<PAGE>
 
                      SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C.  20549

                                   FORM 10-K

            FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS
              13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

(Mark One)
[X]  ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934 [FEE REQUIRED]
     For the fiscal year ended December 31, 1998
 
[ ]  TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
     For the transition period from              to

 
                        Commission file number  0-18533
 
                 LETCHWORTH INDEPENDENT BANCSHARES CORPORATION
     --------------------------------------------------------------------
              (Name of Small Business Registrant in Its Charter)
 
             New York                                16-1168175
------------------------------------      ---------------------------------
    (State or Other Jurisdiction                   (I.R.S. Employer
  of Incorporation or Organization)             Identification Number)

 50 North Main Street, Castile, New York                14427
---------------------------------------------------------------------------
 (Address of Principal Executive Offices)             (Zip Code)

                                (716) 493-2577
               ------------------------------------------------
             (Registrant's Telephone Number, Including Area Code)

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

Securities registered under Section 12(g) of the Act:

                         Common Stock, $1.00 par value
                               (Title of Class)

     Check whether the Registrant:  (1) 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

                                       1
<PAGE>
 
     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 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 ]

The aggregate market value of the shares of Registrant's voting stock held by
non-affiliates of Registrant as of March 26, 1999 was $42,015,024, based upon
the average "Bid" and "Ask" price of Registrant's common stock on said date.

  The number of shares outstanding of Registrant's common stock as of March 16,
1999 was 3,391,650 shares.

                      Documents Incorporated by Reference

     None

                                    PART I

Item 1 -  Description of Business

General

     Letchworth Independent Bancshares Corporation is a bank holding company
incorporated under the laws of the State of New York in 1981 (the "Company").
The Company has only one banking subsidiary, The Bank of Castile, a commercial
bank formed in 1869 and incorporated under the laws of the State of New York in
1917 (the "Bank").  The Bank is a full service, community-oriented, commercial
bank which offers a full range of commercial banking and consumer banking
services to businesses and individuals. During 1997, the Bank was approved by
its regulators to amend its charter to allow it to offer trust and investment
services.

Market Area

     The Bank conducts its operations through its main office located in
Castile, New York, and at its ten(10) branch offices in towns situated in and
around the areas commonly known as the Letchworth State Park area and the
Genesee Valley region of New York State.  Specifically, the Bank has branch
offices in the Towns of Arcade, Avon, Batavia, Caledonia, Gainesville, Geneseo,
LeRoy, Perry, York(Retsof), and Warsaw in addition to its main office in
Castile. In July, 1997, the Bank purchased a 9,600 square foot, one-story
building in Geneseo, New York. The exterior of the building was renovated as was
one-half of the interior for use as the Bank's eleventh branch office, which
opened on January 5, 1998. On December 2, 1994, the Bank purchased the Caledonia
and Avon offices of The Chase Manhattan Bank (National Association) ("Chase
Manhattan").  Chase Manhattan's Avon office was combined with

                                       2
<PAGE>
 
the Bank's existing Avon office and the Caledonia office became the 9th branch
of the Bank.  The Bank's primary market includes the counties of Livingston,
Wyoming, and Genesee.  In addition, adjoining sections of the surrounding
counties of Cattaraugus, Allegany, Monroe, and Erie are also serviced.  The Bank
continues to place emphasis on the Route 5 Corridor just south of Monroe County
and the City of Rochester.

Banking Services

     The Bank is engaged in the general commercial banking business and provides
a full scope of loan and deposit services related thereto.  All of the deposit
accounts offered by the Bank are insured by the Federal Deposit Insurance
Corporation ("FDIC") up to $100,000 per depositor.  The Bank also offers a wide
range of retail services including checking, savings, and money market accounts,
as well as various types of time deposit instruments. Mortgage lending
activities include a variety of commercial, industrial and residential loans
secured by real estate and the Bank's installment loan department makes direct
auto, home improvement, and personal loans to individuals.  The Bank also offers
safety deposit box services at all of its branches.  The Bank has been approved
by the appropriate regulatory authorities to alter its charter to allow the Bank
to offer trust and investment services. These services are provided to the
Bank's customers pursuant to a relationship with Tompkins County Trust Company.
In the fourth quarter of 1997, a trust officer was hired and customer
relationships are presently being developed with assistance from Tompkins County
Trust Company of Ithaca, New York. Tompkins County Trust Company has over 100
years of experience in providing trust services to its customers and is highly
regarded.

     In addition, beginning in 1992, the Bank, through an arrangement with
Circuit Agency, Inc., an affiliate of the New York State Bankers Association,
enabled annuity products to be offered to its customers.

     All of the Bank's lending is in its market area and approximately twenty
percent (20%) of its loans are concentrated in the farming and agricultural or
related industries.  The Bank has no foreign loans.  No other single industry or
group of related industries are responsible for a significant portion of the
Bank's loans.  The Bank has no material concentrations of deposits from any
single customer or group of customers, nor does it rely on foreign sources of
funds or brokered deposits.  The Bank does not utilize off-balance sheet
derivative instruments.

Competition

     Management believes that the Company is a prominent financial institution
in its market area.  Although the Bank faces competition for deposits from other
bank and non-bank financial institutions, the Bank 

                                       3
<PAGE>
 
has been able to compete effectively for deposits because of its image in the
community as a community-oriented bank and the loyalty of its local customers.
The Bank has emphasized personalized banking services and the advantage of local
decision-making in its banking business, and this emphasis appears to have been
well received by the public in the Bank's market area.

     The Bank competes for deposits principally by offering depositors a wide
variety of deposit programs, convenient branch locations and hours, tax-deferred
retirement programs, and other services, as well as providing the personalized
services and local decision-making noted above.  The Bank also utilizes local
advertising to attract deposits.

     In addition, the Bank is a major provider of mortgage loans in its market
area.  Although the Bank faces competition for real estate loans from mortgage
banking companies, savings banks, savings and loans associations, other
commercial banks, insurance companies and other institutional lenders,
management believes that the Bank's image in the community as a local bank gives
the Bank a substantial competitive advantage.  Factors which affect competition
include the general availability of lendable funds and credit, general and local
economic conditions, current interest rate levels and mobility in the mortgage
markets.

Regulation

     The Company is a bank holding company subject to the provisions of the Bank
Holding Company Act of 1956, as amended (the "Act").  As a bank holding company,
the Company is required to file annual reports and such additional information
as may be required by the Federal Reserve Board pursuant to the Act.  The
Federal Reserve Board has the authority to examine the Company and its
subsidiaries.

     The Bank is a stock form commercial bank chartered under the laws of the
State of New York, and its deposits are insured by the FDIC. As such, the Bank
is subject to the regulation, examination and supervision of the Banking
Department of the State of New York and the FDIC.  Such supervision and
regulation, intended primarily for the protection of depositors, restricts or
prohibits certain activities and neither the Company nor the Bank may enter into
certain transactions without meeting applicable regulatory tests, or without
notification to or prior approval of certain regulatory agencies.  Although the
Bank is not a member of the Federal Reserve System, it is also subject to
Federal Reserve Board regulations that require it to maintain certain reserves
against its transaction accounts (primarily checking and NOW accounts).

                                       4
<PAGE>
 
Personnel

     As of December 31, 1998, the Company and its subsidiaries had 113 full-time
employees and 51 part-time employees.  The employees are not represented by any
collective bargaining unit, and the Company's management and the Bank's
management considers its relationship with its employees to be good.


Statistical Disclosure

  Distribution of Assets, Liabilities and Shareholders' Equity; Interest Rates
  ----------------------------------------------------------------------------
and Interest Differential
-------------------------

  The following table reflects the components of the Company's average assets,
liabilities and shareholders' equity, interest income earned and interest
expense paid, average rates earned and paid, and the net interest margin for the
years ended December 31, 1998, 1997, and 1996, respectively.

<TABLE>
<CAPTION>
                                         December 31, 1998
                                 -----------------------------------
<S>                              <C>            <C>          <C>    
Assets
                                 Average                     Average
Interest-earning assets          Balance        Interest     Yield
                                 ------------   -----------  -------
Loans
     Loans (1)                   $172,437,000   $16,349,568     9.48%
     Less allowance for
     possible loan losses        (  2,171,000)
                                 ------------
     Net Loans                    170,266,000
 
Investment securities
     Taxable                       42,186,000     2,632,681     6.24
     Tax-exempt                    31,508,000     1,518,300     4.82
                                 ------------   -----------
     Total investment
     securities                    73,694,000     4,150,981     5.63
 
Other interest-earning assets               -             -        -
 
Federal funds sold                  8,338,000       437,218     5.24
                                 ------------   -----------
     Total interest-
     earning assets (2)           252,298,000    20,937,767     8.30
 
Cash and due from banks             8,504,000
Premises and equipment, net         6,504,000
Accrued interest receivable         1,873,000
Other assets                        2,204,000
                                 ------------
     Total assets                $271,383,000
                                 ------------
</TABLE>

                                       5
<PAGE>
 
<TABLE>
<CAPTION>
Liabilities and
Shareholders' Equity
<S>                                        <C>             <C>               <C>
Interest-bearing liabilities
Interest-bearing demand deposits           $ 31,231,000    $   339,592       1.09%
Savings deposits                             35,528,000        820,624       2.31
Money market deposits                        14,304,000        478,070       3.34
Certificates of deposit                     116,981,000      6,550,105       5.60
                                           ------------    -----------
Total interest-bearing deposits             198,044,000      8,188,391       4.13
                                                           
Federal funds purchased                         108,000          6,092       5.64
                                                           
Securities sold under agreement                            
to repurchase                                 2,395,000        130,831       5.46
                                                           
Advances from Federal Home Loan                            
 Bank and Other                               7,332,000        485,800       6.63
                                           ------------    -----------
Total interest-bearing liabilities          207,879,000      8,811,114       4.24
                                                           
Demand deposits                              31,682,000    
Bank loan on ESOP                                73,000    
Other liabilities                             2,050,000    
Shareholders' equity                         29,699,000    
                                           ------------    
                                                           
Total liabilities and                                      
  shareholders' equity                     $271,383,000    
                                           ------------    
                                                           
Net interest income                                         12,126,653
                                                           -----------
Net interest spread                                4.06%   
                                           ------------    
Net interest margin (3)                                                      4.81%
                                                                        ---------
</TABLE> 

<TABLE> 
                                                              December 31, 1997
                                                          ---------------------------
Assets
                                      Average             Average
Interest-earning assets               Balance             Interest       Yield
                                      -----------------   -----------    -------
<S>                                   <C>                 <C>            <C> 
Loans                                                                   
           Loans (1)                   $150,225,000       $14,610,342     9.73%
           Less allowance for                                           
           possible loan losses        (  1,913,000)                    
                                       ------------                     
           Net Loans                    148,312,000                     
                                                                        
Investment securities                                                   
           Taxable                       43,768,918         3,254,623     7.44
           Tax-exempt                    33,861,814         1,302,147     3.85
                                       ------------       -----------   
           Total investment                                             
           securities                    77,630,732         4,556,770     5.87
                                                                        
Other interest-earning assets                     -                 -   
                                                                        
Federal funds sold                        5,230,000           285,446     5.46
                                       ------------       -----------   
           Total interest-                                              
           earning assets (2)           231,172,732        19,452,558     8.41
                                     
Cash and due from banks                   7,655,000   
Premises and equipment, net               5,882,000
Accrued interest receivable               1,708,000
Other assets                              2,373,056
                                       ------------
           Total assets                $248,790,788
                                       ------------
</TABLE> 

                                       6
<PAGE>
 
<TABLE> 
<S>                                    <C>                <C>            <C>
Liabilities and
  Shareholders' Equity
 
Interest-bearing liabilities
Interest-bearing demand deposits       $ 30,109,000       $   355,277     1.18%
Savings deposits                         34,760,000           858,113     2.47
Money market deposits                    11,909,000           387,591     3.25
Certificates of deposit                 106,996,000         5,850,673     5.47
                                       ------------       -----------    
Total interest-bearing deposits         183,774,000         7,451,654     4.05
                                                                         
