its
portfolio. The sale of loans into the secondary market also allows the Bank to
continue to make loans during periods when savings flows decline or funds are
not otherwise available for lending purposes. In connection with such sales, the
Bank generally sells the servicing rights (I.E., collection of principal and
interest payments).

     The Bank has sold most of its loan servicing portfolio. Sales included a
bulk sale of $93 million in the first quarter of 1998, $51 million in 2000, and
a final sale in January 2001 of $78 million. The net gain on the sales of
servicing rights totaled $849,000, $589,000, and $810,000 for 1998, 2000 and
2001, respectively. The Bank's intent is to continue to sell servicing rights as
they are originated through our Residential Lending Department. (See further
discussions on this subject in the Management's Discussion and Analysis of
Financial Condition and Results of Operations in the Annual Report, under the
caption Gain on Sales of Loans.)

     As of December 31, 2001, the Bank was servicing loans for others
aggregating approximately $47 million as compared to $174 million in 2000. Loan
servicing fees, net, totaled $106,000 for the year ended December 31, 2001 and
$552,000 for the year ended December 31, 2000.

     Currently, long-term mortgage loans are being originated for sale in the
secondary mortgage market to Fannie Mae, and other investors. During the year
ended December 31, 2001, the Bank securitized and sold $90.9 million in loans as
compared to $42.7 million during 2000.

                                        9
<PAGE>
     Set forth below is a table showing the Bank's loan origination and sales
activity for the periods indicated.

                                                Years Ended December 31,
                                        ---------------------------------------
                                           2001           2000           1999
                                        ---------      ---------      ---------
                                                     (In Thousands)
Total loans at beginning of period
  (net of undisbursed loan proceeds)    $ 497,478      $ 462,266      $ 394,050
Loans originated:
  Real estate loans:
    Construction loans .............       54,330         78,207         61,045
    Loans on existing property .....      169,214         77,843        165,220
    Loans refinanced ...............       59,408         28,745         67,885
    Insured and guaranteed loans ...        3,282          2,022           --
    Consumer and other loans .......       36,824         24,248         16,249
                                        ---------      ---------      ---------
           Total loans originated ..      323,058        211,065        310,399

Principal reductions ...............     (154,513)      (133,082)      (132,194)
Loans sold:
  Whole loans ......................      (76,619)       (36,972)      (104,463)
  Participation loans ..............      (14,281)        (5,799)        (5,526)
                                        ---------      ---------      ---------
           Total loans sold ........      (90,900)       (42,771)      (109,989)
                                        ---------      ---------      ---------
Total gross loans at end of period
  (net of undisbursed loan proceeds)    $ 575,123      $ 497,478      $ 462,266
                                        =========      =========      =========

     LOAN COMMITMENTS. First Mutual's commitments to make conventional mortgage
loans on existing residential dwellings are generally made for periods of 30 to
60 days. The borrower may reserve ("lock-in") an interest rate and loan fee for
a period of 10 to 60 days from the date of application. This reservation is
conditioned upon loan approval and closing within this time frame. Interest
rates and loan fees committed at the time of the lock-in are based upon the
prevailing market rate at the time of approval. Outstanding commitments to
borrowers for loans, including commitments for income property loans totaled
$106.4 million at December 31, 2001 and $120.3 million at year-end 2000.

     LOAN ORIGINATION FEES AND OTHER FEES. In addition to interest earned on
loans and servicing fees on loans sold and securitized, the Bank receives loan
origination fees for originating mortgage loans. See Note 1 of Notes to
Consolidated Financial Statements in the Annual Report for information as to the
recognition of loan fee income.

     Loan origination fees vary with the volume and type of loans made and with
competitive conditions in mortgage markets. Loan demand and availability of
money affect these market conditions. Recent trends have kept loan origination
fees in the 1% to 2% range for permanent real estate loans. Construction loan
fees at the present time range from 2% to 3% of the loan amount.

     The Bank also receives other fees and charges relating to existing loans,
which include late charges and fees collected in connection with a change in
borrower or other loan modifications, including construction loan extensions.

     REAL ESTATE HELD-FOR-SALE AND NON-PERFORMING LOANS. Loans are defined as
non-performing when any payment of principal and/or interest is 90 days past due
unless the loan is well secured and the Bank is reasonably confident that it
will recover its interest and principal. While generally the Bank is able to

                                       10
<PAGE>
work out a satisfactory repayment schedule with a delinquent borrower, the Bank
will undertake foreclosure proceedings if the delinquency is not otherwise
resolved. Property acquired by the Bank as a result of foreclosure or by deed in
lieu of foreclosure is classified as "held-for-sale" until such time as it is
sold or otherwise disposed. At December 31, 2001, the total of non-performing
loans, repossessed assets, and real estate acquired through foreclosure was
$521,000 compared to $2.5 million at year-end 2000.

     The following table sets forth information regarding non-performing assets
at the dates indicated.

                                                      At December 31,
                                              ------------------------------
                                               2001        2000        1999
                                              ------      ------      ------
                                                  (Dollars in Thousands)
Loans greater than 90 days
   delinquent and still accruing...........   $   --      $   --      $ --
Restructured troubled loans ...............       --          --        --
Nonaccrual loans ..........................      498       1,111         343
Other assets and real estate
   acquired through foreclosure ...........       23       1,353           9
                                              ------      ------      ------
     Total ................................   $  521      $2,464      $  352
                                              ======      ======      ======

As a percentage of net loans ..............     0.09%       0.50%       0.08%
As a percentage of total assets ...........     0.08%       0.38%       0.06%

Gross interest income that would
   have been recorded in the
   period if loans had been
   current with original terms ............   $   40      $  100      $   60

Interest income on loans included
   in net income for the period ...........   $   30      $   53      $   33


     Non-performing assets for 2001 were composed of loans collateralized by
single-family residences, consumer goods, and commercial real estate.

RESERVE FOR LOAN LOSSES
-----------------------
     The reserve for loan losses is maintained at a level sufficient to provide
for estimated losses based on known and inherent risks in the loan portfolio.
This reserve is based upon management's continuing analysis of the factors
underlying the quality of the loan portfolio. These factors include changes in
the size and composition of the loan portfolio; actual loan loss experience;
current and anticipated economic conditions; detailed analysis of individual
loans for which full collectibility may not be assured and for which impairment
may be present; and determination of the existence and fair value of the
collateral and guarantees securing the loans. The reserve is based upon factors
and trends identified by management at the time the financial statements are
prepared. The ultimate recovery of loans is susceptible to future market factors
beyond the Bank's control, which may result in losses or recoveries differing
significantly from those provided in the financial statements. At December 31,
2001, the reserve for loan losses totaled $7.0 million as compared to $6.7
million at December 31, 2000.


                                       11
<PAGE>
     At year-end 2001 the ratio of First Mutual's reserves to total loans was
1.22% as compared to 1.36% the previous year. That ratio compares to the
national average for commercial banks of 1.77%, and for savings institutions of
..90%. A further discussion of the Bank's reserve for loan losses is included in
the Management's Discussion and Analysis of Financial Condition and Results of
Operations section of the Annual Report.

     While the Bank believes it has established its existing reserve for loan
losses in accordance with generally accepted accounting principles as of
December 31, 2001, there can be no assurance that regulators, when reviewing the
Bank's loan portfolio in the future, will not request the Bank to increase its
reserve for loan losses, thereby adversely affecting the Bank's financial
condition and earnings. See the Consolidated Financial Statements contained in
the Annual Report.

     The following table sets forth an analysis of the Bank's allowance for loan
losses for the periods indicated.
<TABLE><CAPTION>
                                                                         Years Ended December 31,
                                                   --------------------------------------------------------------------
                                                     2001           2000           1999           1998           1997
                                                   --------       --------       --------       --------       --------
<S>                                                <C>            <C>            <C>            <C>            <C>
                                                                              (In Thousands)

Balance at beginning of period ...............     $  6,729       $  6,309       $  5,569       $  4,858       $  3,882

   Charge-offs ...............................         (144)          (112)           (68)           (39)          --
      Residential real estate and other loans          (144)          (112)           (45)           (39)          --
      Commercial real estate .................         --             --              (23)          --             --
      Construction ...........................         --             --             --             --             --
   Recoveries ................................           82              2              3           --             --
      Residential real estate and other loans            82              2              3           --             --
      Commercial real estate .................         --             --             --             --             --
      Construction ...........................         --             --             --             --             --
   Provision .................................          365            530            805            750            976
                                                   --------       --------       --------       --------       --------
Balance at end of period .....................     $  7,032       $  6,729       $  6,309       $  5,569       $  4,585
                                                   ========       ========       ========       ========       ========

Ratio of net charge-offs during the period to
   average loans outstanding during the period            0%             0%             0%             0%             0%
</TABLE>

INTEREST RATE RISK MANAGEMENT
-----------------------------
     Market risk is defined as the sensitivity of income and capital from
changes in interest rates, foreign currency exchange rates, commodity prices,
and other relevant market rates or prices. The primary market risk to which we
are exposed to is interest rate risk. The Bank's profitability is dependent to a
large extent on its net interest income, which is the difference between the
interest received from its interest-earning assets and the interest expense
incurred on its interest-bearing liabilities. The Bank's objectives in its
asset/liability management are to utilize its capital effectively, to provide
adequate liquidity, and to enhance net interest income, without taking
unreasonable risks and subjecting the Bank unduly to interest rate fluctuations.



                                       12
<PAGE>
     Assumptions regarding interest rate risk are inherent in all financial
institutions. Interest rate risk is the risk to earnings or capital resulting
from adverse movements in interest rates. Interest rate sensitivity is the
relationship between market interest rates and net interest income due to the
repricing characteristics of assets and liabilities. The Bank monitors interest
rate sensitivity by examining its one-year and longer gap positions on a regular
basis. Gap analysis and an income simulation model are used to manage interest
rate risk.

Gap Analysis

     The interest rate sensitive gap is defined as the difference between
interest-earning assets and interest bearing liabilities anticipated to mature
or reprice during the same period. The gap analysis quantifies the mismatch
between these assets and liabilities in like time periods. Certain shortcomings
are inherent in gap analysis. For example, some assets and liabilities may have
similar maturities or repricing characteristics but they may react differently
to changes in interest rates. Assets such as adjustable rate mortgage loans may
have features that limit the effect that changes in interest rates have on the
asset in the short-term and/or over the life of the loan. Due to the limitations
of the gap analysis, these features are not taken into consideration.
Additionally, in the event of a change in interest rates, prepayment and early
withdrawal penalties would likely deviate significantly from those assumed in
the gap calculation. As a result, the Bank utilizes the gap report as a
complement to its income simulation model.