Federal funds purchased                     123,000             7,213     5.86
                                                                         
Securities sold under agreement                                          
to repurchase                             1,837,000            99,485     5.42
                                                                         
Advances from Federal Home Loan                                          
 Bank and Other                           7,863,000           494,253     6.29
                                       ------------       -----------    
                                                                         
Total interest-bearing liabilities      193,597,000         8,052,605     4.15
                                       
Demand deposits                          25,242,302
Bank loan on ESOP                           388,814
Other liabilities                         1,611,475
Shareholders' equity                     27,951,197
                                       ------------
                                       
Total liabilities and                  
  shareholders' equity                 $248,790,788
                                       ------------
 
Net interest income                                        11,399,953
Net interest spread                                                       4.26%
                                                                          ----
Net interest margin (3)                                                           4.93%
                                                                                  ----
</TABLE> 
 
<TABLE> 
                                      December 31, 1996
                                      -----------------
Assets
                                      Average                             Average
Interest-earning assets               Balance             Interest        Yield
                                      ------------        -----------     -----
<S>                                   <C>                 <C>             <C> 
Loans
           Loans (1)                  $135,755,218        $13,203,737     9.73%
           Less allowance for
           possible loan losses       (  1,753,720)                       
                                      ------------                        
           Net Loans                   134,001,498                        
                                                                          
Investment securities                                                     
           Taxable                      55,895,608          3,530,028     6.32
           Tax-exempt                   22,296,911          1,116,078     5.01
                                      ------------        -----------     
           Total investment                                               
           securities                   78,192,519          4,646,106     5.94
                                                                          
Other interest-earning assets              792,892             50,552     6.38
                                                                          
Federal funds sold                       4,467,158            239,712     5.37
                                      ------------        -----------     
           Total interest-                                                
           earning assets (2)          217,454,067         18,140,107     8.34
                                      
                                      
Cash and due from banks                  7,814,223
Premises and equipment, net              5,168,999
</TABLE> 

                                       7
<PAGE>
 
<TABLE> 
<S>                                   <C>
Accrued interest receivable              1,793,965
Other assets                             2,445,885
                                      ------------
           Total assets               $234,677,139
                                      ------------
</TABLE> 
 
<TABLE> 
Liabilities and
  Shareholders' Equity
<S>                                        <C>             <C>               <C>  
Interest-bearing liabilities                               
Interest-bearing demand deposits           $ 29,025,668     $   378,156       1.30%
Savings deposits                             36,536,619         931,735       2.55
Money market deposits                        11,545,345         289,357       2.51
Certificates of deposit                     102,699,682       5,507,889       5.36
                                           ------------     -----------
Total interest-bearing deposits             179,807,314       7,107,137       3.95
                                                           
Federal funds purchased                         107,514           6,131
                                                           
Securities sold under agreement                            
to repurchase                                 1,942,414         101,920       5.25
                                                           
Advances from Federal Home Loan                            
 Bank and Other                               3,306,449         228,209       6.90
                                           ------------     -----------
Total interest-bearing liabilities          185,163,691       7,443,397       4.02
 
Demand deposits                              23,213,560
Other liabilities                             2,090,407
Shareholders' equity                         24,209,481
                                           ------------
 
Total liabilities and
  shareholders' equity                     $234,677,139
                                           ------------
 
Net interest income                                          10,696,710
                                                            -----------
Net interest spread                                                           4.32%
                                                                              ----
Net interest margin (3)                                                               4.92%
                                                                                      ----

</TABLE> 
 

(1)  Average loans include non-accrual loans.  Interest on loans includes loan
fees of $239,545, $224,688, and $231,243 in fiscal 1998, 1997, and 1996,
respectively.

(2)  Interest income on a portion of the Company's loans and investment
securities is exempt from income tax. If income from these assets had been
adjusted to a level comparable to fully taxable income before application of
income taxes, the interest income and average rate would have been as follows:

<TABLE>
<CAPTION>
 
 
                                      Year Ended December 31,
                              1998               1997                1996
                                  Average              Average              Average
                      Interest    Rate     Interest    Rate    Interest     Rate
<S>                               <C>      <C>       <C>     <C>        <C> 
Loans................$16,353,293  9.48%    14,615,067  9.73%   $13,213,553  9.73%
Investment securities -
  Tax exempt.........  2,300,455  7.30%     1,972,949  5.83%     1,691,027  7.48%
 
</TABLE>

                                       8
<PAGE>
 
  The tax rate used to develop this taxable equivalent adjustment is the federal
statutory rate of 34%. The tax-equivalent adjustments do not give effect to the
disallowance for federal income tax purposes of interest expense related to
certain tax exempt assets, nor do they reflect any benefit of interest being
exempt from state income taxes, the effect of which would be insignificant.

(3)  Net interest margin represents net interest income divided by total average
interest-earning assets.


  Rate/Volume Variance Analysis
  -----------------------------

     The following table sets forth a summary of the changes in interest earned
and interest paid resulting from changes in volumes and changes in interest
rates for the Company for the years ended December 31, 1998 and 1997,
respectively.

<TABLE>
<CAPTION>
                                                           Change
                              Change       Change          Due to
                              Due to       Due to          Rate/        Net          
1998 Compared to 1997         Volume       Rate            Volume       Change
                                (1)         (2)              (3)  
<S>                           <C>          <C>             <C>          <C> 
Revenue Earned On:
  Loans.................      $2,161,228   $(375,563)      $(46,439)    $1,739,226
                              ----------   ---------       --------     ----------
   Investment securities
   Taxable..............        (117,769)   (525,227)        21,054       (621,942)
   Tax-exempt............        (90,622)    325,460        (21,685)       216,153
                              ----------   ---------       --------     ----------
     Total investment
     securities............     (208,391)   (196,767)          (631)      (405,789)
  Other interest-earning
     assets................            -           -              -              -
  Federal funds sold.            169,697     (11,506)        (6,419)       151,772
                              ----------   ---------       --------     ----------
    Total interest-earning
     assets................    2,122,533    (583,836)       (53,489)     1,485,209
                              ----------   ---------       --------     ----------
 Interest Paid On:
  Interest-bearing demand
   deposits................      13,240      (27,098)        (1,827)       (15,685)
  Savings deposits.........      18,970     (128,612)        72,153        (37,489)
  Money market deposits.        546,180   (2,279,015)     2,432,267        699,432
  Certificates of
   deposit.................      77,838      279,862       (267,220)        90,479
 
  Federal funds purchased..        (879)        (271)            29         (1,121)
  Securities sold under
  agreement to repurchase...     30,244          735            368         31,346
  Advances from Federal
   Home Loan Bank..........     (33,400)       26,734        (1,787)        (8,453)
                              ----------   ---------       --------     ----------
     Total interest-bearing
     liabilities...........     652,191    (2,127,665)    2,233,983        758,509
                              ----------   ---------       --------     ----------
 Net Interest Income.        $1,470,343   $ 1,543,829   $(2,287,472)     $ 726,700
                              ----------   ---------       --------     ----------
</TABLE>

(1) The volume variance reflects the change in the average balance outstanding
multiplied by the average rate during the prior period.

                                       9
<PAGE>
 
(2) The rate variance reflects the change in the average rate multiplied by the
average balance outstanding during the prior period.

(3)  The rate/volume variance reflects the change in average rate multiplied by
     the change in the average balance outstanding

  The following table sets forth a summary of the changes in interest earned and
interest paid resulting from changes in volumes and changes in interest rates
for the Company for the years ended December 31, 1997 and 1996, respectively.

<TABLE>
<CAPTION>
                                                           Change
                              Change       Change          Due to
                              Due to       Due to          Rate/        Net          
1997 Compared to 1996         Volume       Rate            Volume       Change
                                (1)         (2)              (3)  
<S>                           <C>          <C>             <C>          <C> 
Revenue Earned On:
   Loans.............         $1,407,910           0      $  (1,035)    $1,046,605
                              ----------   ---------       --------     ----------
   Investment securities
   Taxable..............        (816,518)    634,911       (144,351)      (325,958)
   Tax-exempt............        579,402    (258,644)      (134,688)       186,070
                              ----------   ---------       --------     ----------
   Total investment
   securities.............      (237,116)    376,267       (279,039)      (139,888)
   Other interest-earning
   assets.................             -           -              -              -
   Federal funds sold.            40,965       4,020            749         45,734
                              ----------   ---------       --------     ----------
   Total interest-earning
   assets.........             1,211,759     380,287       (279,595)     1,312,451
                              ----------   ---------       --------     ----------
   Interest Paid On:
   Interest-bearing demand
   deposits..............         14,083     (34,831)        (2,132)       (22,880)
   Savings deposits......
                                 (45,304)    (29,229)           911        (73,622)
   Money market deposits.          9,128      85,436          3,671         98,235
   Certificates of
   deposit.................      230,283     112,970           (469)       342,784
 
   Federal funds purchased..                   6,300         (5,218)         1,082   
   Securities sold under
   agreement to repurchase.       (5,534)      3,302           (203)        (2,435)
   Advances from Federal
       Home Loan Bank.......     314,402     (20,169)       (28,189)       266,044
                              ----------   ---------       --------     ----------
   Total interest-bearing
   liabilities..............     517,058     123,779        (31,629)       609,208
                              ----------   ---------       --------     ----------
   Net Interest Income.      $   694,701   $ 256,508      $(247,966)     $ 703,243
                              ----------   ---------       --------     ----------
</TABLE>

(1) The volume variance reflects the change in the average balance outstanding
multiplied by the average rate during the prior period.

(2) The rate variance reflects the change in the average rate multiplied by the
average balance outstanding during the prior period.

(3)  The rate/volume variance reflects the change in average rate multiplied by
the change in the average balance outstanding

                                       10
<PAGE>
 
     The following table sets forth a summary of the changes in interest earned
and interest paid resulting from changes in volumes and changes in interest
rates for the Company for the years ended December 31, 1996 and 1995,
respectively.

<TABLE>
<CAPTION>
                                                           Change
                              Change       Change          Due to
                              Due to       Due to          Rate/        Net          
1996 Compared to 1995         Volume       Rate            Volume       Change
                                (1)         (2)              (3)  
<S>                           <C>          <C>             <C>          <C> 
Revenue Earned On:
Loans.........                $1,009,479    $(541,023)     $(53,416)       $415,040
                              ----------    ---------       --------     ----------
  Investment securities
   Taxable...............         36,966      (60,853)       (1,840)        (25,727)
   Tax-exempt............         48,163      (19,217)       (1,199)         27,747
                              ----------    ---------       --------     ----------
     Total investment
     securities............       85,129      (80,070)       (3,039)          2,020
  Other interest-earning
     assets................       12,580       (7,654)       (2,059)          2,867
  Federal funds sold.           (129,897)     (40,500)       13,006        (157,391)
                              ----------    ---------       --------     ----------
    Total interest-earning
     assets................      977,291     (669,247)      (45,508)        262,536
                              ----------    ---------       --------     ----------
 Interest Paid On:
  Interest-bearing demand
   deposits................       49,866     (136,686)      (14,614)       (101,434)
  Savings deposits......          (3,622)    (153,966)      (   705)       (158,293)
  Money market deposits.          (2,321)    ( 31,174)          342         (43,153)
  Certificates of
   deposit..............         145,527     ( 50,005)        2,367          97,889

  Federal funds purchased..                                   6,131           6,131
  Securities sold under
  agreement to repurchase.        44,209     (  5,006)       (3,443)         35,760
  Advances from Federal
   Home Loan Bank.......          31,037     ( 30,915)       (3,986)         (3,864)
                              ----------    ---------       --------     ----------
      Total interest-bearing
     liabilities...........      254,696     (407,752)      (13,908)       (166,964)
                              ----------    ---------       --------     ----------
 Net Interest Income.            722,595    $(261,495)     $(31,600)      $ 429,500
                              ----------    ---------       --------     ----------
</TABLE>

(1) The volume variance reflects the change in the average balance outstanding
multiplied by the average rate during the prior period.

(2) The rate variance reflects the change in the average rate multiplied by the
average balance outstanding during the prior period.