Simulation Model

     The Bank's simulation model calculates the change to net interest income
and the economic value of equity based upon increases and decreases of 100, 200,
and 300 basis point movements in interest rates. The model is based on a number
of assumptions such as the maturity, repricing, amortization, and prepayment
characteristics of loans and other interest-earning assets and the repricing of
deposits and other interest-bearing liabilities. The Bank runs the income
simulation model monthly for review by the ALCO (Asset Liability Committee),
senior management, and the Board of Directors. The Bank believes that data and
assumptions are realistic representations of its portfolio and possible outcomes
under the various interest rate scenarios. Nonetheless, the interest rate
sensitivity of the Bank's net interest income and net market value of equity
could vary substantially if different assumptions were used or if actual
experience differs from the assumptions used.

     The Bank's income simulation model and its gap analysis results for the
periods ending December 31, 2001, and December 31, 2000, are presented below.

                          FIRST MUTUAL BANCSHARES, INC.
                              RATE SHOCK ESTIMATES
                      Net Interest Income and Market Value
                                December 31, 2001

                       December 31, 2001                       December 31, 2000
                       Percentage Change                       Percentage Change
--------------------------------------------------------------------------------
    Immediate              Net            Net            Net             Net
    Change in           Interest         Market        Interest        Market
  Interest Rates         Income          Value          Income          Value
  --------------        --------        -------        --------        -------
      +300                  3 %          (19) %            0 %          (20) %
      +200                  0            (14)              1            (12)
      +100                  0             (6)              1             (5)
      -100                 (3)            (2)             (3)             2
      -200                 (9)            (8)             (5)             1
      -300                (23)           (15)            (10)            (4)
--------------------------------------------------------------------------------



                          FIRST MUTUAL BANCSHARES, INC.
                      ONE-YEAR INTEREST RATE SENSITIVE GAP
                                 (in thousands)

                                   December 31, 2001      December 31, 2000
                                     ------------            ------------
One-year repricing assets ......     $    506,458            $    423,956
One-year repricing liabilities .          413,279                 448,242
                                     ------------            ------------
   One-year gap ................           93,108                 (24,286)
                                     ------------            ------------
   Total assets ................     $    678,349            $    643,231
                                     ============            ============

One Year Interest Rate Sensitive
 GAP as a Percent of Assets ....           13.7 %                  (3.8)%


                                       13
<PAGE>

     Model simulation and gap results for the period are indicative of an asset
sensitive position; that is the Bank's net interest income is projected to
increase as market rates rise. The gap results indicate that more assets will
mature and/or reprice than liabilities within the next year. Projections to net
interest income in a declining rate environment are less favorable. A
contributing factor to the results in a declining rate environment is the Bank's
adjustable rate commercial real estate portfolio. Sixty-one percent of these
loans have an average minimum interest rate or "floor" of 7.5%. Because these
"floors" exceed the current offering rates on similar loans by more than 1.0%,
the model has applied an elevated level of prepayment speeds to these loans.
This assumption implies that there is a greater degree of probability that these
loans will refinance to current rates and therefore decrease the amount of
interest income the Bank will realize in the next 12 months.

     Market value analysis goes beyond simulating earnings for a specified time
period to generating principal and interest cash flows for the entire life of
all assets and liabilities. These cash flows are then discounted back to the
present. A significant factor contributing to the market value simulation
results are the Banks fixed rate loans and securities. These assets comprise
approximately 15% of the Banks total rate sensitive assets. In a simulated shift
in the yield curve, both rising and declining, the market values associated with
these assets typically tend to decline. This is also referred to as negative
convexity. As interest rates rise, the cash flows on these assets will typically
decline as borrowers are less likely to refinance or prepay their loans. The
result of this is that there is less cash reinvested at current market rates.
The opposite effect occurs as rates decline. Cash flows tend to increase and the
cash must be reinvested at lower interest rates.

     The sensitivity analysis does not represent a forecast for the Bank. There
are numerous assumptions inherent in the simulation model as well as in the gap
report. Some of these assumptions include the nature and timing of interest rate
levels, including yield curve shape, prepayments on loans and securities,
deposit decay rates, pricing decisions on loans and deposits, and
reinvestment/replacement of asset and liability cash flows. Customer
preferences, and competitor and economic influences are impossible to predict,
therefore, the Bank cannot make any assurances as to the outcome of these
analyses.





















                                       14
<PAGE>
Basis Risk

     Basis risk arises from a shift in the relationship of the rates on
different financial instruments. As discussed in the 10K report from last year,
over the years there have been adverse shifts in the basis relationship between
the funding sources, and the Bank's principal asset, the loan portfolio. The
Bank's funding sources, largely deposits and FHLB advances, tend to follow the
London Interbank Offering Rate (LIBOR) market. The correlation between the FHLB
borrowings is very direct, whereas the relationship between deposits and the
LIBOR is more tenuous. The Bank has found that, deposits, however, tend over
time to have a higher correlation to LIBOR than other indexes that the Bank has
followed. The adjustable rate loan portfolio, which constitutes 88% of the
portfolio, has in the past, been predominately indexed to the CMT index. To the
extent that LIBOR and treasury markets move in synchronization basis risk is
minimized. However, over the last six years these two markets, as measured by
the one-year LIBOR and CMT have at times widely diverged. As a result, the Bank
made the decision during the first quarter of 2001 to change the index that new
commercial real estate loans are based on from the CMT to the FHLB of Seattle's
short-term 12-month advance rate. Portfolio residential loans are now generally
indexed to LIBOR. This change, over time, should help to stabilize the Banks
margin assuming that other relevant factors remain the same. Currently the LIBOR
and CMT indexes are within a range of .20% - .50%, and are reasonably
synchronized.

INVESTMENT ACTIVITIES
---------------------
     Under Washington law, savings banks are permitted to own government and
government agency obligations, commercial paper, corporate bonds, mutual fund
shares, debt and equity obligations issued by creditworthy entities, whether
traded on public securities exchanges or placed privately for investment
purposes. The Bank holds a portfolio of mortgage-backed securities, real estate
mortgage investment conduits (REMICS), and municipal bonds. Subject to certain
exceptions, the Bank is prohibited by FDIC regulations from making equity
investments of a type, or in an amount, that is not permissible for national
banks.

     The Chief Financial Officer of the Bank determines appropriate investments
in consultation with the Investment Committee of the Board of Directors' and in
accordance with the approved investment policy. Investments are made based on
certain considerations, which include the interest rate, yield, settlement date
and maturity of the investment, the Bank's liquidity position, and anticipated
cash needs and sources. In addition, the effect on the Bank's credit and
interest rate risk, and risk-based capital is also included in the evaluation.

     At December 31, 2001, the book value of the Bank's investment securities
portfolio totaled $72.6 million, while the estimated fair market value amounted
to $72.9 million as compared to $123.6 million and $123.3 million, respectively,
for 2000. Securities with stated maturities greater than ten years comprised
39.1% of the investment portfolio in 2001. Mortgage-backed securities guaranteed
by Fannie Mae, Freddie Mac, and Ginnie Mae totaled $71.2 million including those
available-for-sale. From time to time, investment levels may be increased or
decreased depending upon a number of factors. These factors include the yields
on investment alternatives and upon management's judgement as to the
attractiveness of the yields then available in relation to other opportunities
and its expectations of the level of yield that will be available in the future.
In addition, management's projections as to the short-term demand for funds to
be used in the Bank's loan origination and other activities is also a
consideration. As a result of these factors, during the past year the Bank's
investment portfolio has decreased 375%.



                                       15
<PAGE>
     MORTGAGE-BACKED SECURITIES. The Bank purchases mortgage-backed securities
to: (i) generate positive interest rate spreads on large principal balances with
minimal administrative expense, (ii) lower the credit risk of the Bank as a
result of the guarantees provided by Freddie Mac, Fannie Mae, and Ginnie Mae,
(iii) enable the Bank to use mortgage-backed securities as collateral for
financing, and (iv) invest excess funds during periods of reduced loan demand.
Included in the Bank's mortgage-backed securities portfolio are Fannie Mae and
Freddie Mac mortgage-backed obligations with a book value of $71.4 million and a
market value totaling $71.6 million. In comparison, the related figures for 2000
totaled $73 million for both book value and market value. Also included in the
Bank's mortgage-backed security portfolio are Real Estate Mortgage Investment
Conduit Securities (REMICS) with a book value of $100,000 ranging in maturity
from 2002 to 2022.

     Mortgage-backed securities typically represent a participation interest in
a pool of single-family or multifamily mortgages. The principal and interest
payments on these mortgages are passed from the mortgage originators, through
intermediaries (generally US Government agencies and government-sponsored
enterprises) that pool and resell the participation interests in the form of
securities, to investors such as the Bank. Such US Government agencies and
government-sponsored enterprises, which guarantee the payment of principal and
interest to investors, primarily include Freddie Mac, Fannie Mae, and Ginnie
Mae. 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 fall within a specified range and have varying
maturity's. Mortgage-backed securities generally yield less than loans that
underlie such securities because of the cost of payment guarantees and credit
enhancements. In addition, mortgage-backed securities are usually more liquid
than individual mortgage loans and may be used to collateralize certain
liabilities and obligations of the Bank. These types of securities also permit
the Bank to optimize its regulatory capital because they have a low risk
weighting.

     The actual maturity of a mortgage-backed security may be less than its
stated maturity due to prepayments of the underlying mortgages. Prepayments that
are faster than anticipated may shorten the life of the security and may result
in a loss of any premiums paid and thereby reduce the net yield on such
securities. Although prepayments of underlying mortgages depend on many factors,
including the type of mortgages, the coupon rate, the age of 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 generally is the most significant determinant of the rate of
prepayments. During periods of declining mortgage interest rates, if the coupon
rate of the underlying mortgages exceeds the prevailing market interest rates
offered for mortgage loans, refinancing generally increases and accelerates the
prepayment of the underlying mortgages and the related security. Under such
circumstances, the Bank may be subject to reinvestment risk because, to the
extent that the Bank's mortgage-backed securities amortize or prepay faster than
anticipated, the Bank may not be able to reinvest the proceeds of such
repayments and prepayments at a comparable rate.

     At December 31, 2001, municipal bonds included six Washington State
municipal bonds that are rated AA or better.

     For further information concerning the Bank's investment portfolio,
reference is made to Note 3 and 4 of the Notes to Consolidated Financial
Statements in the Annual Report.

                                       16
<PAGE>
     The following table sets forth information regarding the Bank's
mortgage-backed securities (including REMICs) activity for the periods
indicated.