(3) The rate/volume variance reflects the change in average rate multiplied by
the change in the average balance outstanding.

                                       11
<PAGE>
 
Investment Portfolio

       The following table summarizes the carrying values of the Company's
investment securities portfolio at the dates indicated. Investment securities
held to maturity are stated at cost, adjusted on a straight-line basis for
amortization of premiums and accretion of discounts. Investment securities
available for sale are carried at estimated market value.





<TABLE>
<CAPTION>
                                                                  December 31,
                                        1998                         1997                          1996
                                -----------------------------------------------------------------------------------
                                Held to     Available      Held to        Available      Held to        Available
                                Maturity    for Sale       Maturity       for Sale       Maturity       for Sale
                                ---------   -----------    -----------    -----------    -----------    -----------
<S>                              <C>        <C>            <C>            <C>            <C>            <C> 
U.S. Treasury securities
  and U.S. Government
  corporation and
  agencies........              $    -0-     14,087,865    $12,168,400    $15,186,700    $12,465,800    $26,923,000
State and political
  subdivision
  obligations..............          -0-     33,876,508     25,853,700      4,923,200     25,039,300        505,200
 
Mortgage-backed
  securities...............          -0-     17,290,641      6,220,200     14,246,600      5,463,600      8,677,000

Total securities..              $    -0-    $65,255,014    $44,242,300    $34,356,500    $42,968,700    $36,105,200
</TABLE> 

     The following table presents the book value of all

investment securities of a single issuer, excluding securities of the United
States Government and its agencies, whose aggregate carrying value at December
31, 1998 exceeded ten percent (10%) of consolidated shareholders' equity:

                                                   Estimated
                                       Carrying      Market
                                         Value       Value

Federal Home Loan Mortgage Corp. CMO  $9,175,179  $9,224,987
Federal National Mortgage Association  5,685,922   5,747,950

     At December 31, 1998, the estimated market value of the investment
portfolio was more than the amortized cost by $1,852,760  for the available for
sale category.

  The accounts and maturities of debt securities available for sale at December
31, 1998, and the weighted average yields of such securities, are shown below:

                                       12
<PAGE>
 
<TABLE>
<CAPTION>
Available for Sale:

                        Under       1-5       5-1       Over
December 31, 1998       1 year      years     years     10 years     Total
<S>                     <C>         <C>       <C>       <C>          <C> 
U.S. Treasury
 securities and
obligations of
U.S. Government
corporations and
agencies
 Carrying value....   $9,833,485  $ 4,254,380     $        0            0    $13,743,617
 Average tax
 equivalent
 yield(1)........           6.33%        7.05%          0.00%        0.00%          6.71%

State and
political
subdivisions
Carrying value..       4,389,493    8,485,781     16,129,024    4,872,210     33,876,508
Average tax
 equivalent
 yield(1)........           6.52%        7.19%          7.43%        7.10%          7.21%
                      ----------  -----------     ----------   ----------    -----------

Total carrying
value excluding
mortgage-backed
securities and
FHLB stock......     $14,222,978  $12,740,161   $ 16,129,024  $ 4,872,210   $ 47,620,125
Average tax
equivalent
yield excluding
mortgage-backed
securities and
FHLB stock......            6.39%        7.14%          7.43%        7.10%          7.07%

Mortgage-backed
securities.......   $    622,862  $ 4,468,901    $ 3,591,375  $ 8,607,503   $ 17,290,641
Carrying Value
Average tax
equivalent
yield............           5.86%        6.40%          6.88%        6.39%          6.48%
                      ----------  -----------     ----------   ----------    -----------

Total carrying
value...........    $ 14,845,840  $17,209,062    $19,720,399  $13,479,713    $65,255,014

Average
tax equivalent
yield............           6.85%        7.13%          7.68%        7.01%          7.21%
</TABLE> 

(1) Rates of tax-exempt securities are shown assuming a 34% federal statutory
tax rate.  The actual average yield on tax-exempt securities was 4.69%

                                       13
<PAGE>
 
Loan Portfolio

     The following table sets forth the composition of the Company's loan
portfolio at the dates indicated.

<TABLE>
<CAPTION>
                                                December 31,
                     1998            1997          1996          1995          1994
<S>                  <C>             <C>           <C>           <C>           <C> 
Agricultural loans...$ 35,707,279    $ 31,563,146  $ 29,025,726  $ 25,168,552  $ 22,091,563
Commercial and
  industrial loans...  38,201,766      33,616,025    28,118,416    23,317,057    19,670,283
Residential Real Estate
  loans..............  53,638,439      49,158,726    45,656,220    41,120,730    40,353,744
Commercial Real Estate
  loans..............  39,948,496      35,046,889    33,852,371    33,917,880    27,971,189
Consumer loans.......  19,340,354      10,587,246     9,643,508     9,954,869    11,280,962
                     ------------    ------------  ------------  ------------  ------------
  Total loans........$186,836,334    $159,972,032  $146,296,241  $133,479,088  $121,367,741
</TABLE>

  Potential Problem Loans
  -----------------------

     Potential problem loans consist of loans which are generally secured and
not currently considered nonperforming, but where information about possible
credit problems has caused management to have doubts as to the ability of such
borrowers to comply with present repayment terms.  As of December 31, 1998, the
Company considers $2,745,300 to be potentially problem loans. Historically,
however, only a very small portion of those loans have resulted in actual losses
for the Company.


  Non-performing Loans
  --------------------

     The following table summarizes the Company's non-performing loans at the
dates indicated.

<TABLE>
<CAPTION>
                                           December 31,
                            1998       1997     1996     1995    1994
<S>                         <C>      <C>      <C>      <C>     <C>
Non-accruing loans.......   $468,300 $727,100 $492,000 $450,500 $254,800
Accruing loans past due
   90 days or more.......     389,600  97,500  371,800  291,200  215,600
Renegotiated loans.......         -0-     -0-      -0-      -0-      -0-
</TABLE>

     For each period shown the gross interest income that would have been
recorded in such period if the loans had been current in accordance with their
original terms, and the amount of interest income on those loans that was
included in such period's net income, was negligible.

     Interest on loans is accrued from the date an advance is made.  The
performance of loans other than real estate and installment loans is evaluated
primarily on the basis of a review of each customer's financial position and
relationship over a period of time and the judgment of senior lending officers
as to the ability of borrowers to conduct a financially healthy business and to
meet the repayment terms 

                                       14
<PAGE>
 
of the loan. If there is reasonable doubt as to the repayment of a loan in
accordance with the agreed upon terms, even though the financial condition of
the borrower or the collateral may be sufficient ultimately to reduce or satisfy
the obligation, the loan may be placed on a non-accrual basis pending the sale
of any of the collateral or the determination that other sources of repayment
exist. When a loan is placed on a non-accrual basis all previously accrued but
unpaid interest is reversed and charged against current income. Interest income
is thereafter recognized only when payments are received.

     Loans, including impaired loans, are placed on non-accrual status in
accordance with policies established by management.  Loans, other than consumer
loans, are generally transferred to non-accrual status when principal or
interest payments become ninety days past due.  Any accrued but uncollected
interest previously recorded on such loans is reversed in the current period and
interest income is subsequently recognized only when actually collected.  Past
due consumer loans are generally fully reserved or charged-off when they reach a
90-day delinquency status.  Loans are returned to accrual status when management
determines that the circumstances have improved to the extent that both
principal and interest are deemed collectible and there has been a sustained
period of repayment performance.  The Company may continue to accrue interest on
loans past due ninety days or more which are well secured and in the process of
collection.

     Loans, principally residential real estate loans, are periodically sold
without recourse and servicing is generally retained.  Gains and losses on sales
of loans are recognized at the time of settlement and are determined by the
difference between net sales proceeds and the carrying value of the loans sold.
Fees related to the servicing of loans for benefit of others are determined on
the basis of loans serviced and are recorded as income when payments are
received.

     The average balance of impaired loans during 1998 was approximately
$441,500.  At December 31, 1998, the balance of impaired loans and related
reserve against that balance was $262,200 and $90,400, respectively.  Interest
income recognized on impaired loans and interest income recognized on a cash
basis was not significant.

     Residential mortgage loans are placed on non-accrual status when they
become 90 days past due, and the collection efforts of the Bank continue in
accordance with the Bank's collection policies and procedures.

     Lending officers are responsible for the ongoing review and administration
of each particular loan.  As such, they make the initial identification of loans
which may present some difficulty in collection, or where circumstances indicate
that the probability of loss exists.  The responsibilities of the lending
officers include the initial collection effort on a delinquent loan.  Unless
other arrangements are made with the lending officer and approved by the Board
of Directors of 

                                       15
<PAGE>
 
the Bank, any loan deficiencies more than 90 days past due are generally 
charged-off. Senior management is informed of the status of delinquent and
problem loans weekly. The Board of Directors and senior management reviews the
current allowance for possible loan losses monthly, and senior management makes
the final determination as to loan charge-offs.



  Summary of Loan Loss Experience
  -------------------------------

  The provision for loan losses represents management's determination as to the
amount necessary to be transferred to the allowance for loan losses to bring it
to a level which is considered adequate in relationship to the risk of losses
inherent in the loan portfolio.  While it is the Company's policy to charge-off
in the current period those loans in which a loss is considered probable, there
also exists the risk of losses which cannot be quantified precisely or
attributed to particular loans or classes of loans.  Because this risk is
continually changing in response to factors beyond the control of the Company,
such as the state of the economy, management's judgment as to the adequacy of
the allowance for loan losses is necessarily approximate and imprecise.

     In assessing adequacy, management relies on its ongoing review of the loan
portfolio, which is undertaken both to ascertain whether there are probable
losses which must be charged-off and to assess the risk characteristics of the
portfolio in the aggregate. This review takes into consideration management's
evaluation of individual loans, past loan loss experience, the assessment of
prevailing and anticipated economic conditions, the estimated value of
collateral and other relevant factors.  It is management's ongoing policy to
maintain a conservative approach as to the establishment of an adequate
allowance for loan losses.

     In evaluating the allowance, management also considers the Bank's loan loss
experience, the amount of past due, non-performing and impaired loans current
and anticipated economic conditions, lender requirements and other appropriate
information.

     The allowance for loan losses is maintained as a general reserve without
any internal allocation to the specific loan classes of the loan portfolio.
Based on a historical four-year average of gross charge-offs, however, the
allowance for loan losses would be allocated by management to specific loan
classes as follows:

                                       16
<PAGE>
 
<TABLE> 
<CAPTION> 
                                                    December 31, 1998
 
                                                      Percent of       Percent of
                                                      Allowance in      Loans in
                                                      Category to       Category to
                                          Amount      Total Allowance   Total Loans
<S>                                       <C>         <C>               <C>
Domestic Loans (1)
Agricultural loans.....                   $   41,575          1.76%     19.11%
Commercial and
 industrial loans..................          749,805         31.54      20.45
Residential & Commercial
  Real Estate loans................          145,218          6.11      50.09
Consumer loans.........                    1,440,521         60.59      10.35
                                          ----------        ------
Totals                                    $2,377,300        100.00%    100.00%

<CAPTION> 
                                                    December 31, 1997
 
                                                      Percent of       Percent of
                                                      Allowance in      Loans in
                                                      Category to       Category to
                                          Amount      Total Allowance   Total Loans
<S>                                       <C>         <C>               <C>
Domestic Loans (1)
Agricultural loans.....                   $   44,726           2.21%    19.73%
Commercial and
 industrial loans..................          669,521          33.00     21.01
Residential & Commercial
  Real Estate loans................          148,088           7.30     52.64
Consumer loans.........                    1,166,265          57.49      6.62
                                          ----------        ------
Totals                                    $2,028,600         100.00%   100.00%
 
 
<CAPTION> 
                                                    December 31, 1996
 
                                                      Percent of       Percent of
                                                      Allowance in      Loans in
                                                      Category to       Category to
                                          Amount      Total Allowance   Total Loans
<S>                                       <C>         <C>               <C>
Domestic Loans (1)
Agricultural loans.....                   $   10,12             .55%    19.84%
Commercial and
 industrial loans..................         549,782           29.86     19.22
Residential & Commercial
  Real Estate loans................          66,836            3.63     54.35
Consumer loans.........                   1,214,455           65.96      6.59

Totals                                   $1,841,200          100.00%   100.00%
 
<CAPTION> 
                                                    December 31, 1995
 
                                                      Percent of       Percent of
                                                      Allowance in      Loans in
                                                      Category to       Category to
                                          Amount      Total Allowance   Total Loans
<S>                                       <C>         <C>               <C>
</TABLE> 

                                       17
<PAGE>
 
<TABLE> 
<S>                                       <C>         <C>               <C>
Domestic Loans (1)
Agricultural loans.....                  $   37,930            2.21%    18.9%
Commercial and
 industrial loans..................         357,334           20.82     17.5
Residential & Commercial
  Real Estate loans................          44,408            2.59     56.2
Consumer loans.........                   1,276,628           74.38      7.4

Totals                                    $1,716,300         100.0%   100.0%

<CAPTION> 
                                                    December 31, 1994
 
                                                      Percent of       Percent of
                                                      Allowance in      Loans in
                                                      Category to       Category to
                                          Amount      Total Allowance   Total Loans
<S>                                       <C>         <C>               <C>
Domestic Loans (1)
Agricultural loans.....                   $   44,738          2.90%    18.2%
Commercial and
 industrial loans.........                   301,104         19.70     16.2
Residential & Commercial
  Real Estate loans.......                    38,023          2.50     56.3
Consumer loans..........                   1,143,035         74.90      9.3

Totals                                    $1,526,900         100.0%   100.0%
</TABLE>
 
  (1)  The Company had no foreign loans.

     The following table sets forth certain information with respect to the
Company's loans and the allowance for loan losses.
<TABLE>
<CAPTION>
 
                                                                    For the Year Ended December 31,
                                           1998             1997           1996             1995         1994
                                        ----------       ----------     ----------       ----------   ----------
<S>                                     <C>              <C>            <C>              <C>          <C>
Balance at beginning of
 period....                             $2,028,600       $1,841,200     $1,716,300       $1,526,900   $1,448,000
Charge-offs:
 Agricultural loans...............               0                0              0           (1,573)      (2,534)
 Commercial and industrial loans.         (144,216)         (92,470)      (77,378)          (69,607)     (47,816)
 Real estate mortgages...........          (24,821)         (24,606)      (25,621)                0            0
 Consumer loans..................          (62,075)         (99,204)      (82,600)         (145,435)    (238,642)
                                        ----------       ----------     ----------       ----------   ----------
                                          (231,112)        (216,280)     (185,599)         (216,615)    (288,992)
 
Recoveries:
 Agricultural loans...............               0                0           654             1,404        3,815
 Commercial and industrial loans.           19,802           17,091         3,435             8,035        6,069
 Real estate mortgages............           3,145                0             0                 0            0
 Consumer loans...................          24,298           18,424        23,900            72,213       45,283
                                        ----------       ----------     ----------       ----------   ----------
                                            47,245           35,515        27,989            81,652       55,167
                                        ----------       ----------     ----------       ----------   ----------
Net charge-offs...................        (183,867)        (180,765)     (157,610)         (134,963)    (233,825)
Additions charged to operations...         532,567          368,165       282,510           324,363      312,725)
                                        ----------       ----------     ----------       ----------   ----------
Balance at end of period..........      $2,377,300       $2,028,600    $1,841,200        $1,716,300    $1,526,900
                                        ----------       ----------     ----------       ----------   ----------

Ratio of net charge-offs during
 the period to average loans
 outstanding during the period....            .11%             0.12%         0.12%             0.11%         0.20%
</TABLE>

     Net loans charged-off in 1998 totaled $183,867, or 0.11% of average loans.
The reserve for loan losses equaled 1.27% of the total 

                                       18
<PAGE>
 
loan portfolio at December 31, 1998, compared to 1.27% at December 31, 1997.
Management believes that the allowance for loan losses of $2,377,300 at December
31, 1998 was adequate to absorb anticipated risk in the portfolio based upon the
Company's historical experience.

     All segments of the Company's loan portfolio are subject to continuous
quality evaluation.  In the opinion of the management of the Company, there are
no credit risks relating to the loan portfolio, other than what is already
disclosed in this document, and the allowance for loan losses is adequate to
absorb anticipated loan losses in the present loan portfolio of the Company.  It
must be emphasized, however, that the determination of allowance for loan losses
using the Company's procedures and methods rests upon various judgments and
assumptions about future economic conditions and other factors affecting loans.
In addition, management reviews overall portfolio quality through an analysis of
current levels and trends and charge-offs, delinquency and non-accruing loan
data and reviews the overall banking environment.  These reviews are of
necessity dependent upon estimates, appraisals and judgments, which may change
quickly because of changing economic conditions and the Company's perception as
to how these factors may affect the financial condition of debtors.

  Rate Sensitivity of Loans
  -------------------------

     Presented below is a table which sets forth the maturity of the Company's
loans as of December 31, 1998.

                Maturities at December 31, 1998
<TABLE>
<CAPTION>
                                    One Year
                       One Year     Through         After
                       or Less      5 Years        5 Years         Total
<S>                        <C>        <C>           <C>            <C>
 
Agricultural loans....$17,523,444     $ 5,650,750   $ 12,533,085   $ 35,707,279
Commercial and
   industrial loans....14,817,511       8,748,039     14,636,216     38,201,766
 
Residential Real Estate
   loans............... 1,917,228       8,799,447     42,921,764     53,638,439
Commercial Real Estate
   loans............... 4,405,721       3,725,614     31,817,161     39,948,496
Consumer loans...........   521,925    17,750,292      1,068,137     19,340,354
                            -------   -----------   ------------   ------------
   Total loans........$39,185,829     $44,674,142    102,976,363   $186,836,334
Percentage to total           20.97%        23.91%         55.12%        100.00%
</TABLE>
     The following table sets forth the various maturity dates of the above-
mentioned loans with pre-determined interest rates and floating or adjustable
interest rates.

                                       19
<PAGE>
 
<TABLE>
<CAPTION>
                                                          Maturities at December 31, 1998
                                                         One Year
                                            One year      Through                      After
                                             or less      5 Years      5 Years         Total        %
<S>                                        <C>          <C>          <C>           <C>            <C>
Loans with pre-determined
  interest rates.........................  $ 5,732,269  $33,596,074  $ 61,559,645   $100,887,988  54.00
 
Loans with floating or
  adjustable interest rates                 33,453,560   11,078,068    41,417,168     85,948,696   46.00
                                           -----------  -----------  ------------   ------------  ------
 
Totals...................................  $39,185,829  $44,674,142  $102,976,363   $186,836,684  100.00
 
</TABLE>
     The Company ensures safety of depositor funds and relative balances between
interest rate sensitive assets and liabilities through its Asset/Liability
Committee, which actively monitors the maturity and repricing characteristics of
interest rate sensitive assets and liabilities on an ongoing basis.

Deposits

  The following table sets forth the average amount of, and the average rates
paid on, major deposit categories for the years ended December 31, 1998, 1997,
and 1996, respectively.

<TABLE>
<CAPTION>
                                                  Year Ended December 31,
                                 1998                     1997                     1996
                       ------------------------  ----------------------  --------------------------
                       Average        Average    Average     Average     Average            Average
                       Balance        Rate       Balance     Rate        Balance            Rate
<S>                    <C>            <C>        <C>         <C>         <C>                <C> 
 
Noninterest bearing
 demand deposits.         1,682,000    ---        5,242,302     ---       $23,213,560       ---
Interest bearing                                                                           
 demand deposits...      31,231,000    1.09%     30,109,000     1.18%      29,025,668       1.30%
Savings deposits...      35,528,000    2.31%     34,760,000     2.47       36,536,619       2.55
Money market                                                                               
  deposits.........      14,304,000    3.34%     11,909,000     3.25       11,545,345       2.51
Certificates of                                                                            
 deposit..........      116,981,000    5.60%    106,996,000     5.47      102,699,682       5.36
                       ------------            ------------               -----------
  Total Deposits.      $229,726,000            $209,016,302               210,020,874
 
</TABLE>

  The following table sets forth the amount of time certificates of deposit of
$100,000 or more of the Bank as of December 31, 1998 for various dates of
maturity.

 December 31, 1998 - Time Certificates of Deposit $100,000 or More

Three months or less......................    $14,071,057
Three months through six months...........      9,710,534
Six months through twelve months..........      3,611,782
Over twelve months........................      4,011,454
                                              -----------
   Totals.................................    $31,404,827

                                       20
<PAGE>
 
Return on Equity and Assets
 
  The following table sets forth selected financial ratios
of the Company on a consolidated basis for the periods indicated.
 
    For the Year Ended December 31,
                                        1998     1997        1996
                                       
Return on average assets............... 1.22%    1.26%       1.22%
Return on average equity...............10.22    11.22       11.86
Dividends declared to net income       32.22    24.61       20.98
Loans to deposits......................77.57    73.65       70.51
Loans to deposits and securities       
 sold under agreement to               
 repurchase............................77.19    73.09       69.93
Non-performing loans to total          
 loans.................................  .37      .41         .59
Net charge-offs to average             
 total loans...........................  .11      .12         .12
Allowance for possible loan            
 losses to loans at year-end.           1.27     1.27        1.26
Average shareholders' equity           
 to average total assets...............10.94    11.23       10.32%

Short-Term Borrowings

  The following table sets forth the average amount of, and the average rates
paid on securities sold under agreement to repurchase for the years ended
December 31, 1998, 1997, and 1996, respectively.

                                      Year Ended December 31,
                           1998               1997                 1996
                    Average   Average   Average   Average   Average    Average

Securities sold under
agreement to
repurchase......  $ 2,395,000  5.46   $ 1,837,000  5.42   $ 1,942,414    5.25



Item 2 -     Properties

  The following table sets forth the location of the Bank's offices, as well as
certain information related to those offices, as of December 31, 1998:

                                       21
<PAGE>
 
 Location of Office             Owned or Leased
 ------------------             ---------------

 50 North Main Street
 Castile, New York.........              Owned

 263 East Main Street
 Avon, New York............              Owned

 1 Main Street
 Gainesville, New York.....              Owned

 102 North Center Street
 Perry, New York...........              Owned

 2727 Genesee Street
 Retsof, New York..........              Leased *

 445 North Main Street
 Warsaw, New York..........              Owned

 129 North Center Street
 Perry, New York...........              Owned *

 29 Main Street
 LeRoy, New York...........              Owned

 604 West Main Street
 Arcade, New York..........              Owned

 408 East Main Street
 Batavia, New York.........              Owned

 3155 State Street
 Caledonia, New York.......              Owned

 11 South Street
 Geneseo,  New York........              Owned

  * These branch offices branch offices are located on land which is being
leased through 2004 and 2090, respectively. These lease agreements contain
various renewal and purchase options at maturity.

  Each of the foregoing properties is in generally good
condition and is appropriate for its intended uses.


  Future minimum rentals under these leases are: 1999-2003, $9,600 per year.
Total rental expense was approximately $10,300 in 1998 and $16,400 in 1997 and
$23,000 in 1996.

                                       22
<PAGE>
 
 All owned offices are in the name of the Bank. Prior to March 10, 1995, two (2)
offices were owned by Southern Wyoming Realty Corp., a wholly-owned subsidiary
of the Bank. Effective March 10, 1995, Southern Wyoming Realty Corp. was
dissolved and all of its assets were transferred and conveyed to the Bank.

  For information relating to the Company's investment
policies, see "Item 1- Description of Business -- Statistical Disclosure" of
this Annual Report on Form 10-K.


Item 3 -     Legal Proceedings

  The Company is not presently involved in any legal

proceedings which management or counsel to the Company believe to be material to
its financial condition or results of operations. As the nature of the Bank's
business involves the collection of loans and the enforcement and validity of
security interests, mortgages and liens, the Bank is plaintiff or defendant in
various legal proceedings which may be considered as arising in the ordinary
course of its business.  In the opinion of management of the Bank, after
consultation with its counsel handling all such litigation, there are no legal
proceedings now pending by or against the Bank the outcome of which might have a
material effect on the Bank's business, business prospects or financial
position.