                                                  Years Ended December 31,
                                           ------------------------------------
                                             2001          2000          1999
                                           --------      --------      --------
                                                      (In Thousands)

Beginning balance .......................  $ 73,345      $ 59,595      $ 39,286

Mortgage-backed securities purchased ....    39,413        22,038        32,768

Amortization of premiums and discounts...         8           654          (989)
Principal repayments ....................   (41,532)       (8,942)      (11,470)
                                           --------      --------      --------
     Ending balance .....................  $ 71,234      $ 73,345      $ 59,595
                                           ========      ========      ========

     The following table sets forth the composition of the Bank's
mortgage-backed securities portfolio at the dates indicated.
<TABLE><CAPTION>
                                                         Years Ended December 31,
                                -------------------------------------------------------------------------
                                        2001                      2000                     1999
                                ---------------------     ---------------------     ---------------------
                                              Percent                   Percent                   Percent
                                 Amount      of Total      Amount      of Total      Amount      of Total
                                --------     --------     --------     --------     --------     --------
<S>                             <C>          <C>          <C>          <C>          <C>          <C>
                                                          (Dollars in Thousands)

Mortgage-backed securities:
 Freddie Mac ..............     $  6,388         8.97%    $  1,958         2.67%    $  2,227         3.74%
 Fannie Mae ...............       64,746        90.89       69,347        94.55       54,992        92.27
 Ginnie Mae ...............           --           --        1,694         2.31        1,752         2.94
 REMICs ...................          100         0.14          346         0.47          624         1.05
                                --------     --------     --------     --------     --------     --------
   Total ..................     $ 71,234       100.00%    $ 73,345       100.00%    $ 59,595       100.00%
                                ========     ========     ========     ========     ========     ========
</TABLE>

     The following table presents the carrying value of the Bank's investment
securities portfolio. The market value of the Bank's investments in the table at
December 31, 2001, was approximately $72.9 million.

                                                      At December 31,
                                           ------------------------------------
                                             2001          2000          1999
                                           --------      --------      --------
                                                      (In Thousands)
Investment securities:
  U.S. Government and agency obligations.. $     --      $ 46,666      $ 42,653
  Corporate and municipals................    1,113         3,644         3,159
  Mortgage-backed certificates............   71,234        73,345        59,595
  Fannie Mae Stock........................       --            35            24
                                           --------      --------      --------
Total..................................... $ 72,347      $123,690      $105,431
                                           ========      ========      ========

                                       17
<PAGE>
     The following table provides the scheduled maturities, carrying values,
market values, and average yields for the Bank's investment securities at
December 31, 2001.

<TABLE><CAPTION>
                                             One to   One to    Five to   Five to    More      More
                            One      One      Five     Five       Ten       Ten     than Ten  than Ten
                            Year     Year     Years    Years     Years     Years     Years     Years     Total     Total
                            Book    Yield     Book     Yield     Book      Yield     Book      Yield     Book      Market    Yield
                          -------  -------   -------  -------   -------   -------   -------   -------   -------   -------   -------
<S>                       <C>      <C>       <C>      <C>       <C>       <C>       <C>       <C>       <C>       <C>       <C>
                                                                    (Dollars in Thousands)

Corporate & Municipals*.. $    --       --%  $    --       --%  $    --        --%  $ 1,113      5.92%  $ 1,113   $ 1,111      5.92%
Freddie Mac Certificates.      --       --        --       --     4,914      5.50     1,466      6.87     6,380     6,396      5.81
Fannie Mae Certificates..      --       --    16,778     5.65    22,335      5.50    25,932      6.76    65,044    65,244      5.77
REMICs-Fannie Mae........      34     6.00        --       --        --        --        66      6.50       100       101      6.33
                          -------  -------   -------  -------   -------   -------   -------   -------   -------   -------   -------
Total.................... $    34     6.00%  $16,778     5.65%  $27,249      5.50%  $28,577      6.73%  $72,637   $72,852      6.02%
                          =========================================================================================================
</TABLE>

* Municipal bond yields are not shown on a tax equivalent basis.

DEPOSIT ACTIVITIES AND OTHER SOURCES OF FUNDS
---------------------------------------------

     GENERAL. Savings accounts and other deposits have traditionally been an
important source of the Bank's funds for use in lending and for other general
business purposes. Over the course of the past year deposits have declined. As a
result we have increasingly relied on advances from the FHLB of Seattle. In
addition to deposit accounts, the Bank derives funds from loan repayments,
interest payments, loan sales, FHLB advances and other borrowings, and
operations. The availability of funds from loan sales is influenced by general
interest rates and other market conditions. Loan repayments and interest
payments are a relatively stable source of funds, while deposit inflows and
outflows vary widely and are influenced by prevailing interest rates and money
market conditions. Borrowings are used on a short-term basis to compensate for
reductions in deposits or deposit inflows at less than projected levels and are
used on a longer-term basis to support expanded lending activities.

     DEPOSITS. First Mutual offers a number of deposit accounts, including
savings accounts, NOW checking, business checking accounts, money market
accounts, and time deposit accounts, ranging in maturity from 3 months to ten
years. Deposit account terms vary with the principal differences being the
minimum balance required, the time period the funds must remain on deposit and
the interest rate.

     JUMBO TIME DEPOSITS. The Bank offers jumbo, mini-jumbo and public funds
mini-jumbo time deposits. These accounts are offered for minimum terms of 30
days and in minimum amounts of $100,000, $50,000, and $20,000.

     The following table indicates the amount of the Bank's jumbo time deposits
by time remaining until maturity as of December 31, 2001. Jumbo time deposits
require minimum deposits of $100,000, and rates paid on such accounts are
negotiable.



                                       18
<PAGE>
                                                               Jumbo
     Maturity Period                                       Time Deposits
     ---------------                                         ---------
                                                           (In Thousands)

     Three months or less...............................     $  34,404
     Four through six months  ..........................        28,366
     Over six through twelve months.....................        30,282
     Over twelve months.................................        19,633
                                                             ---------
     Total..............................................     $ 112,685
                                                             =========

     IRA ACCOUNTS. The Bank offers tax-deferred individual retirement accounts
(IRA). IRA accounts are offered on the same terms as the time deposits noted
below. In addition, the Bank offers a money market account to IRA customers. The
money market IRA requires a minimum balance of $100.

     DEPOSIT FLOWS. The following table sets forth the balance of savings
deposits in the various types of savings accounts offered by the Bank at the
dates indicated.

<TABLE><CAPTION>
                                    Balance at                       Balance at                       Balance at
                                   December 31,   % of     Increase  December 31,  % of     Increase  December 31,  % of
                                       2001     Deposits  (Decrease)    2000     Deposits  (Decrease)    1999     Deposits
                                     --------   --------   --------   --------   --------   --------   --------   --------
<S>                                  <C>        <C>        <C>        <C>        <C>        <C>        <C>        <C>
                                                                    (Dollars in Thousands)

NOW and Business
Checking Accounts ................   $ 28,282        6.6%  $   (801)  $ 29,083        6.4%  $  4,610   $ 24,473        6.1%
Jumbo Time Deposits ..............    112,685       26.3      7,282    119,967       26.2     23,035     96,932       24.2
Super NOW Checking Accounts ......      3,932        0.9      1,733      2,199        0.5        613      1,586        0.4
Savings Accounts .................      7,856        1.9       (494)     8,350        1.8     (2,668)    11,018        2.8
Money Market Deposit Accounts ....     76,841       17.9     11,193     65,648       14.4     (8,134)    73,782       18.4
3 Months or less Time Deposits ...      4,269        1.0      3,341        928        0.2       (320)     1,248        0.3
4-6 Month Time Deposits ..........     11,757        2.7        662     11,095        2.4      4,664      6,431        1.6
7 Month - One Year Time Deposits .    110,580       25.7      3,474    107,106       23.4     32,127     74,979       18.7
13 Month - Five Year Time Deposits     71,841       16.8    (40,386)   112,227       24.5      3,631    108,596       27.2
6-10 Year Time Deposits ..........        855        0.2        (34)       889        0.2       (240)     1,129        0.3
                                     --------   --------   --------   --------   --------   --------   --------   --------
     Total Deposits ..............   $428,898      100.0%  $(28,594)  $457,492      100.0%  $ 57,318   $400,174      100.0%
                                     ========   ========   ========   ========   ========   ========   ========   ========

IRA/Keogh Accounts ...............   $ 23,621        5.5%  $   (935)  $ 24,556        5.4%  $  2,889   $ 21,667        5.4%
                                     ========   ========   ========   ========   ========   ========   ========   ========
</TABLE>










                                       19
<PAGE>

     The following table represents an analysis of the Bank's deposit accounts
by interest rate and maturity ranges at December 31, 2001.

                                1 Year to    2 Years to
                   Less Than      Less         Less        5 Years
                   One Year    Than 2 Years Than 5 Years   or more       Total
                   ---------    ---------    ---------    ---------    ---------
                                          (In Thousands)

Less than 4.01%... $ 227,607    $  28,958    $   1,707    $      --    $ 258,272
4.01 - 5.00%......    68,984          603        6,520            4       76,111
5.01 - 6.00% .....    39,989        4,705        1,108          138       45,940
6.01 - 8.00%......    43,431          502        4,425          217       48,575
                   ---------    ---------    ---------    ---------    ---------
Total............. $ 380,011    $  34,768    $  13,760    $     359    $ 428,898
                   =========    =========    =========    =========    =========

       The following table provides the savings activity for the periods
indicated.

                                            Years Ended December 31,
                                     --------------------------------------
                                        2001          2000          1999
                                     ----------    ----------    ----------
                                                 (In Thousands)

Deposits............................ $  944,371    $  919,230    $  809,150
Withdrawals.........................    995,770       884,666       838,997
                                     ----------    ----------    ----------

Net Deposits (Withdrawals)
  Before Interest Credited..........    (51,399)       34,564       (29,847)
Interest Credited...................     22,805        22,754        18,770
                                     ----------    ----------    ----------

Net Increase (Decrease) in
   Deposits......................... $  (28,594)   $   57,318    $  (11,077)
                                     ==========    ==========    ==========



     For further information concerning the Bank's deposits, reference is made
to Note 9 of the Notes to Consolidated Financial Statements in the Annual
Report.

     BORROWINGS. Deposits are the primary source of funds for First Mutual's
lending and investment activities and for its general business purposes. The
Bank does rely, however, upon advances from the FHLB to supplement its supply of
lendable funds and to meet deposit and withdrawal requirements. The FHLB serves
as the Bank's primary borrowing source. Advances from the FHLB are typically
secured by a portion of the Bank's first mortgage loans and multifamily
permanent loans. At December 31, 2001, First Mutual had advances totaling
$191,104,000 from the FHLB, which mature in 2002 through 2011 at interest rates
ranging from 2.19% to 7.58%.

     The Company relies on borrowings from other banks. Other advances totaled
$250,000 at the end of 2001. For further information on the Company's
borrowings, see Note 10 of the Notes to Consolidated Financial Statements in the
Annual Report.

                                       20
<PAGE>
                                            Years Ended December 31,
                                     --------------------------------------
                                        2001          2000          1999
                                     ----------    ----------    ----------
                                                 (In Thousands)

FHLB advances.....................   $  191,104    $  133,035    $  134,237
                                     ==========    ==========    ==========
FHLB advances:
   Maximum outstanding at
     any month end................   $  191,104    $  135,979    $  134,237
   Average outstanding............      145,329       125,639        88,471
   Weighted average interest rates:
        Annual....................        5.962%        6.297%        5.288%
        End of Year...............        4.321%        6.387%        5.513%

Other advances....................   $      250    $      250    $      250


     The FHLB functions as a central reserve bank providing credit for
commercial banks, savings banks, savings and loan associations and certain other
member financial institutions. As a member, First Mutual is required to own
capital stock in the FHLB and is authorized to apply for advances on the
security of its home mortgages, multifamily collateral, and other assets such as
securities which are obligations of, or guaranteed by, the United States
Government, commercial real estate loans, etc., provided certain standards
related to creditworthiness have been met. Advances are made pursuant to several
different programs. Each credit program has its own interest rate and range of
maturities. Limitations on the amount of advances are based on the FHLB's
assessment of the institution's creditworthiness. Under its current credit
policies, the FHLB has limited advances to First Mutual to 40% of its assets. At
December 31, 2001, the percentage of assets represented by FHLB borrowings was
28%. See "Regulation and Supervision - Federal Home Loan Bank System" below.


                           REGULATION AND SUPERVISION
THE BANK

     GENERAL. As a state-chartered, federally-insured financial institution, the
Bank is subject to extensive federal and state regulation. Lending activities
and other investments must comply with various statutory and regulatory
requirements, including prescribed minimum capital standards. First Mutual is
regularly examined by the Federal Deposit Insurance Corporation (FDIC) and the
Department of Financial Institutions of the State of Washington. The Company is
supervised and regulated by the Federal Reserve Bank. The Bank files periodic
reports concerning the Bank's activities and financial condition with its
federal and state regulators. The Bank's relationship with depositors and
borrowers also is regulated to a great extent by both federal and state law,
especially in such matters as the ownership of savings accounts and the form and
content of mortgage documents.

     Federal and state banking laws and regulations govern all areas of the
operation of banks, including reserves, loans, mortgages, capital, issuance of
securities, payment of dividends and establishment of branches. Federal and
state bank regulatory agencies also have the general authority to limit the
dividends paid by insured banks and bank holding companies if such payments
should be deemed to constitute an unsafe and unsound practice. The respective
primary federal regulators of the Company and the Bank have authority to impose
penalties, initiate civil and administrative actions and take other steps
intended to prevent banks from engaging in unsafe or unsound practices.

                                       21
<PAGE>
     DEPOSIT INSURANCE. The FDIC is an independent federal agency that insures
the deposits, up to prescribed statutory limits, of depository institutions. The
FDIC administers two separate deposit insurance funds: the Bank Insurance Fund
(BIF) and the Savings Association Insurance Fund (SAIF). The BIF is a deposit
insurance fund for commercial banks and some state-chartered savings banks, such
as First Mutual. The SAIF is a deposit insurance fund for most savings
associations. As an insurer of the Bank's deposits, the FDIC has examination,
supervisory, and enforcement authority over the Bank.

     The FDIC has established a risk-based system for setting deposit insurance
assessments. Under the risk-based assessment system, an institution's insurance
assessment varies according to the level of capital the institution holds and
the degree to which it is the subject of supervisory concern. In addition,
regardless of the potential risk to the insurance fund, federal law requires the
ratio of reserves to insured deposits at $1.25 per $100. Both funds currently
meet this reserve ratio. During 2001, the assessment rate for both SAIF and BIF
deposits ranged from zero to 0.27% of covered deposits. As a well-capitalized
bank, First Mutual qualified for the lowest rate on its deposits for 2001.

     In addition to deposit insurance assessments, the FDIC is authorized to
collect assessments against insured deposits to be paid to the Finance
Corporation (FICO) to service FICO debt incurred in the 1980's to help fund the
thrift industry cleanup. The FICO assessment rate is adjusted quarterly.

     Prior to 2000, the FICO assessment rate for BIF-insured deposits was
one-fifth the rate applicable to deposits insured by the SAIF. Beginning in
2000, SAIF- and BIF-insured deposits were assessed at the same rate by FICO. As
a result, BIF FICO assessments are higher than in previous periods while SAIF
FICO assessments are lower. During 2001, annualized BIF FICO assessment rates
(expressed in basis points) ranged from 1.84 to 1.96.

     Any insured bank, which does not operate in accordance with or conform to
FDIC-regulations, policies and directives may be sanctioned for non-compliance.
For example, proceedings may be instituted against any insured bank or any
director, officer, or employee of such bank who engages in unsafe and unsound
practices, including the violation of applicable laws and regulations. The FDIC
has the authority to terminate deposit insurance pursuant to procedures
established for that purpose. Management is not aware of any existing
circumstances that could result in termination of the deposit insurance for the
Bank.

     CAPITAL REQUIREMENTS. FDIC regulations recognize two types or tiers of
capital: core ("Tier 1") capital and supplementary ("Tier 2") capital. Tier 1
capital generally includes common stockholders' equity and non-cumulative
perpetual preferred stock, less most intangible assets. Tier 2 capital, which is
limited to 100 percent of Tier 1 capital, includes such items as qualifying
general loan loss reserves, cumulative perpetual preferred stock, mandatory
convertible debt, term subordinated debt and limited life preferred stock;
however, the amount of term subordinated debt and intermediate term preferred
stock (original maturity of at least five years but less than 20 years) that may
be included in Tier 2 capital is limited to 50 percent of Tier 1 capital.

     The FDIC currently measures an institution's capital using a leverage limit
together with certain risk-based ratios. The FDIC's minimum leverage capital
requirement specifies a minimum ratio of Tier 1 capital to average total assets.
Most banks are required to maintain a minimum leverage ratio of at least 4% to
5% of total assets. The FDIC retains the right to require a particular
institution to maintain a higher capital level based on an institution's

                                       22
<PAGE>
particular risk profile. Although the Bank is only required to maintain the
minimum capital level, it has set a higher target range of 5.5% to 7.0% for
asset and liability management purposes. First Mutual Bank calculated its
leverage ratio to be 7.9% as of December 31, 2001.

     FDIC regulations also establish a measure of capital adequacy based on
ratios of qualifying capital to risk-weighted assets. Assets are placed in one
of four categories and given a percentage weight -- 0%, 20%, 50% or 100% --
based on the relative risk of that category. In addition, certain
off-balance-sheet items are converted to balance sheet credit equivalent
amounts, and each amount is then assigned to one of the four categories. Under
the guidelines, the ratio of total capital (Tier 1 capital plus Tier 2 capital)
to risk-weighted assets must be at least 8%, and the ratio of Tier 1 capital to
risk-weighted assets must be at least 4%. First Mutual Bank has calculated its
total risk-based ratio to be 11.5% as of December 31, 2001, and its Tier 1
risk-based capital ratio to be 10.2%. In evaluating the adequacy of a bank's
capital, the FDIC may also consider other factors that may affect a bank's
financial condition. Such factors may include interest rate risk exposure,
liquidity, funding and market risks, the quality and level of earnings,
concentration of credit risk, risks arising from nontraditional activities, loan
and investment quality, the effectiveness of loan and investment policies, and
management's ability to monitor and control financial operating risks.

     Federal statutes establish a supervisory framework based on five capital
categories: well capitalized, adequately capitalized, undercapitalized,
significantly undercapitalized and critically undercapitalized. An institution's
category depends upon where its capital levels are in relation to relevant
capital measures, which include a risk-based capital measure, a leverage ratio
capital measure, and certain other factors. The federal banking agencies have
adopted regulations that implement this statutory framework. Under these
regulations, an institution is treated as well capitalized if its ratio of total
capital to risk-weighted assets is 10% or more, its ratio of core capital to
risk-weighted assets is 6% or more, its ratio of core capital to adjusted total
assets is 5% or more, and it is not subject to any federal supervisory order or
directive to meet a specific capital level. In order to be adequately
capitalized, an institution must have a total risk-based capital ratio of not
less than 8%, a Tier 1 risk-based capital ratio of not less than 4%, and a
leverage ratio of not less than 4%. Any institution which is neither, well
capitalized nor adequately capitalized will be considered undercapitalized.

     Undercapitalized institutions are subject to certain prompt corrective
action requirements, regulatory controls, and restrictions which become more
extensive as an institution becomes more severely undercapitalized. Failure by
the Bank to comply with applicable capital requirements would, if unremedied,
result in restrictions on its activities and lead to enforcement actions
including, but not limited to, the issuance of a capital directive to ensure the
maintenance of required capital levels. Banking regulators will take prompt
corrective action with respect to depository institutions that do not meet
minimum capital requirements. Additionally, approval of any regulatory
application filed for their review may be dependent on compliance with capital
requirements.

     First Mutual's management believes that, under the current regulations, the
Bank will continue to meet its minimum capital requirements in the foreseeable
future. However, events beyond the control of the Bank, such as a downturn in
the economy in areas where the Bank has most of its loans, could adversely
affect future earnings and, consequently, the ability of the Bank to meet its
capital requirements.



                                       23
<PAGE>
     FEDERAL DEPOSIT INSURANCE IMPROVEMENT ACT (FDICIA). First Mutual has
surpassed the $500 million asset threshold, and as such, is required to be
compliant with the FDICIA originally enacted in 1991 and with enhanced
provisions adopted in 1993. In general, FDICIA requires the Bank to conduct an
annual independent audit of its financial statements, appoint an independent
audit committee of outside directors, report on and assess management's
responsibilities for preparing financial statements, and establish an internal
control structure.

     An independent accountant must attest to and report on the assertions in
management's report concerning these internal controls with the desired outcome
of efficient and effective operations; the safeguarding of assets; reliable
financial reporting and compliance with applicable laws and regulations.

     The FDIC has outlined, in general, the requirements for compliance with
FDICIA, but does not provide specific guidance on the internal control
structure, documentation, or procedures to test the Bank's effectiveness. It is
up to each bank to establish, document, and design procedures to evaluate and
test the internal control structure over financial reporting and compliance with
designated laws and regulations that minimally include loans to insiders and
dividend restrictions.

     The Bank has identified and documented existing controls with consideration
given to the Bank's control environment, risk assessment, control activities,
information and communication systems, and monitoring activities to ensure
compliance with the regulatory requirements. These systems and controls are
reviewed on a yearly basis to comply with the FDICIA requirements.

     Under FDICIA, the Audit Committee has several responsibilities that include
but are not limited to overseeing the internal audit function; conducting
periodic meetings with management, the independent public accountant, and the
internal auditors; review of significant accounting policies, and audit
conclusions regarding significant accounting estimates; review of the
assessments prepared by management and independent auditor on the adequacy of
internal controls and the resolution of identified material weaknesses and
reportable conditions in internal controls; and the review of compliance with
laws and regulations.

     FEDERAL HOME LOAN BANK SYSTEM. The FHLB of Seattle serves as a reserve or
central bank for the member institutions within its assigned region. It is
funded primarily from proceeds derived from the sale of consolidated obligations
of the FHLBs. It makes loans (I.E., advances) to members in accordance with
policies and procedures established by the Federal Housing Finance Board and the
Board of Directors of the FHLB of Seattle. As a member, the Bank is required to
purchase and hold stock in the FHLB of Seattle in an amount equal to the greater
of 1% of their aggregate unpaid home loan balances at the beginning of the year
or an amount equal to 5% of FHLB advances outstanding. As of December 31, 2001,
First Mutual held stock in the FHLB of Seattle in the amount of $9.8 million.
See "Business -- Deposit Activities and Other Sources of Funds -- Borrowings."