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

  Not applicable.
                PART II

Item 5 -     Market for the Registrants Common Equity and Related Stockholder
Matters

  On January 3, 1994, the Company listed its common stock on the National
Association of Securities Dealers Quotation System (NASDAQ) Small Cap Market.
Although the market for the Company's common stock has become more active since
the initial listing, as with many stocks of companies such as the Company,
trading remains limited. At the Annual Meeting of Shareholders on May 7, 1998,
the shareholders of the Company approved an amendment to the Certificate of
Incorporation for the Company and a corresponding 3-for-1 stock split pursuant
to which each issued and outstanding share of common stock split became
effective on June 8, 1998.

  As of March 16, 1999, the "Bid" and "Ask" price of the Company's common stock
was $14.00 and $14.50 per share, respectively, as reported on the NASDAQ Small
Cap Market. The market price for the Company's common stock is reflected daily
on the NASDAQ Small Cap Market under the symbol LEBC. These quotations, as well
as quotations set forth in the following table, represent inter-dealer
quotations without adjustment for retail mark-ups, mark-downs, or commissions,
and may not 

                                       23
<PAGE>
 
necessarily represent actual quotations. First Albany Corporation, Ryan, Beck &
Company, McConnell, Budd and Downes, and Tucker Anthony, Inc. all make a market
in the Company's common stock. All shareholders who own their stock in their
individual names are eligible to participate in the Company's Dividend
Reinvestment Plan which was introduced in November 1991 and 37% of those
eligible participate. The following table sets forth the quarterly high and low
"Bid" quotations, after giving effect to a 3-for-1 stock split that was
implemented on June 8, 1998, for the years ended December 31, 1998 and 1997,
respectively:

<TABLE>
<CAPTION>
Quarterly Data                     1998                           1997
Bid Price           4th       3rd      2nd      1st     4th     3rd       2nd       1st
                  --------  --------  ------  -------  -----  --------  --------  -------
<S>               <C>       <C>       <C>     <C>      <C>    <C>       <C>       <C>
     High         $16.00    $20.50    $22.67  $19.50   $17.00 $15.75    $12.42    $12.25
     Low          $13.63    $13.50    $18.08  $15.00   $13.33 $12.25    $11.50    $10.25
</TABLE>

  The Company declared dividends of $.32 per share to its shareholders during
the year ended December 31, 1998. In 1997, the Company declared annual dividends
of $.27 per share (after giving effect to the above referenced stock split).
Although the Board of Directors of the Company has declared its intention to
continue the payment of cash dividends on the Company's common stock, no
assurance can be given that any dividends will be declared or, if declared, what
the amount of the dividends will be or whether such dividends, once declared,
will continue. As a bank holding company, the Company's ability to pay dividends
is primarily a function of the dividend payments it receives from the Bank,
which are subject to certain limitations. See Note 19 of "Notes to Consolidated
Financial Statements" included in this Annual Report on Form 10-K on pages 58 -
60 . In determining the amount of such dividends to be paid by the Company, if
any, the Board of Directors will consider such factors as the earnings and
financial condition of the Company, as well as regulatory requirements and the
Bank's need to retain capital to support its growth.



Item 6 - Management's Discussion and Analysis of Financial Condition and Results
of Operations

  The purpose of this section is to focus on relevant business events and
information provided in this Annual Report. For a full understanding of this
discussion, reference should be made to the Consolidated Financial Statements,
and Notes thereto, and the Consolidated Financial Highlights herein. The
preceding Financial Statements were audited by PricewaterhouseCoopers LLP, but
have neither been audited nor approved by the FDIC.

  Letchworth Independent Bancshares Corporation (the "Company") is a bank
holding company with one subsidiary, The Bank of Castile (the Bank). The Bank is
a full-service, community oriented, commercial bank that offers a full range 

                                       24
<PAGE>
 
of commercial and consumer banking services to municipalities, businesses and
individuals. During 1997, the Bank also began offering trust and investment
services to its customers.

  The Bank conducts its operations through its main office located in Castile,
New York, and at its ten (10) branch offices in towns situated in and around the
areas commonly known as the Letchworth State Park and the Genesee Valley regions
of New York State.  Specifically, the Bank has branch offices in the towns of
Arcade, Avon, Batavia, Caledonia, Gainesville, Geneseo, LeRoy, Perry, York
(Retsof), and Warsaw.

  The Company's strategic plan calls for the continued growth of its banking
franchise through the acquisition of additional offices in similar communities
and/or the opening of new offices in the current market area or adjoining areas
to include suburban Rochester and Buffalo. The Company will also be alert to
related business opportunities that would allow for diversification of its
existing franchise. In January of 1999, the Company announced its intention to
purchase between 58 and 66% of the outstanding shares of The Mahopac National
Bank, located in Putnam County, New York, pending regulatory and shareholder
approval.  The Mahopac National Bank has three branches and ended the year 1998
with $148.4 million in assets.  The purchase price was $9,700 per share, or
slightly less than one and one-half times the Mahopac Bank's book value and will
be paid for in cash.  Arrangements have been made for the potential purchase of
the remainder of the shares within an 18- to 24-month period.

  The Company's market area has remained reasonably healthy. As evidenced by the
following chart, the average annual unemployment rate has remained relatively
constant in Livingston and Genesee counties, while increasing somewhat in
Wyoming County.

<TABLE>
<CAPTION>
          Genesee   Livingston   Wyoming
         ---------  -----------  --------
<S>      <C>        <C>          <C>
1998       5.5%         4.8%      8.2%
1997       5.4%         4.6%      6.6%
1996       5.1%         5.3%      6.4%
</TABLE>

   Several new companies have relocated or expanded in the three county area
during the past year. However, a large manufacturer in Perry curtailed its
operations during 1998, and the continual uncertainty about many major Rochester
and Buffalo employers are cause for concern.

Financial Condition

1998 Compared With 1997

  The total assets of the Company as of December 31, 1998, increased by $21.8
million to $281.7 million, representing an 8.36% increase from the $259.9
million figure as of December 31, 1997.  This growth in total assets occurred
primarily in the Bank's loan portfolio, which increased by 16.79% or $26.9
million.

  The Company's commercial real estate loans increased to $39.9 million at year-
end 1998, up from $35.0 million at year-end 1997.  Commercial and industrial
loan volume increased by $4.6 million to $38.2 million at year-end 1998,
representing an increase of 13.64% from the year ended December 31, 1997.  In
the view of management, the growth in commercial and industrial loans is at
least partially due to the business development efforts of the Company's 

                                       25
<PAGE>
 
calling officers and a continuing change in strategic focus of larger competing
institutions away from this type of lending. This is also the primary reason for
the $4.1 million, or 13.13%, increase in our agricultural loan portfolio, which
consists primarily of loans to larger dairy farms and selected cash-crop farms.
Although deregulation in the dairy industry has and will continue to produce
volatile milk prices, the agricultural customers included in the Bank's
portfolio have generally shown continued solid profitability in spite of this
volatility.

  The consumer loan portfolio increased by $8.8 million, or 82.68%, to $19.3
million at December 31, 1998.  The increase in volumes in the consumer loan area
is primarily due to the first full year of operation of an indirect automobile
lending program, which offers new and used automobile loans through a network of
selected local auto dealers.  The indirect portfolio grew to $8.8 million at
year-end 1998

  The Company's residential real estate loans, including home equity lines of
credit, increased by $4.5 million, or 9.11%, to $53.6 million at December 31,
1998.  This increase resulted, in part, from the retention in our portfolio of
many of the fifteen-year, fixed rate mortgage originations.  The volume of home
equity lines of credit remained steady at $10.1 million at year-end 1998, when
compared to the prior year.  These loans are priced in an adjustable manner tied
to the New York Prime rate and reprice quarterly, and have been subject to
fierce marketplace competition.

The Company's allowance for loan losses at December 31, 1998 is $2.4 million, or
1.27% of the net loans outstanding.  This reflects a $532,567 addition to the
provision for possible loan losses and $183,476 in net charge-offs during the
year 1998. The Company's allowance for loan losses is determined after a
detailed analysis of the overall credit quality of the portfolio, as well as the
types of loans in that portfolio.  The percentage has been increased slightly
from the 1997 level due to the growth of the indirect automobile loan portfolio,
which is expected to have a higher level of charge-offs.

The Company carried a higher level of "one-day funds" during 1998 because the
interest rate available on this type of investment was more advantageous than
alternative longer term investments. As a result of the change in accounting
standard, the Company transferred its entire investment securities portfolio
from the "held to maturity" to the "available for sale" portfolio, providing
increased flexibility to Company management.  Since unrealized gains or losses
in the "available for sale" portfolio are accounted for differently than the
"held to maturity" portfolio, this contributed to a significant increase of
$952,073 in unrealized gains or losses in securities in the shareholders equity
section.

The Bank's premises and equipment decreased less than $0.1 million, since no
major building or renovation projects were undertaken during 1998. During 1999,
several technology upgrades are being considered, as well as some additional
plans to renovate a branch office and create additional administrative space

  Total deposit growth in 1998 was $23.6 million, or 10.89%, increasing to
$240.9 million at December 31, 1998.  Changes during the year, by category, were
as follows: an increase of $4.3 million in noninterest bearing deposits; an
increase of $2.7 million in savings deposits; a $2.3 million increase in NOW
accounts; a decrease of $1.2 million in certificates of deposit under $100,000;
and an increase of $10.4 million in certificates of deposit greater than

                                       26
<PAGE>
 
$100,000.  At year-end 1998, the Bank also had $1.2 million in securities sold
under agreements to repurchase, down from $1.7 million at year-end 1997.  The
increase in certificates of deposit greater than $100,000 is related to
municipal activity.

  Noninterest bearing deposits increased to $36.4 million at year-end 1998, a
13.56% increase when compared to year-end 1997.  The Geneseo office opened in
January of 1998 and at year end had $5.1 million in total deposits.  The
remaining growth in total bank deposits detailed above was internally generated.
Average noninterest-bearing deposits increased from $25.2 million for the year
ended 1997 to $32.1 million for the year ended 1998.  Average noninterest-
bearing deposits as a percentage of total average deposits increased from 12.08%
at year-end 1997 to 13.24% at year-end 1998, as a result of the increased
commercial lending activity.

     Borrowings from the Federal Home Loan Bank at December 31, 1997, totaled
$7.8 million. Principal payments totaling $5.3 million were made throughout the
year, while an additional advance of $1.5 million was taken, leaving a balance
outstanding of $4.0 million at December 31, 1998. The advance of $1.5 million as
advanced on December 31, 1998, matures on December 31, 1999, and carries an
interest rate of 5.25%.

  The Company's shareholders' equity increased to $33.6 million at year-end
1998, up 5.89% from the $31.8 million figure at year-end 1997. The change in
equity was primarily affected during 1998 by the retention of 67.78% of 1998
earnings and the repurchase of 86,847 treasury shares at a total cost of
$1,553,933.


Results From Operations

Net income increased to $3.3 million for 1998 from $3.1 million in 1997 and $2.9
million in 1996, primarily due to growth in the net interest income and other
operating income offset somewhat by increases in operating expenses.  Despite
the 5.64% increase in net income for 1998, basic earnings per share decreased
from $1.10 in 1997 to $1.01 in 1998, and diluted earnings per share decreased
from $1.00 to $.99, primarily due to the conversion of warrants in December of
1997. During 1997, 164,700 of outstanding warrants were redeemed for one share
of common stock at $23 each, bringing in additional capital of $3,788,100.
Basic earnings per share were $1.06 for 1996 increasing to $1.10 in 1997, while
diluted earnings per share were $.97 for 1996 increasing to $1.00 for 1997.
This reflects more constant level of shares outstanding during those periods and
increased net income.