     FEDERAL RESERVE SYSTEM. The Federal Reserve Board requires (under
"Regulation D") that all depository institutions, including savings banks,
maintain reserves on transaction accounts or non-personal time deposits. These
reserves may be in the form of cash or non-interest bearing deposits with the
regional Federal Reserve Bank. NOW accounts and other types of accounts that
permit payments or transfers to third parties fall within the definition of
transaction accounts and are subject to Regulation D reserve requirements, as
are any non-personal time deposits at a savings bank. Under Regulation D, First
Mutual must maintain reserves against net transaction accounts in the amount of
3% on amounts of $44.3 million or less, plus 10% on amounts in excess of $44.3

                                       24
<PAGE>
million. The Bank may designate and exempt $5.0 million of certain reservable
liabilities from these reserve requirements. These amounts and percentages are
subject to adjustment by the Federal Reserve Board. The reserve requirement on
non-personal time deposits with original maturity's of less than 1.5 years is
0%. As of December 31, 2001, the Bank's deposit with the Federal Reserve Bank
and vault cash exceeded the Bank's reserve requirements.

THE COMPANY

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

     NEW LEGISLATION. The Gramm-Leach-Bliley Financial Services Modernization
Act of 1999, was enacted for the purpose of modernizing the financial services
industry by establishing a comprehensive framework to permit affiliations among
commercial banks, insurance companies, securities firms, and other financial
service providers. Generally, the Act:

     o  repeals the historical restrictions and eliminates many federal and
        state law barriers to affiliations among banks, securities firms,
        insurance companies, and other financial service providers;

     o  provides a uniform framework for the functional regulation of the
        activities of banks, savings institutions, and their holding companies;

     o  broadens the activities that may be conducted by national banks, banking
        subsidiaries of bank holding companies, and their financial
        subsidiaries;

     o  provides an enhanced framework for protecting the privacy of consumer
        information;

     o  adopts a number of provisions related to the capitalization, membership,
        corporate governance, and other measures designed to modernize the FHLB
        system;

     o  modifies the laws governing the implementation of the Community
        Reinvestment Act; and

     o  addresses a variety of other legal and regulatory issues affecting
        day-to-day operations and long-term activities of financial
        institutions.

     ACQUISITIONS. Under the BHCA, a bank holding company must obtain Federal
Reserve approval before: (1) acquiring, directly or indirectly, ownership or
control of any voting shares of another bank or bank holding company if, after
such acquisition, it would own or control more than 5% of such shares (unless it
already owns or controls the majority of such shares); (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.

                                       25
<PAGE>
     The BHCA also prohibits a bank holding company, with certain exceptions,
from acquiring direct or indirect ownership or control of more than 5% of the
voting shares of any company that is not a bank or bank holding company and from
engaging directly or indirectly in activities other than those of banking,
managing or controlling banks, or providing services for its subsidiaries. Under
the BHCA, the Federal Reserve is authorized to approve the ownership of shares
by a bank holding company in any company, the activities of which the Federal
Reserve has determined to be so closely related to the business of banking or
managing or controlling banks as to be a proper incident thereto. The list of
activities determined by regulation to be closely related to banking within the
meaning of the BHCA includes, among other things: operating a savings
institution, mortgage company, finance company, credit card company or factoring
company; performing certain data processing operations; providing certain
investment and financial advice; underwriting and acting as an insurance agent
for certain types of credit-related insurance; leasing property on a
full-payout, non-operating basis; selling money orders, travelers checks and
U.S. Savings Bonds; real estate and personal property appraising; providing tax
planning and preparation services; and, subject to certain limitations,
providing securities brokerage services for customers.

     INTERSTATE BANKING. The Federal Reserve must 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 may not approve the acquisition of a bank that has not been in existence
for the minimum time period, not exceeding five years, specified by the
statutory law of the host state. Nor may the Federal Reserve approve 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. Federal law 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 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% statewide concentration
limit contained in the federal law.

     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 adopted a law 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 will be permitted only if the law of the state in which
the branch is located permits such acquisitions. Interstate mergers and branch
acquisitions will also be subject to the nationwide and statewide insured
deposit concentration amounts described above.

     DIVIDENDS. The Federal Reserve has issued a policy statement on the payment
of cash dividends by bank holding companies, which expresses the Federal
Reserve'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 earnings retention that is consistent with
the company's capital needs, asset quality, and overall financial condition. The
Federal Reserve also indicated that it would be inappropriate for a company
experiencing serious financial problems to borrow funds to pay dividends.
Furthermore, under the prompt corrective action regulations adopted by the
Federal Reserve, the Federal Reserve may prohibit a bank holding company from
paying any dividends if the holding company's bank subsidiary is classified as
"undercapitalized" under the prompt corrective action regulations.

                                       26
<PAGE>
     STOCK REPURCHASES. Bank holding companies, except for certain
"well-capitalized" and highly rated bank holding companies, are required to give
the Federal Reserve prior written notice of any purchase or redemption of its
outstanding equity securities if the gross consideration for the purchase or
redemption, when combined with the net consideration paid for all such purchases
or redemptions during the preceding 12 months, is equal to 10% or more of their
consolidated net worth. The Federal Reserve may disapprove such a purchase or
redemption if it determines that the proposal would constitute an unsafe or
unsound practice or would violate any law, regulation, Federal Reserve order, or
any condition imposed by, or written agreement with, the Federal Reserve.

     In October 1999, the Company announced a stock repurchase program for up to
225,000 shares, or approximately 5%, of the Company's outstanding common stock.
Shares may be purchased from time to time depending upon market conditions,
price and other management considerations. In 2000, the Company had repurchased
10,000 shares. The Company did not repurchased any shares in 2001 or 2002.

     CAPITAL REQUIREMENTS. The Federal Reserve has established capital adequacy
guidelines for bank holding companies that generally parallel the capital
requirements of the FDIC for the Bank. The Federal Reserve regulations provide
that capital standards will be applied on a consolidated basis in the case of a
bank holding company with $150 million or more in total consolidated assets.

     The Company's total risk-based capital must equal 8% of risk-weighted
assets and one half of the 8%, or 4%, must consist of Tier 1 (core) capital. As
of December 31, 2001, the Company's total risk-based capital was 11.5% of
risk-weighted assets and its risk-based capital of Tier 1 (core) capital was
10.3% of risk-weighted assets.


                           FEDERAL AND STATE TAXATION
FEDERAL TAXATION

     GENERAL. The Company and its subsidiaries report their income on a fiscal
year basis using the accrual method of accounting and are subject to federal
income taxation in the same manner as other corporations with some exceptions,
including particularly the Bank's reserve for bad debts discussed below. The
following discussion of tax matters is intended only as a summary and does not
purport to be a comprehensive description of the tax rules applicable to the
Company or the Bank.

     BAD DEBT RESERVES. Historically, savings institutions such as the Bank,
which met certain definitional tests primarily related to their assets and the
nature of their businesses, were permitted to establish a reserve for bad debts
and to make annual additions to the reserve. These additions may, within
specified formula limits, have been deducted in arriving at the Bank's taxable
income. For purposes of computing the deductible addition to its bad debt
reserve, the Bank's loans are separated into "qualifying real property loans"
(i.e., generally those loans secured by interests in residential real property)
and all other loans ("non-qualifying loans"). The following formulas were used
to compute the bad debt deduction with respect to qualifying real property
loans: (i) actual loss experience or (ii) a percentage equal to 8% of taxable
income. The deduction with respect to non-qualifying loans was computed under
the experience method. Reasonable additions to the reserve for losses on
non-qualifying loans were based upon actual loss experience and would reduce the
current year's addition to the reserve for losses on qualifying real property
loans, unless that addition was also determined under the experience method. The
sum of the additions to each reserve for each year was the Bank's annual bad
debt deduction.

                                       27
<PAGE>
     The provisions repealing the current thrift bad debt rules were passed by
Congress as part of "The Small Business Job Protection Act of 1996." The rules
eliminate the 8% of taxable income method for deducting additions to the tax bad
debt reserves for all financial institutions for tax years beginning after
December 31, 1995. These rules also require that all institutions recapture all
or a portion of their bad debt reserves added since the base year (last taxable
year beginning before January 1, 1988). The Bank has previously recorded a
deferred tax liability equal to the bad debt recapture and as such the rules
will have no effect on the net income or federal income tax expense. For taxable
years beginning after December 31, 1995, the Bank's bad debt deduction is based
on net charge-offs during the taxable year.

     MINIMUM TAX. In addition to regular corporate income tax, the Bank is
subject to an alternative minimum tax which generally is equal to 20% of
alternative minimum taxable income (AMT). AMT income is taxable income,
increased by tax preference items and adjusted for certain regular tax items.

     First Mutual's federal income tax returns have been audited through 1991.

STATE TAXATION

     The Bank is subject to a business and occupation tax, which is imposed
under Washington law at the rate of 1.5% of gross receipts. However, interest
received on loans secured by first lien mortgages or deeds of trust on
residential properties is not subject to such tax.

     Reference is made to Note 11, of the Notes to Consolidated Financial
Statements in the Annual Report for additional information regarding income
taxes payable by the Bank.

COMPETITION

     The Bank's competition for savings deposits comes from securities brokerage
firms and other financial institutions, many of which have greater resources
than the Bank. In addition, during times of low interest rates the Bank
experiences significant competition for investors' funds from stock and bond
mutual funds that yield total returns higher than those paid by the Bank on
savings deposits.

     The Bank competes for deposits principally by offering depositors a wide
variety of savings and checking programs, convenient branch locations,
pre-authorized payment and withdrawal systems, on-line banking services, tax
deferred retirement programs, and other miscellaneous services.

     The Bank's competition for real estate and other loans comes principally
from mortgage banking companies, savings banks, savings and loan associations,
commercial banks, insurance companies and other institutional lenders. The Bank
competes for loan originations primarily through the interest rates and loan
fees it charges and the efficiency and quality of services it provides
borrowers, real estate brokers and builders. The competition for loans
encountered by the Bank, as well as the types of institutions with which the
Bank competes, varies from time to time depending upon certain factors.
Conditions which affect competition, include among others, the general
availability of lendable funds and credit, general and local economic
conditions, current interest rate levels, volatility in the mortgage markets,
and other factors which are not readily predictable.

EMPLOYEES

     At December 31, 2001, First Mutual employed 145 full-time and 8 part-time
employees. First Mutual employees are not represented by any collective
bargaining agreement. Management considers its relations with its employees to
be good.
                                       28
<PAGE>
ITEM 2. PROPERTIES

     The following table provides the location of the Bank's offices, as well as
certain information relating to these offices.
<TABLE><CAPTION>
                                                            Book                                      Lease
                                                           Value                               -------------------
                                               Total       As of                                          Date of
                                              Cost of     December     Square      Owned/       Initial    Termi-        Renewal
                            Year Opened       Assets      31, 2001      Feet       Leased       Lease      nation         Terms
                            ------------      -------      ------      ------      ------      --------   --------      ---------
<S>                         <C>               <C>          <C>         <C>         <C>         <C>        <C>           <C>
Branch Locations:                                               (Dollars in Thousands)
----------------
Bellevue Office &           October 1985      $ 1,784      $  519      22,661      Leased      June 15,   May 31,       One five-
  Administrative Offices                                                                       1985       2007          year option
  400 108th Avenue NE
  Bellevue, WA 98004
  (Originally opened 1952)

Issaquah Office             December 1977         797         350       2,860      Owned          --         --             --
  855 Rainier Blvd. N.
  Issaquah, WA  98027
  (Originally opened
   November 1965)

Monroe Office                April 1993         1,554       1,075       5,415      Owned          --         --             --
  19265 State Route 2
  Monroe, WA 98272
  (Originally opened April 1968)

Crossroads Office          September 1969         432         136       2,972      Owned          --         --             --
  15635 N.E. 8th Street
  Bellevue, WA  98008

Redmond Office              December 1977       1,313         526       6,474      Owned          --         --             --
  16900 Redmond Way
  Redmond, WA  98052

Ballard Office                June 1994           186          10       1,700      Leased      March 25,  June 1,       One three-
  2038 N.W. Market St.                                                                         1994       2001          year option
  Seattle, WA  98107

West Seattle Office           July 1996           316          16       2,200      Leased      March 1,   February      One five-
  4520 California Ave., S.W.                                                                   1996       28, 2006      year option
  Seattle, WA 98116

Bellevue West Office          July 1997         2,734       2,336       9,190      Owned          --         --             --
  10001 NE 8th Street
  Bellevue, WA 98004

Bellingham Branch and        March 1998           169          45       1,700      Leased      February   February      Three five-
Loan Office                                                                                    14, 1998   14, 2003      year options
  1100 Harris Street
  Bellingham, WA 98225

Kirkland Office            September 2000         574         458       3,800      Leased      September  September     Two five-
  278 Central Way                                                                              16, 1999   16, 2009      year options
  Kirkland, WA 98033
                                         (table continued on following page)
</TABLE>
                                       29
<PAGE>
<TABLE><CAPTION>
                                                            Book                                      Lease
                                                           Value                             -------------------
                                               Total       As of                                        Date of
                                              Cost of     December     Square      Owned/     Initial    Termi-        Renewal
                            Year Opened       Assets      31, 2001      Feet       Leased     Lease      nation         Terms
                            ------------      -------      ------      ------      ------    --------   --------      ---------
<S>                         <C>               <C>          <C>         <C>         <C>       <C>        <C>           <C>
Branch Locations Cont:                                           (Dollars in Thousands)
----------------------
Juanita Office               August 2001        1,730       1,646       4,118      Owned        --          --            --
  13633 100th Ave. NE
  Kirkland, WA 98034

Loan Production Office:
-----------------------
Tacoma Loan Office          January 1999           20           8         500      Leased   January 1,  December 31,  Month to month
  2323 N 31st St., Suite 200                                                                1999        2001          after initial
  Tacoma, WA 98403                                                                                                    term
  (Originally opened October 1996)
</TABLE>
     A branch site has also been acquired to replace the existing Ballard Branch
with an anticipated opening during third quarter 2002. Additionally, a site has
been acquired in Woodinville for construction of a branch site expected to begin
operations during the fourth quarter of 2002. Negotiations are currently taking
place for one other de novo branch site, located on the east side of Lake
Washington, which is the Bank's primary focus for enlarging the branch
franchise. Consistent with this strategy, the Bank has announced the closure of
the Bellingham Branch. The Bellingham location, 88 miles from Bellevue, proved
difficult to support, as it required additional advertising buys to reach that
marketplace.

     The Bank reviews the utilization of its properties on a regular basis and
believes that it has adequate facilities for current operations. The Bank may
open new branches from time-to-time, and on a selective basis, depending on the
availability of capital resources, the locations potential for growth and
profitability, and if the business model for the branch is favorable.

     The Bank regularly analyzes demographic and geographic data as well as
information regarding the Bank's competitors and its current loan and deposit
customers in order to locate potential future bank sites. Specific criteria is
gathered for each potential geographic area identified. The criteria is then
weighted as to importance to the Bank, its customers and its target market and a
ranking is made of the various locations under analysis.

ITEM 3. LEGAL PROCEEDINGS
-------------------------
     At December 31, 2001, we were not engaged in any legal proceedings, which
in the opinion of management, after consultation with our counsel, that would be
material to our financial condition either individually or in the aggregate.

ITEM 4. SUBMISSION OF MATTERS TO A 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, 2001.





                                       30
<PAGE>
                                     PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
-----------------------------------------------------------------------------
     The information contained under the caption "Stock Information" in the
Annual Report is incorporated herein by reference.

     The following table provides the cash dividends declared by the Company
(and the Bank as its predecessor) during the last three fiscal years. All
amounts have been adjusted for stock dividends and the dilutive effect of stock
options.

Quarter Ending  Fiscal 2001  Fiscal 2000  Fiscal 1999  Fiscal 1998  Fiscal 1997
--------------  -----------  -----------  -----------  -----------  -----------

Fiscal year       $0.220       $0.200       $0.200       $0.600       $0.501

March 31           0.050        0.050        0.050        0.450        0.029
June 30            0.050        0.050        0.050        0.050        0.034
September 30       0.050        0.050        0.050        0.050        0.034
December 31        0.070        0.050        0.050        0.050        0.404


ITEM 6. SELECTED FINANCIAL DATA
-------------------------------
     The information contained in the section captioned "Selected Financial
Data" in the Annual Report is incorporated herein by reference.

YIELDS EARNED AND RATES PAID
----------------------------
     The Bank's pretax earnings depend significantly on its net interest income,
which is the difference between the income it receives on its loan portfolio and
other investments and its cost of money, consisting primarily of interest paid
on savings deposits and FHLB advances. Net interest income is affected by: (i)
the difference between rates of interest earned on its interest-earning assets
and rates paid on its interest-bearing liabilities ("interest rate spread") and
(ii) the relative amounts of its 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.

     At December 31, 2001, the Bank's portfolio of loans consisted of 88%
adjustable-rate and 12% fixed-rate loans. The Bank has employed various measures
designed to make yields on its loan portfolio and investments interest-rate
sensitive. They have included: (i) adoption of a policy under which the Bank
generally originates and sells long-term, fixed-rate mortgage loans which have
been written to specifications promulgated by the Federal Home Loan Mortgage
Corporation ("Freddie Mac") and Federal National Mortgage Association ("Fannie
Mae") and qualify for sale in the secondary market, (ii) emphasis on origination
of adjustable-rate mortgage loans on residential and commercial properties,
(iii) origination of construction loans secured by residential and commercial
properties, at interest rates subject to periodic adjustment based upon the
prevailing market rates, (iv) origination of business loans at interest rates
subject to periodic adjustment based on prevailing market rates, and (v)
origination of direct and indirect consumer loans at interest rates subject to
periodic adjustment based upon the prevailing rates. See "Lending Activities"
and "Interest Rate Risk Management."



                                       31
<PAGE>
                              AVERAGE BALANCE SHEET
                              ---------------------
     The following table presents for the periods indicated, information
regarding average balances of assets and liabilities as well as the total dollar
amounts of interest income from average interest-earning assets and interest
expense on average interest-bearing liabilities, resulting interest rate spread,
and ratio of interest-earning assets to interest-bearing liabilities. Averages
are calculated using monthly averages. The Bank follows the practice of stopping
interest accruals on loans past due 90 days and over unless it is reasonably
assured that all principal and interest due on the loan will be fully recovered.
The interest income on loans for all years presented below excludes the interest
beyond the 90 day period. These amounts were immaterial for all periods
presented. Interest income on tax-free municipal bonds are not shown on a
tax-equivalent basis.
<TABLE><CAPTION>
                                              At December 31,                         Years Ended December 31,
                                            -------------------   ------------------------------------------------------------------
                                                    2001                        2001                              2000
                                            -------------------   -------------------------------   -------------------------------
                                                        Average                           Average                           Average
                                                        Yield/     Average                Yield/     Average                Yield/
                                             Balance     Cost      Balance    Interest     Cost      Balance     Interest    Cost
                                            ---------   -------   ---------   ---------   -------   ---------   ---------   -------
                                                                                       (Dollars in Thousands)
<S>                                         <C>         <C>       <C>         <C>         <C>       <C>         <C>         <C>
Interest-earning assets:
  Loans receivable..........................$ 567,554      9.17%  $ 535,229   $  46,453      8.68%  $ 474,144   $  43,682      9.21%
  Mortgage-backed securities................   71,234      5.78      62,369       3,818      6.12      65,503       4,232      6.46
  Corporate and municipal bonds.............    1,113      5.91       2,796         161      5.76       3,485         193      5.54
  Short-term investments....................    5,761      1.52       8,261         259      3.14       1,931          71      3.68
  U.S. securities...........................       --      0.00      21,501       1,480      6.88      47,660       2,768      5.81
  Other equity investments..................    9,759      7.00       8,252         558      6.76       7,484         483      6.45
                                            ---------             ---------   ---------             ---------   ---------
    Total interest-earning assets...........  655,421      8.69     638,407      52,729      8.26     600,207      51,429      8.57

Non-interest earning assets................    22,927        --      22,383          --        --      11,967          --        --
                                            ---------             ---------                         ---------
Total assets............................... $ 678,348        --   $ 660,790          --        --   $ 612,174          --        --
                                            =========             =========                         =========
Interest-bearing liabilities:
  Deposits..................................$ 428,669      3.50     334,483      22,708      6.79   $ 433,601      22,987      5.30
  FHLB advances and other borrowed money....  191,354      4.32     149,500       8,694      5.82     127,239       7,932      6.23
                                            ---------             ---------   ---------             ---------   ---------
Total interest-bearing liabilities.........   620,023      3.75     483,983      31,402      6.49     560,840      30,919      5.51

Non-interest-bearing liabilities - deposits
  and other...............................      6,354               127,863          --        --       8,707          --        --
                                            ---------             ---------                         ---------
    Total liabilities.......................  626,377               611,846          --        --     569,547          --        --
Shareholders' equity.......................    51,971                48,944          --        --      42,627          --        --
                                            ---------             ---------                         ---------
Total liabilities and shareholders' equity..$ 678,348             $ 660,790          --        --   $ 612,174          --        --
                                            =========             =========                         =========
Net interest income.........................                                  $  21,327                         $  20,510
                                                                              =========                         =========
Ratio of average interest-earning assets
  to average interest-bearing liabilities...                          1.19x                             1.07x
Interest rate spread........................                                                 1.77%                             3.06%
Net yield (net interest income as a percentage
  of average interest-earning assets).......                                       3.34%                             3.42%
Amortized loan fees included in loan
  receivable interest income................                                  $     981                         $   1,165