  The yield on the Company's interest-earning assets was 8.30% for the year
ended December 31, 1998, an decrease of 11 basis points from the yield of 8.41 %
for the year ended December 31, 1997, and 4 basis points from the yield of 8.34%
for the year ended December 31, 1996.  During these same periods, the rate for
total interest-bearing liabilities increased for the year ended December 31,
1997 and 1996, respectively to 4.24% from 4.16% and 4.02%.  As a result, the net
interest spread decreased slightly to 4.06% for the year ended December 31,
1998, from 4.26% for 1997 and 4.32% for 1996. The net interest margin of 4.81%
decreased slightly in 1998 compared to 4.93% in 1997 and 4.92% in 1996.

                                       27
<PAGE>
 
     The provision for loan losses increased to $532,567 in 1998 from $368,165
in 1997 and $282,510 in 1996, due primarily to growth in the loan portfolio. As
previously discussed, management provides for loan losses based on its
determination of the appropriate allowance for loan losses.

The Company's other operating income for the year ended December 31, 1998,
increased by $290,669 or 22.44% from the prior year, which had increased by
$126,085 or $10.78% from 1996.  The increases for both 1998 and 1997 resulted
primarily from increased service charges and an increase in the number of
transaction deposit accounts.

  The Company's other operating expenses increased to $8.5 million in 1998, up
10.35% from $7.7 million for 1997, which was up 4.65% from $7.4 million in 1996.
The increase from 1997 to 1998 is the result of a number of factors, including:
a) a $474,921 or 11.39% increase in salaries and benefits primarily due to
normal annual salary adjustments, a full year of staffing for the new Geneseo
office and the new trust and investment department, the hiring of several
additional key employees in various administrative areas, and an increase in the
ESOP related expense due to accounting related adjustments; b) a $109,371 or
14.09% increase in equipment expense primarily related to a full year's
depreciation on the imaging and power proof system, the automated telephone
banking system, and the furniture and fixtures related to the Geneseo office; c)
a $173,911 or 8.88% increase in other operating expenses due primarily to
increases in customer volumes, various specific software programs and their
related maintenance programs purchased in order to improve efficiency, provide
improved customer service and aid with compliance to current regulations.

  The increase from 1996 to 1997 was affected primarily by: a) a $109,203 or
2.69% increase in salaries and employee benefits, which accounts primarily for
the normal annual increases for employees; b) a 24.92% increase of $154,807 in
equipment expense reflecting primarily the initial year of  the new imaging and
power proof equipment; c) a $225,707 or 13.03% increase in other operating
expenses, which includes a significant increase in costs to service a growing
customer base as well as enhanced marketing costs d). These increases were
partially offset by a decrease of  $155,706 or 81.92% in FDIC insurance
premiums, which were reduced for all "well capitalized" banks.

  The provision for income taxes amounted to $1,365,903 for 1998, down from
$1,487,000 in 1997.  The Company's effective tax rate decreased to 29.2% in 1998
from 32.2% in 1997 as a result of increased tax-exempt interest income.  The
income tax provision for 1996 was $1,351,000 for an effective rate of 32.0%.

Impact Of The Year 2000

The Year 2000 issue concerns the potential impact of historic computer software
code that only utilizes two digits to represent the calendar year (e.g. "98" for
"1998").  Software so developed, and not corrected, could produce inaccurate or
unpredictable results commencing upon January 1, 2000, when current and future
dates present a lower two digit year number than dates in the prior century.
The Company, similar to most financial services providers, is significantly
subject to the potential impact of the Year 2000 issue due to the nature of
financial information.  Potential impacts to the Company may arise from
software, computer hardware, and other equipment both within the Company's
direct control and outside of the Company's ownership, yet with which 

                                       28
<PAGE>
 
the Company electronically or operationally interfaces. Financial institution
regulators have intensively focused upon Year 2000 exposures, issuing guidance
concerning the responsibilities of senior management and directors. Year 2000
testing and certification is being addressed as a key safety and soundness issue
in conjunction with regulatory exams.

In May 1997, the Federal Financial Institutions Examination Council ("FFIEC")
issued an interagency statement to the chief executive officers of all federally
supervised financial institutions regarding Year 2000 project management
awareness.  The FFIEC has highly prioritized Year 2000 compliance in order to
avoid major disruptions to the operations of financial institutions and the
country's financial systems. The FFIEC statement provides guidance to financial
institutions, providers of data services, and all examining personnel of the
federal banking agencies regarding the Year 2000 issue.  The federal banking
agencies have been conducting Year 2000 compliance examinations, and the failure
to implement an adequate Year 2000 program can be identified as an unsafe and
unsound banking practice.

The Board of Directors assigned responsibility for the Year 2000 project to the
standing Risk Committee with the Vice President, Manager of Information Services
as coordinator.  Furthermore, the five-step approach recommended by the FFIEC
was adopted as the project guideline:  1. Awareness; 2. Assessment; 3.
Renovation; 4. Validation; and 5. Implementation

The first two stages were substantially completed during the third quarter of
1997.  The second phase included the identification of all processes, hardware
and software, as well as interdependencies impacting operations.  An inventory
of these items was assembled, priorities established and resources allocated to
complete the necessary modifications to minimize the Company's exposure.

Because the Company does not have any "in house" programming, but instead uses
the services of outside software packages, the renovation stage became more of a
monitoring project to ensure that the systems we use are compliant.  The
following major systems were upgraded to Year 2000 compliant versions: Core
Processing System (May 21, 1998); Direct Deposit/Automated Clearing House (ACH)
(August 27, 1997); Item Processing System (October 9, 1998).

All identified mission critical processes were ready by December 31, 1998,
except that an additional upgrade to the ACH program provided by New York
Automated Clearing House was not available until  February 3, 1999.  This has
been received and installed.

During the validation stage, each system is being tested to determine if it
correctly processes data for the thirteen dates that have been identified by the
regulators as crucial. The core processing system and item processing system
have thus far been successfully tested through the March 31, 2000, test date.
The remainder of the test dates for all the other mission critical items will be
completed by March 31, 1999.  Validations for the non-critical processes are
scheduled to be completed by June 30, 1999.

The validation stage and the implementation stage overlap for the Company, since
it uses the services of outside software packages. All of the mission critical
software has been installed and is operating in the Bank's systems, and
continues to be tested as part of the implementation process.

                                       29
<PAGE>
 
The Company has initiated formal communications with all of its significant
suppliers, utility providers, and customers to determine the extent to which the
Company is vulnerable to those third parties' failure to remediate their own
Year 2000 issues.  The Company is requesting that third party vendors represent
their products and services to be Year 2000 compliant and that they have a
program to test for that compliance.  However, the response of certain third
parties is beyond the control of the Company.  The Company has developed
contingency plans to address anticipated worst case scenarios.  Contingency
plans may include increasing liquidity levels, adjusting facility shutdown and
start-up schedules, and other appropriate measures.  Once developed, contingency
plans and related cost estimates will be continually refined as additional
information becomes available.  At this time the Company cannot, however,
estimate the additional cost, if any, that might develop from such contingency
plans.  The Company is prepared to curtail credit availability to customers
identified as having material exposure to the Year 2000 issue.  However, the
Company's ability to exercise such curtailment may be limited by various
factors, including existing legal agreements and potential concerns regarding
lender liability.

The Company's total Year 2000 estimated project cost, which is based upon
currently available information, includes expenses for the review and testing of
third parties, including government entities.  However, there can be no
guarantee that the hardware, software, and systems of such third parties will be
without unfavorable Year 2000 issues and therefore not present a material
adverse impact upon the Company.

Year 2000 compliance costs incurred during fiscal 1998 totaled approximately
$25,500, the majority of which was related to external consulting.  This figure
does not include the implicit costs associated with the reallocation of internal
staff hours to Year 2000 project-related efforts.  At this time, management
estimates additional Year 2000 compliance costs, which are expenses on a current
period basis, at approximately $187,900.  This estimate does not include normal
ongoing costs for computer hardware (including ATM's) and software that would be
replaced in the next year in conjunction with the Company's ongoing programs for
updating its delivery infrastructure.  The Year 2000 project cost estimate may
change as the Company progresses in its Year 2000 program and conducts further
testing concerning third parties.  At this time, no significant projects have
been delayed as a result of the Company's Year 2000 effort.

Despite the Company's activities in regard to the Year 2000 issue, there can be
no assurance that partial or total systems interruptions or the costs necessary
to update hardware and software would not have a material adverse effect upon
the Company's business, financial condition, results of operations, and business
prospects.

Recovery under existing insurance policies would be available depending upon the
circumstances of a Year 2000 related event and the type of facility involved.
Generally, no recovery would be available in the event of an orderly shutdown
that does not result in damage to the facility.  Potential recoveries in the
event of facility damage, including business interruption, however, would be
subject to deductibles.

The Company presently believes that the Year 2000 issue will not pose
significant operational problems or have significant impact on its financial
condition, results of operations or cash flows. However, if the third party

                                       30
<PAGE>
 
modification plans are not completed and tested on a timely basis, the Year 2000
issue may have a material impact on the operations of the Company.

The Company has taken a proactive approach to increase Year 2000 compliance of
its commercial customers. At a recent seminar held for the Bank's commercial
customers, a representative from the Federal Reserve Bank specifically addressed
the Year 2000 compliance issue. Additionally a series of letters regarding Year
2000 compliance were mailed to all commercial customers.


Rate Sensitivity And Funds Liquidity Management

  Market Risk Management
  ----------------------

     The Company's management recognizes that taking measured risk is necessary
to effectively manage the daily operations and to maximize shareholder value.
Management policy, strategy, measuring and controlling interest rate risk is the
primary market risk and the responsibility of the Asset/Liability Committee.
The Committee Chairman is an outside director and other members include the
Chairman of the Board of Directors, the President, the Chief Financial Officer,
and certain other senior level managers.

Interest-rate sensitivity on after-tax earnings:
The Company deploys several analytical approaches to monitor and manage
interest-rate risk and cash flow impact, including income simulation and
interest sensitivity (gap) analyses.  The primary analytical tool to assess the
direction and magnitude of changes in net-interest income resulting from changes
in interest rates is the Olson Interest Sensitivity Model  This is used to
estimate the effect of those changes on after-tax earnings in a 12 months period
Key assumptions in the model include prepayment speeds on mortgage-related
assets; changes in market conditions, loan volumes and pricing; deposit
sensitivity; and management's financial capital plans. The Company has no
derivative financial instruments and does not maintain a trading portfolio.
Sensitivity of fee income to market interest-rate levels, such as those related
to cash management service products and mortgage servicing, are included.  The
model incorporates management assumptions about the level of interest rate or
balance changes on indeterminate-maturity deposit products (savings, money
market, NOW, and demand deposits) for a given level of market rate changes.
These assumptions have been developed through a combination of historical
analysis and future expected pricing behavior.  The assumptions will vary with
direction and velocity of interest rate changes.

Floating and fixed rate securities and loans are categorized according to their
repricing opportunities.  Fixed rate loans are categorized according to their
contractual payment schedules.  Additionally, changes in prepayment behavior of
the residential mortgage portfolio in various rate environments are captured
using industry estimates of prepayment speeds for various coupon segments of the
portfolio.  Fixed rate securities reflect recent payment speed assumptions,
which are derived from independent pricing services.  Also, the impact of
planned growth is factored into the simulation model.

The applied assumption are inherently uncertain and, as a result, the model
cannot precisely estimate net-interest income or precisely predict the impact of
higher or lower interest rates on net-interest income.  Actual results will
differ from simulated results due to timing, magnitude, and frequency of
interest-rate changes, and fluctuation in market conditions and management

                                       31
<PAGE>
 
strategies, among other factors.  The Company's objective is to limit the
exposure to annual earnings at risk from a 100 basis point immediate and
sustained parallel change in interest rates.  Management believes, in the
current interest rate environment, an annual impact of 100 basis point shift is
a reasonable simulation.  Based upon the simulation, as of December 31, 1998,
the Company had the following estimated earnings sensitivity profile:

After-tax earnings change:
     +100 basis points    -100 basis points
     +$466,000             $(523,000)

Inherent within interest-rate risk assessment are areas of specific exposure
that the Company monitors closely and routinely.  The following are particular
risks that would necessitate varying management strategies:

 .  Municipal interest rates due to the Company's concentration
 .  New York Prime Rate due to a large segment of commercial and home equity loan
   indices
 .  Intermediate-term U.S. interest rates due to the Company's investment in 15-
   year residential mortgage loans for a small portion of its portfolio

Company management continues to build historical databases and evaluate the
effectiveness and veracity of its model and simulations to increase awareness of
inherent risks.  Simulation and evaluation of interest rate risk is a dynamic
and integrated process.