                                                Years Ended December 31,
                                            -------------------------------
                                                          1999
                                            -------------------------------
                                                                    Average
                                             Average                Yield/
                                             Balance     Interest    Cost
                                            ---------   ---------   -------
                                                (Dollars in Thousands)

Interest-earning assets:
  Loans receivable..........................$ 411,406   $  35,481      8.62%
  Mortgage-backed securities................   60,609       3,678      6.07
  Corporate and municipal bonds.............    3,165         173      5.47
  Short-term investments....................      860          37      4.30
  U.S. securities...........................   42,231       2,564      6.10
  Other equity investments..................    5,339         385      7.21
                                            ---------   ---------
    Total interest-earning assets...........  523,610      42,318      8.08

Non-interest earning assets................    11,563          --        --
                                            ---------
Total assets............................... $ 535,173          --        --
                                            =========

Interest-bearing liabilities:
  Deposits..................................$ 393,372      18,601      4.73
  FHLB advances and other borrowed money....   94,202       4,692      4.98
                                            ---------   ---------
Total interest-bearing liabilities.........   487,574      23,293      4.78

Non-interest-bearing liabilities - deposits
  and other...............................     10,599          --        --
                                            ---------
    Total liabilities.......................  498,173          --        --
Shareholders' equity.......................    37,000          --        --
                                            ---------
Total liabilities and shareholders' equity..$ 535,173          --        --
                                            =========

Net interest income.........................            $  19,025
                                                        =========
Ratio of average interest-earning assets
  to average interest-bearing liabilities...    1.08x
Interest rate spread........................                           3.30%
Net yield (net interest income as a percentage
  of average interest-earning assets).......                3.63%

Amortized loan fees included in loan
  receivable interest income................            $   1,083
</TABLE>
                                       32
<PAGE>
RATE VOLUME ANALYSIS
--------------------
     The "Rate Volume Analysis" table is contained in the section captioned
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in the Annual Report, which is incorporated herein by reference.

KEY OPERATING RATIOS
--------------------
     The following table provides certain performance ratios of the Bank for the
periods indicated.

<TABLE><CAPTION>
                                                                     Years Ended December 31,
                                                      ------------------------------------------------------
                                                       2001        2000        1999        1998        1997
                                                      ------      ------      ------      ------      ------
<S>                                                   <C>         <C>         <C>         <C>         <C>
Return on average assets (net income divided
   by average total assets)........................     1.05%       1.08%       1.12%       1.11%       1.05%

Return on average equity (net income divided
   by average equity)..............................    14.14       15.48       16.22       15.95       15.57

Average equity to average assets ratio (average
   equity divided by average total assets).........     7.41        6.96        6.91        6.99        6.73

Dividend payout ratio..............................    14.94%      14.18%      15.30%      49.00%      45.80%
</TABLE>

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
-------------------------------------------------------------------------------
     OF OPERATIONS
     -------------
     The information contained under the section captioned "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in the
Annual Report is incorporated herein by reference.


ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
--------------------------------------------------------------------
     The information contained in the section captioned "Management's Discussion
and Analysis of Financial Condition and Results of Operations -- Market Risk
Sensitive Instruments" in the Annual Report is incorporated herein by reference.

     The following table sets forth certain information regarding carrying
values and percentage of total carrying values of the Company's consolidated
portfolio of securities classified as available-for-sale and held-to-maturity
(in thousands).












                                       33
<PAGE>
<TABLE><CAPTION>
                                                    ---------------------------------------------------
                                                                      At December 31
                                                    ---------------------------------------------------
                                                             2001                        2000
                                                    -----------------------     -----------------------
                                                    Carrying       Percent      Carrying       Percent
AVAILABLE-FOR-SALE:                                   Value        of Total       Value        of Total
-------------------                                 -----------------------     -----------------------
<S>                                                 <C>            <C>          <C>            <C>
US Government Treasury and agency obligations       $     --            0%      $     --            0%
Municipal Bonds                                           --            0%            --            0%
Corporate Bonds                                           --            0%            --            0%
Mortgage backed securities:
     Ginnie Mae                                           --            0%         1,694            4%
     Freddie Mac                                       5,284           11%           430            1%
     Fannie Mae (includes FNMA stock)                 40,677           89%        36,524           95%
                                                    -----------------------     -----------------------
Total mortgage-backed securities                      45,961          100%        38,648          100%
CMO's                                                     --            0%            --            0%
                                                    -----------------------     -----------------------
===========================================================================     =======================
TOTAL SECURITIES AVAILABLE-FOR-SALE                 $ 45,961          100%      $ 38,648          100%
===========================================================================     =======================



                                                    ---------------------------------------------------
                                                                      At December 31
                                                    ---------------------------------------------------
                                                             2001                        2000
                                                    -----------------------     -----------------------
                                                    Carrying       Percent      Carrying       Percent
HELD-TO-MATURITY:                                     Value        of Total       Value        of Total
-----------------                                   -----------------------     -----------------------
US Government Treasury and agency obligations       $     --            0%      $ 46,666           55%
Municipal Bonds                                        1,113            5%         1,121            1%
Corporate Bonds                                           --            0%         2,523            3%
Mortgage backed securities:
     Ginnie Mae                                           --            0%            --            0%
     Freddie Mac                                       1,104            4%         1,528            2%
     Fannie Mae                                       24,069           91%        32,858           39%
                                                    -----------------------     -----------------------
Total mortgage-backed securities                      25,173           95%        34,386           41%
CMO's                                                    100            0%           346            0%
                                                    -----------------------     -----------------------
===========================================================================     =======================
TOTAL SECURITIES HELD-TO-MATURITY                   $ 26,386          100%      $ 85,042          100%
===========================================================================     =======================
============================================================                    ========
ESTIMATED MARKET VALUE                              $ 26,891                    $ 84,632
============================================================                    ========
</TABLE>








                                       34
<PAGE>
     The following table shows the maturity or period to repricing of the
Company's consolidated portfolio of securities available-for-sale and
held-to-maturity (dollars in thousands):
<TABLE><CAPTION>
                                                       ---------------------------------------------------------
                                                                  Available-for-sale at December 31, 2001
                                                       ---------------------------------------------------------
                                                           One Year           Over One to        Over Three to
                                                            or Less           Three Years          Five Years
                                                       ---------------------------------------------------------
                                                                Weighted            Weighted            Weighted
                                                      Carrying   Average  Carrying   Average  Carrying   Average
AVAILABLE-FOR-SALE:                                    Value     Yield     Value     Yield     Value     Yield
-------------------                                   ---------------------------------------------------------
<S>                                                    <C>                 <C>                 <C>                 <C>
US Government Treasury and agency obligations          $    --     0.00%   $    --     0.00%   $    --     0.00%
Municipal Bonds                                             --     0.00%        --     0.00%        --     0.00%
Corporate Bonds                                             --     0.00%        --     0.00%        --     0.00%
Mortgage backed securities:
     Ginnie Mae                                             --     0.00%        --     0.00%        --     0.00%
     Freddie Mac                                           376     6.46%        --     0.00%        --     0.00%
     Fannie Mae                                            792     7.30%        --     0.00%        --     0.00%
                                                       -------   -------   -------   -------   -------   -------
Total mortgage-backed securities                         1,168     6.77%        --     0.00%        --     0.00%
CMO's                                                       --     0.00%        --     0.00%        --     0.00%
Other - Stock                                               --     0.00%        --     0.00%        --     0.00%
================================================================================================================
Total securities available-for-sale -- Carrying Value  $ 1,168     7.03%   $    --     0.00%   $    --     0.00%
================================================================================================================
================================================================================================================
Total securities available-for-sale -- Amortized Cost  $ 1,125     7.03%   $    --     0.00%   $    --     0.00%
================================================================================================================


                                                       -----------------------------------------------------------------------------
                                                                          Available-for-sale at December 31, 2001
                                                       -----------------------------------------------------------------------------
                                                         Over Five to         Over Ten to
                                                           Ten Years          Twenty Years     Over Twenty Years       Total
                                                       -----------------------------------------------------------------------------
                                                                Weighted            Weighted            Weighted            Weighted
                                                      Carrying   Average  Carrying   Average  Carrying   Average  Carrying   Average
AVAILABLE-FOR-SALE:                                     Value     Yield     Value     Yield     Value     Yield     Value     Yield
-------------------                                    -----------------------------------------------------------------------------
US Government Treasury and agency obligations          $    --     0.00%   $    --     0.00%   $    --     0.00%   $    --     0.00%
Municipal Bonds                                             --     0.00%        --     0.00%        --     0.00%        --     0.00%
Corporate Bonds                                             --     0.00%        --     0.00%        --     0.00%        --     0.00%
Mortgage backed securities:
     Ginnie Mae                                             --     0.00%        --     0.00%        --     0.00%        --     0.00%
     Freddie Mac                                         4,908     5.50%        --     0.00%        --     0.00%     5,284     5.57%
     Fannie Mae                                         19,259     5.50%    12,098     5.67%     8,528     6.07%    40,677     5.70%
                                                       -------   -------   -------   -------   -------   -------   -------   -------
Total mortgage-backed securities                        24,167     5.50%    12,098     5.67%     8,528     6.07%    45,961     5.68%
CMO's                                                       --     0.00%        --     0.00%        --     0.00%        --     0.00%
Other - Stock                                               --     0.00%        --     0.00%        --     0.00%        --     0.00%
====================================================================================================================================
Total securities available-for-sale -- Carrying Value  $24,167     5.50%   $12,098     5.67%   $ 8,528     6.07%   $45,961     5.69%
====================================================================================================================================
====================================================================================================================================
Total securities available-for-sale -- Amortized Cost  $24,211     5.50%   $12,340     5.56%   $ 8,575     6.03%   $46,251     5.65%
====================================================================================================================================
</TABLE>
                                       35
<PAGE>
<TABLE><CAPTION>
                                                       ---------------------------------------------------------
                                                                 Held-to-Maturity at December 31, 2001
                                                       ---------------------------------------------------------
                                                           One Year           Over One to        Over Three to
                                                            or Less           Three Years          Five Years
                                                       ---------------------------------------------------------
                                                                Weighted            Weighted            Weighted
                                                      Carrying   Average  Carrying   Average  Carrying   Average
HELD-TO-MATURITY:                                       Value     Yield     Value     Yield     Value     Yield
-----------------                                      ---------------------------------------------------------
<S>                                                    <C>                 <C>                 <C>                 <C>
US Government Treasury and agency obligations          $    --     0.00%   $    --     0.00%   $    --     0.00%
Municipal Bonds                                             --     0.00%        --     0.00%        --     0.00%
Corporate Bonds                                             --     0.00%        --     0.00%        --     0.00%
Mortgage backed securities:
     Ginnie Mae                                             --     0.00%        --     0.00%        --     0.00%
     Freddie Mac                                         1,104     7.00%        --     0.00%        --     0.00%
     Fannie Mae                                          3,841     7.48%       644     5.67%    16,134     5.65%
                                                       -------   -------   -------   -------   -------   -------
Total mortgage-backed securities                         4,945     7.37%       644     5.67%    16,134     5.65%
CMO's                                                       34     6.00%        --     0.00%        --     0.00%
Other - Stock                                               --     0.00%        --     0.00%        --     0.00%
================================================================================================================
Total securities held-to-maturity -- Carrying Value    $ 4,979     7.37%   $   644     5.67%   $16,134     5.65%
================================================================================================================
================================================================================================================
Total securities held-to-maturity -- Fair Market Value $ 5,143     7.37%   $   656     5.67%   $16,413     5.65%
================================================================================================================



                                                       -----------------------------------------------------------------------------
                                                                           Held-to-Maturity at December 31, 2001
                                                       -----------------------------------------------------------------------------
                                                         Over Five to         Over Ten to
                                                           Ten Years          Twenty Years     Over Twenty Years        Total
                                                       -----------------------------------------------------------------------------
                                                                Weighted            Weighted            Weighted            Weighted
                                                      Carrying   Average  Carrying   Average  Carrying   Average  Carrying   Average
HELD-TO-MATURITY:                                       Value     Yield     Value     Yield     Value     Yield     Value     Yield
-----------------                                      -----------------------------------------------------------------------------
US Government Treasury and agency obligations          $    --     0.00%   $    --     0.00%   $    --     0.00%   $    --     0.00%
Municipal Bonds                                             --     0.00%       220     5.38%       893     6.05%     1,113     5.92%
Corporate Bonds                                             --     0.00%        --     0.00%        --     0.00%        --     0.00%
Mortgage backed securities:
     Ginnie Mae                                             --     0.00%        --     0.00%        --     0.00%        --     0.00%
     Freddie Mac                                            --     0.00%        --     0.00%        --     0.00%     1,104     7.00%
     Fannie Mae                                          3,038     5.50%        --     0.00%       412     7.50%    24,069     5.96%
                                                       -------   -------   -------   -------   -------   -------   -------   -------
Total mortgage-backed securities                         3,038     5.50%        --     0.00%       412     7.50%    25,173     6.00%
CMO's                                                       --     0.00%        --     0.00%        66     6.50%       100     6.33%
Other - Stock                                               --     0.00%        --     0.00%        --     0.00%        --     0.00%
====================================================================================================================================
Total securities held-to-maturity -- Carrying Value    $ 3,038     5.50%   $   220     5.38%   $ 1,371     6.50%    26,386     6.00%
====================================================================================================================================
====================================================================================================================================
Total securities held-to-maturity -- Fair Market Value $ 3,079     5.50%   $   218     5.38%   $ 1,382     6.51%    26,891     6.00%
====================================================================================================================================
</TABLE>
                                       36
<PAGE>


ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
---------------------------------------------------
     The financial statements contained in the Annual Report, which are listed
under Item 14 herein, are incorporated herein by reference.


ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
-----------------------------------------------------------------------
     FINANCIAL DISCLOSURE
     --------------------
     The information contained in the section "Change of Accountants" in the
Annual Report is incorporated herein by reference.















































                                       37
<PAGE>
                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
-----------------------------------------------------------
     The information contained under the section captioned "Proposal 1. Election
of Directors" in the Company's Proxy Statement is incorporated herein by
reference. Reference is made to the cover page of this report for information
regarding compliance with Section 16(a) of the Exchange Act.

     The following table sets forth certain information with respect to the
executive officers of the Company and the Bank.

<TABLE><CAPTION>
                     Age at                              Position
                     December    ----------------------------------------------------------------
Name                 31, 2001    Company                           Bank
----                 --------    -------                           ----
<S>                  <C>         <C>                               <C>
John R. Valaas          57       President and Chief Executive     President and Chief Executive Officer
                                 Officer

Roger A. Mandery        59       Executive Vice President and      Executive Vice President - Chief Financial
                                 Treasurer                         Officer, Treasurer and Assistant Secretary

Richard J. Collette     54       Executive Vice President          Executive Vice President, Commercial
                                                                   Banking Group Manager

James R. Boudreau       54       Executive Vice President          Executive Vice President - Chief Credit
                                                                   Officer

Kari Stenslie           37       Vice President - Controller       Vice President - Controller

Robin R. Carey          44                                         Senior Vice President - Operations and
                                                                   Administration

Scott Harlan            40                                         Senior Vice President - Residential and
                                                                   Consumer Lending Operations
</TABLE>
     The following is a description of the principal occupation and employment
of the executive officers of the Bank during at least the past five years:

     JOHN R. VALAAS is the President and Chief Executive Officer for First
Mutual Bank and First Mutual Bancshares, Inc. Prior to his appointment as
President of the Bank, Mr. Valaas was Senior Vice President and manager of the
Commercial Financial Services Division at Seafirst Bank where he was employed
from 1983 to 1992. Mr. Valaas has over 30 years of experience in commercial
banking.

     RICHARD J. COLLETTE is First Mutual's Executive Vice President and Manager
of it's Commercial Banking Group and First Mutual Bancshares, Inc. Executive
Vice President. His responsibilities include overseeing commercial real estate
lending and business banking. Prior to joining the Bank in December of 2001, he
was the Northwest Region's Senior Credit Risk Management Executive for Bank of
America where he was employed from 1973 to 2001. Mr. Collette has over 28 years
of experience in commercial banking.

     ROGER A. MANDERY, CPA, is Executive Vice President for First Mutual Bank
and First Mutual Bancshares, Inc. Prior to serving in that capacity, from March
1984 to 1989, he was Senior Vice President of Finance. Mr. Mandery serves as the
Bank's Chief Financial Officer and in this capacity is responsible for the
Bank's treasury, accounting, internal audit, retail branches, and
asset/liability functions.
                                       38
<PAGE>
     JAMES R. BOUDREAU is First Mutual's Executive Vice President and Chief
Credit Officer and First Mutual Bancshares, Inc. Executive Vice President; he
has been employed by the Bank since 1975. He is responsible for overseeing
lending policies for all lending areas of the Bank. He chairs the Bank's Loan
Committee and supervises the asset management and residential underwriting
departments.

     KARI STENSLIE, CPA, CMA, is the Vice President and Controller for First
Mutual Bank and First Mutual Bancshares, Inc. and has been employed by the Bank
since 1988. She is responsible for the Bank's accounting systems, financial
reporting, tax accounting functions, and financial analysis.

     ROBIN R. CAREY is First Mutual's Senior Vice President of Operations and
Administration and has been employed by the Bank since 1979. She is responsible
for overseeing central banking operations, facilities, loan servicing, and human
resources.

     SCOTT HARLAN is the Bank's Senior Vice President of Residential and
Consumer Lending and has been employed by the Bank since 1985. He is responsible
for the home equity, consumer, residential lending, secondary marketing, and the
information systems departments.


ITEM 11. EXECUTIVE COMPENSATION
-------------------------------
     The information required by this item is incorporated by reference to the
section captioned - "Proposal I - Executive Compensation" in the Proxy
Statement.


ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
-----------------------------------------------------------------------
     The information required by this item is incorporated herein by reference
to the sections captioned "Proposal I - Election of Directors" and "Principal
Holders of Voting Securities and Management" in the Company's definitive proxy
statement for the Company's 2002 Annual Meeting of Shareholders.


ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
-------------------------------------------------------
     The information required by this item is incorporated by reference to the
section captioned - "Proposal I - Board of Directors Committees and Reports;
Certain Relationships and Director and Executive Compensation" in the Proxy
Statement.

















                                       39
<PAGE>
                                     PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
-------------------------------------------------------------------------
(a) (1)     Consolidated Financial Statements (*)
            ---------------------------------
            Independent Auditors' Report
            Consolidated Statements of Financial Condition at December 31, 2001
              and 2000
            Consolidated Statements of Income for the three years ended
              December 31, 2001
            Consolidated Statements of Stockholders' Equity for the three years
              ended December 31, 2001
            Consolidated Statements of Cash Flows for the three years ended
              December 31, 2001
            Notes to Consolidated Financial Statements

    (2)     All required financial statement schedules are included in the Notes
            to Consolidated Financial Statements.

(b)  NONE.

(c)  Exhibits

    (3)     a.  Articles of Incorporation (a)
            b.  Bylaws (a)

    (11)    Statement regarding computation of per share earnings. Reference is
            made to the Company's Consolidated Statements of Income attached
            hereto as part of Exhibit 13, which are incorporated herein by
            reference.

    (13)    2001 Annual Report to Shareholders.

    (16)    A Form 8-K was filed on September 21, 2000 in connection with the
            change in independent auditors. (b)

    (21)    Subsidiaries.

    (23.1)  Consent of Moss Adams LLP, Independent Auditors.

    (23.2)  Consent of Deloitte & Touche LLP, Independent Auditors.

    (23.3)  Deloitte & Touche LLP, Independent Auditors Report.

(*)  Incorporated by reference from 2001 Annual Report to Shareholders attached
     hereto as Exhibit 13.

(a)  Incorporated by reference to the Report on Form 8-K filed with the
     SEC on November 10, 1999.

(b)  Incorporated by reference to the Report on Form 8-K filed with the
     SEC on September 21, 2000.










                                       40
<PAGE>
                                   SIGNATURES

     Pursuant to the requirements of Section 13 of the Securities Exchange Act
of 1934, the Registrant has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.

                                             FIRST MUTUAL BANCSHARES, INC.

DATE:  March 27, 2002                        BY:  /s/ John R. Valaas
                                                  -----------------------------
                                                  John R. Valaas, President and
                                                  Chief Executive Officer and
                                                  Duly Authorized Representative

     Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.

By: /s/ Roger A. Mandery                     By:  /s/ Victor E. Parker
    ----------------------------                  ----------------------------
    Roger A. Mandery                              Victor E. Parker
    Principal Financial Officer                   Director

Date:  March 27, 2002                        Date:  March 27, 2002


By: /s/ Kari A. Stenslie                     By:  /s/ George W. Rowley, Jr.
    ----------------------------                  ----------------------------
    Kari A. Stenslie                              George W. Rowley, Jr.
    Principal Accounting Officer                  Director

Date:  March 27, 2002                        Date: March 27, 2002


By: /s/ F. Kemper Freeman, Jr.               By:  /s/ Richard S. Sprague
    ----------------------------                  ----------------------------
    F. Kemper Freeman, Jr.                        Richard S. Sprague
    Chairman of the Board                         Director

Date:  March 27, 2002                        Date:  March 27, 2002


By: /s/ James J. Doud, Jr.                   By:  /s/ John R. Valaas
    ----------------------------                  ----------------------------
    James J. Doud, Jr.                            John R. Valaas
    Director                                      Director

Date:  March 27, 2002                        Date:  March 27, 2002


By: /s/ Mary Case Dunnam                     By:  /s/ Robert C. Wallace
    ----------------------------                  ----------------------------
    Mary Case Dunnam                              Robert C. Wallace
    Director                                      Director

Date:  March 27 , 2002                       Date:  March 27, 2002

By: /s/ Janine Florence
    ----------------------------
    Janine Florence
    Director

Date:  March 27, 2002
                                       41