Liquidity
---------

  The Asset/Liability Committee also is responsible for ensuring that the
Company maintains adequate liquidity and safety of depositor funds.

  Liquidity is provided by the Company's investment portfolio, including the
federal funds position, which averaged 30.21% and 33.31% of average total assets
in 1998 and 1997, respectively.  The investment portfolio had a weighted average
maturity of 48 months in 1998 versus a 41-month average maturity in 1997, with
$14.7 million of the investment portfolio maturing in one year or less.  The
size of the investment portfolio decreased modestly during 1998, as more of the
Company's funding was allocated to the fed funds sold in anticipation of the
acquisition of the Mahopac National Bank.

  The purchase or sale of federal funds provides daily liquidity with various
institutions.  During 1998, the Bank was a seller of federal funds with average
daily sales of $8.3 million.  Although employed for only 14 days during 1998,
the Bank also has the ability to borrow from the Federal Reserve Bank of New
York, a correspondent bank, or the Federal Home Loan Bank (the "FHLB").
Membership in the FHLB system allows the Bank to borrow periodically on a short-
term or long-term basis at preferred rates.  At December 31, 1998, the Bank had
borrowings of $3,968,283 on a long-term basis from the FHLB to fund the Employee
Stock Ownership Plan (ESOP) and for other purposes Included in the total
borrowing is $1.5 million borrowed in December 1998 with a fixed rate and a one-
year term.  The proceeds from these advances have been invested in longer term,
tax-exempt municipal bonds and collateralized mortgage obligations to help lower
the Bank's asset sensitivity position.  The overall liquidity of the 

                                       32
<PAGE>
 
Company is supplemented by its core deposits that, as previously noted, have
grown both in volume and in percentage of total deposits.

  The Bank also had secondary market loan sales and loan participations with
other institutions totaling $1.7 million in various commercial, agricultural and
residential mortgage loans during 1998.  Management expects to continue such
sales from time to time.

  Capital
  -------

  The Company's overall capital level as of December 31, 1998, was at a record
level, well in excess of regulatory guidelines.  The Company's Tier 1 and Total
Capital ratios were 17.84% and 19.10%, respectively.  The significant increase
in capital during 1998 is due in large part to the exercise of the warrants.
This activity raised a total of $3.8 million during 1997. During 1997 and 1998,
the Company purchased $.4 million and $1.6 million, respectively, in common
stock and warrants from the previously announced stock re-purchase plan.

Measures of Performance

  Various measures of performance are available to analyze any bank's safety,
soundness, and financial health.  The Consolidated Financial Highlights section
of this Annual Report details common measures such as return on assets, return
on equity, and earnings per share.  Other indicators are as follows:

1.   Banks measure how they have covered other operating expenses with
noninterest or fee income.  In 1998, 1997, and 1996, the Company covered 18.65%,
16.81%, and 15.88%, respectively, of such operating expenses with noninterest
income or fees.

2.   The capital ratio measures the ending capital of a bank as a percentage of
its ending assets.  The ratio reflects a bank's ability to support deposit
growth and provide a reserve for any potential future deterioration in asset
quality.  At year-end 1998, the capital ratio of the Company was 11.94%, down
from 12.22% at year-end 1997.  This change primarily is a result of the
repurchase of approximately $1.6 million in outstanding stock

3.   The loan-to-deposit ratio is a secondary measure of liquidity.  The Bank's
loan-to-deposit ratio increased to 77.57% at year-end 1998 from 73.65% in 1997.
This ratio is under the 80% ceiling set forth in the Company's strategic plan
and indicates that the Bank maintains adequate liquidity and is actively serving
the credit needs of its community.  The ratio was clearly affected by the larger
increase in the loan volume, compared to the increase in deposits during 1998.

4.   Asset quality is a critical measure of any bank's potential for continued
performance.  The net loan charge-offs of the Bank were $183,956, $180,765, and
$157,610, for years ended December 31, 1998, 1997, and 1996, respectively.
During 1998, 1997, and 1996, the ratio of net charge-offs to average loans
outstanding was .11%, .12% and .12%, respectively, which are very low
percentages when compared with our peer group.  In 1998, net loan losses were
spread among the commercial and industrial, real estate, and consumer loan
categories, with no losses in the agricultural loan category.

5.   The allowance for possible loan losses as a percentage of total loans
outstanding remained constant at 1.27% for the year-end 1998 and 1997.  As a
result of the growth of the loan portfolio and the charge-offs during 1998 and
1997, $532,567 and $368,114, respectively, were charged to the provision 

                                       33
<PAGE>
 
for loan losses. The Company uses three factors to assess the adequacy of the
allowance for possible loan losses. They are: an internal loan classification
report, regulatory loan classifications, and historical loan losses. Based on
these factors, the allowance for loan losses is considered to be adequate.

6.   With the category of non-performing loans defined as non-accruing loans
plus accruing loans past due 90 days or more, the Company had $857,900 in non-
performing loans at year-end 1998, or .46% of total loans, and $824,600 in non-
performing loans at year-end 1997, or 0.52% of total loans.  This compares very
favorably with peer group banks.



Bank Facilities and Services

   In July 1997, the Bank purchased a 9,600-square-foot, one-story, building in
downtown Geneseo New York. The exterior of the building was renovated, as was
one-half of the interior for use as the Bank's 11th branch office, which opened
on January 5, 1998.  The interior was designed to function as a financial center
and includes the Bank's new trust and investment department. The other half of
the building is leased to the U.S. Postal Service.

   The Company has joined with five other area community banks by investing in
Cephas Capital Partners, LLC, a small business investment corporation. Cephas
makes loans commonly known as "mezzanine" financing to present bank customers
and others.  The venture has broadened the Bank's service offerings and, to
date, has met the modest profit expectations.

   The Bank applied for and was granted trust powers during 1997. Presently the
Bank has a full-time trust officer and an assistant working closely with
Tompkins County Trust Company of Ithaca, New York, to provide a full range of
trust and investment services to existing and new customers. The Bank currently
has $12 million under management.

Market for the Common Stock

       The market price for the Company's common stock is reflected on the
National Association of Securities Dealers Automated Quotation System (NASDAQ)
Small Cap Market under the symbol LEBC.  The Company's warrants expired on
December 31, 1997, and are no longer valued.  Ryan, Beck & Company; McConnell,
Budd, and Downes; Tucker Anthony, Inc.; and First Albany Corporation, all make a
market in the Company's common stock.  However, trading in the Company's common
stock is limited, and therefore, no assurance can be given that an active or
liquid market for the common stock does or will exist.  Presently, there are
more than 1,000 holders of the Company's securities.  All shareholders who own
the stock in their own name are eligible to participate in the Company's
Dividend Reinvestment Plan, which was introduced in November of 1991 and has
many participants.

       On February 19, 1999, the closing Bid/Asked price for the Company's
common stock as quoted on the NASDAQ Small Cap Market was $15.50/$14.875.  These
quotations represent inter-dealer quotations without adjustment for retail mark-
ups, markdowns or commissions, and may not necessarily represent actual
transactions. The price is basically similar to what it was one year ago after
having increased to a price of $22 in July of 1998. This is a pattern followed
by many smaller cap companies, particularly community banks, which 

                                       34
<PAGE>
 
have not benefited from the fourth quarter rebound enjoyed by many of the larger
cap stocks. We continue to be pleased with the increased trading volume that the
Company's stock enjoyed this year and believe that this increasing activity will
have a positive long-term benefit to the Company.

       During 1998, the Company declared four quarter dividends totaling $.32
per share of common stock.  This represents an increase of $.05 or 18.52%, over
the amount declared in 1997.  As explained in Note 19 of the Consolidated
Financial Statements, the Company's ability to declare dividends is restricted
by law and related restrictions as to the amount of funds that can be
transferred from the Bank to the parent company.

Performance Summary

  The Company's return on average shareholders' equity was 10.22%, compared to
11.22% and 11.86% for 1997 and 1996, respectively.  The decrease from 1996 is
attributable to the substantial increase in capital from the exercise of
warrants that expired in December 31, 1997.  The Company's return on averages
assets was 1.22% in 1998 compared to 1.26% in 1997 and 1.22% in 1996

                                       35
<PAGE>
 
Item 7 -     Financial Statements


Report of Independent Accountants
PricewaterhouseCoopers LLP

To the Board of Directors and Shareholders of
Letchworth Independent Bancshares Corporation



                       Report of Independent Accountants


To the Board of Directors and Shareholders of
Letchworth Independent Bancshares Corporation


In our opinion, the accompanying consolidated statement of condition and the
related consolidated statements of income, changes in shareholders' equity and
cash flows present fairly, in all material respects, the financial position of
Letchworth Independent Bancshares Corporation and its subsidiary at December 31,
1998 and 1997, and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 1998, in conformity with
generally accepted accounting principles.  These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audits.  We conducted our
audits of these statements in accordance with generally accepted auditing
standards which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation.  We believe that our
audits provide a reasonable basis for the opinion expressed above.



PricewaterhouseCoopers LLP
Buffalo, New York
Consolidated Statement of Condition

                                       36
<PAGE>
 
<TABLE> 
<CAPTION> 
                                                                                            December 31,
                                                                           1998                                       1997
<S>                                                                    <C>                                        <C>
ASSETS:
 
Cash and due from banks                                                $ 10,647,917                               $ 10,863,023
Federal funds sold                                                        9,250,000                                  1,550,000
Investment securities:
   Available for sale                                                    65,255,014                                 34,356,500
   Held to maturity
     (market value of $44,242,300 at December 31, 1997)                           -                                 43,109,322
   Other
     (market value: $2,083,501 in 1998: $1,702,331 in 1997)               2,083,501                                  1,702,331
Loans, net of allowance for loan losses of $2,377,300
   and $2,028,600, respectively                                         184,459,034                                157,943,432
Accrued interest receivable                                               1,731,499                                  1,740,101
Premises and equipment, net                                               6,344,049                                  6,419,871
Other assets                                                              1,891,872                                  2,254,116
                                                                        
       Total assets                                                    $281,662,886                               $259,938,696

 
LIABILITIES AND SHAREHOLDERS EQUITY:
 
Deposits:
   Noninterest bearing                                                 $ 36,432,791                               $ 32,083,730
   Interest bearing                                                     204,419,241                                185,121,594

   Total deposits                                                       240,852,032                                217,205,324

Securities sold under agreements to repurchase                            1,198,294                                  1,673,911
Accrued interest payable                                                  1,158,630                                    810,382
Accrued taxes and other liabilities                                         856,636                                    677,005
Advances from Federal Home Loan Bank                                      3,968,283                                  7,812,302

   Total liabilities                                                    248,033,875                                228,178,924

                                                                          
Commitments and contingent liabilities                                            -                                          -
 
Shareholders' equity:
   Common stock, $1.00 par value, 5,000,000
      shares authorized, 3,390,650 and 1,124,852
      shares issued, respectively                                         3,390,650                                  1,124,852
   Capital surplus                                                       12,347,915                                 14,436,634
   Retained earnings                                                     18,673,887                                 16,428,534
Unearned employee stock ownership plan shares                              (490,654)                                  (539,320)
Accumulated other comprehensive income                                    1,261,145                                    309,072
Treasury stock at cost                                                   (1,553,933)                                         -
    Total shareholders' equity                                           33,629,011                                 31,759,772

Total liability & shareholders' equite                                 $281,662,886                               $259,938,696
</TABLE> 

                                       37
<PAGE>
 
<TABLE> 
<CAPTION> 
CONSOLIDATED STATEMENT OF INCOME
 
                                                                             Year ended December 31,
                                                               1998                    1997                   1996
<S>                                                         <C>                    <C>                      <C>
INTEREST INCOME:
 
  Interest and fees on loans                                $ 16,349,568           $ 14,610,342             $ 13,203,737
  Interest and dividends on investment securities-                                                          
     Taxable                                                   2,632,681               3,254,623               3,580,580
     Exempt from federal income taxes                          1,518,300              1,302,147                1,116,078
  Interest on federal funds sold                                 437,218                 285,446                 239,712
                                                                                                            
       Total interest income                                  20,937,767             19,452,558               18,140,107
                                                                                                            
Interest expense on deposits and advances                      8,811,114               8,052,605               7,443,397
                                                                                                            
  Net interest income                                         12,126,653              11,399,953              10,696,710
  Provision for loan losses                                      532,567                368,165                  282,510
                                                                                                            
        Net interest income after provision                                                                 
        for loan losses                                       11,594,086             11,031,788               10,414,200
                                                                                                            
                                                                                                            
                                                                                                            
OTHER OPERATING INCOME:                                                                                     
  Service charges on deposit accounts                          1,081,239                974,291                  913,667
  Other charges and fees                                         138,434                 89,961                   90,925
  Net gain on sales of loans and investment securities            71,679                 39,906                   26,767
  Other operating income                                         294,491                191,016                  137,730
        Total other operating income                           1,585,843              1,295,174                1,169,089
                                                                                                            
                                                                                                            
                                                                                                            
OTHER OPERATING EXPENSE:                                                                                    
  Salaries and employee benefits                               4,644,958              4,170,037                4,060,834
  Equipment expense                                              885,402                 76,031                  621,224
  Occupancy expense                                              513,960                491,843                  505,532
  Printing and supplies                                          286,872                274,459                  252,491
  FDIC assessment                                                 38,783                 34,371                  190,077
  Other operating expenses                                     2,131,408              1,957,497                1,731,790
                                                                                                             
         Total other operating expense                         8,501,383              7,704,238                7,361,948
                                                                                                            
Income before income taxes                                     4,678,546              4,622,724                4,221,341
Provision for income taxes                                     1,365,903              1,487,000                1,351,000
                                                                                                            
         Net income                                          $ 3,312,643           $  3,135,724             $  2,870,341
                                                                               
Basic earnings per share                                           $1.01                  $1.10                    $1.06
Diluted earnings per share                                         $ .99                  $1.00                     $.97
</TABLE>

                                       38
<PAGE>
 
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY

<TABLE>
<CAPTION>
                                                                                Unearned
                                                                                employee    Accumulated
                                                                                 Stock         other         Treasury     Total
                                           Common     Capital      Retained    ownership   comprehensive      stock   Shareholders'
                                           stock      Surplus      earnings   plan shares      income        at cost      equity
                                        -------------------------------------------------------------------------------------------
<S>                                      <C>        <C>          <C>          <C>          <C>             <C>        <C>
BALANCE AT DECEMBER 31, 1995             $  899,970 $10,206,024  $11,778,164    $(365,678)    $  307,400   $         -  $22,825,880
Comprehensive income:                                                                                                 
   Net Income                                                      2,870,341                                              2,870,341
     Other comprehensive income,                                                                                      
        net of tax:                                                                                                   
          Unrealized loss on investment                                                                               
             securities,  net of                                                                                      
             reclassification adjustment                                                        (144,531)                  (144,531)
                                                                                                                      -------------
                                                                                                                          2,725,810
Exercise of stock options and warrants       39,416     667,024                                                             706,440
ESOP shares committed to be released                     37,072                   112,583                                   149,655
Cash dividends declared ($.22 per share)                            (602,191)                                              (602,191)
-----------------------------------------------------------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1996                929,386  10,910,120   14,046,314     (252,095)       162,869             -   25,805,594
Comprehensive income:                                                                                                 
   Net Income                                                      3,135,724                                              3,135,724
     Other comprehensive income,                                                                                      
        net of tax:                                                                                                   
          Unrealized loss on investment                                                                               
             securities,  net of                                                                                      
             reclassification adjustment                                                         146,203                    146,206
                                                                                                                      -------------
                                                                                                                          3,281,927
Exercise of stock options and warrants      185,466   3,914,124                                                           4,099,590
Repurchse of warrants                                  (429,500)                                                           (429,500)
ESOP shares committed to be released                     41,890                    59,925                                   101,815
Additional shares purchsed by ESOP                                               (346,150)                                 (346,150)
Cash dividends declared ($.27 per share)                            (753,504)                                              (753,504)
-----------------------------------------------------------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1997              1,124,852  14,436,634   16,428,534     (539,320)       309,072             -   31,759,772
Comprehensive income:                                                                                                 
   Net Income                                                      3,312,643                                              3,312,643
     Other comprehensive income,                                                                                      
        net of tax:                                                                                                   
          Unrealized loss on investment                                                                               
             securities,  net of                                                                                      
             reclassification adjustment                                                         153,314                    153,314
         Cumulative effect of change in                                                                               
             accounting principle                                                                798,759                    798,759
                                                                                                                      -------------
                                                                                                                          4,264,716
Exercise of stock options and warrants       13,894      80,057                                                              93,951
Purchase of treasury stock                                                                                  (1,553,933)  (1,553,933)
ESOP shares committed to be released                     83,128                    48,666                                   131,794
Three-for-onestock split                  2,251,904  (2,251,904)                                                                  -
Cash dividends declared ($.32 per share)                          (1,067,289)                                            (1,067,289)
-----------------------------------------------------------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1998             $3,390,650 $12,347,915  $18,673,888    $(490,654)    $1,261,145   $(1,553,933) $33,629,011
</TABLE>

                                       39
<PAGE>
 
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF CASH FLOWS
                                                                                   Year ended December 31,
                                                                           1998                   1997              1996
                                                               -------------------------------------------------------------
<S>                                                              <C>                         <C>               <C>
CASH FLOWS FROM OPERATING ACTIVITIES:                         
   Net income                                                               $  3,312,643      $  3,135,724      $  2,870,341
   Adjustments to reconcile net income to                     
     net cash provided by operating activities-               
       Depreciation and amortization                                           1,070,299           936,294           890,391
       Provision for possible loan losses                                        532,567           368,165           282,510
       ESOP compensation expense                                                 131,794           101,815           149,655
       Gain on sale of investments                                               (60,352)          (36,850)          (12,924)
       Gain on sale of loans                                                     (11,327)           (3,056)          (13,843)
       Deferred tax (benefit) provision                                         (119,864)           93,400             7,200
       Decrease (increase) in interest receivable                                  8,602           (23,860)          233,025
       Decrease (increase) in other assets                                       (44,635)         (194,133)          (48,140)
       Increase (decrease) in interest payable                                   348,248           102,002           (38,971)
       Increase in accrued taxes                              
         and other liabilities                                                   108,495           267,817           626,465
                                                               -------------------------------------------------------------
   Net cash provided by operating activities                                $  5,276,470      $  4,747,318      $  4,945,709
                                                               -------------------------------------------------------------
                                                              
CASH FLOWS FROM INVESTING ACTIVITIES:                         
   Proceeds from sales of securities available                
     for sale                                                               $  5,256,297      $  4,028,594      $  4,519,219
   Proceeds from calls and maturities of   securities         
       Held to maturity                                                        9,200,886         7,574,377        10,038,268
       Available for sale                                                     13,708,484        10,632,975         3,491,312
   Proceeds from sale of loans                                                 1,686,773         1,006,133         1,281,775
   Purchases of securities                                    
       Held to maturity                                                                -        (7,224,304)      (10,440,504)
       Available for sale                                                    (14,707,254)      (14,321,819)       (4,258,207)
       Other                                                                    (381,170)         (442,731)         (468,700)
   Net increase in loans                                                     (28,723,615)      (14,859,633)      (14,242,695)
   Expenditures for capital assets                                              (631,778)       (1,426,058)       (1,198,118)
                                                               -------------------------------------------------------------
   Net cash used in by investing activities                                 $(14,591,377)     $(15,032,466)     $(11,277,650)
                                                               -------------------------------------------------------------
                                                              
CASH FLOWS FROM FINANCING ACTIVITIES:                         
  Net increase in savings, NOW, money market                  
    and non-interest bearing deposits                                       $ 14,382,563      $  3,122,614      $  4,928,493
  Net increase (decrease) in time deposits                                     9,264,145         5,800,688        (1,509,657)
  Net increase (decrease) in securities sold under            
    agreements to repurchase                                                    (475,617)          (28,818)          (65,255)
  Proceeds from borrowings                                                     1,500,000         5,000,000         5,000,000
  Repayment of borrowings                                                     (5,344,019)       (5,332,495)         (362,223)
  Exercise of stock options and warrants                                          93,951         3,753,440           706,440
  Repurchase of warrants                                                               -          (429,500)                -
  Purchase of treasury stock                                                  (1,553,933)                -                 -
  Cash dividends paid                                                         (1,067,289)         (753,504)         (602,191)
                                                               -------------------------------------------------------------
  Net cash provided by financing activities                                 $ 16,799,801      $ 11,132,425      $  8,095,607
                                                               -------------------------------------------------------------
                                                              
Net decrease in cash and cash equivalents                                   $  7,484,894      $    847,277      $  1,763,666
Cash and cash equivalents, beginning of year                                  12,413,023        11,565,746         9,802,080
                                                               -------------------------------------------------------------
Cash and cash equivalents, end of year                                      $ 19,897,917      $ 12,413,023      $ 11,565,746
                                                               -------------------------------------------------------------
                                                              
Interest paid                                                               $  8,462,865      $  7,950,603      $  7,482,368
                                                               -------------------------------------------------------------
Income taxes paid                                                           $  1,328,806      $  1,113,003      $  1,617,000
                                                               -------------------------------------------------------------
</TABLE>

                                       40
<PAGE>
 
Notes to Consolidated Financial Statements

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

Letchworth Independent Bancshares Corporation (the "Company") is a bank holding
company headquartered in Castile, New York.  Through its subsidiary, The Bank of
Castile (the "Bank"), the Company primarily engages in the business of community
banking in the Genesee Valley region of Western New York.

Basis of presentation

The consolidated financial statements include the accounts of the Company and
the Bank. All significant intercompany accounts and transactions have been
eliminated.

The accounting policies of the Company conform with generally accepted
accounting principles and prevailing practices within the banking industry.  The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities at the date of the
financial statements and the reported amounts of revenue and expenses during the
reporting period.  Actual results could differ from those estimates.

Certain prior year balances have been reclassified to conform with the current
year presentation.

Statement of cash flows

For purposes of preparing the statement of cash flows, the Company defines cash
and cash equivalents as cash and due from banks and federal funds sold.

Investment securities

Debt securities for which the Company has the positive intent and ability to
hold to maturity are reported at amortized cost.  Amortization of premiums and
accretion of discounts are recognized in interest income using the interest
method over the period to maturity.

Securities available for sale consist of debt and marketable equity securities
not classified as securities held to maturity and are stated at estimated fair
value.  Unrealized gains and losses on securities available for sale are
reported as a separate component of other comprehensive income, net of tax,
until realized. Amortization of premiums and accretion of discounts are
recognized in interest income using the interest method over the period to
maturity.  Gains and losses on the sale of securities available for sale are
determined using the specific-identification method.

Effective July 1, 1998, the Company early adopted Statement of Financial
Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments
and Hedging Activities."  The Standard requires that an entity recognizes all
derivative instruments as either assets or liabilities in the Statement of
Condition and measure those instruments at fair value.  The Company held no
derivative instruments encompassed by SFAS No. 133 at any time during the three
years in the period ended December 31, 1998.  As permitted by SFAS No. 133, at
the time of adoption the 

                                       41
<PAGE>
 
Company reclassified investment securities with an amortized cost of $36,988,091
and an estimated fair value of $38,162,736 from held to maturity to available
for sale. The cumulative effect of this change in accounting principle has been
shown as a component of other comprehensive income in the Statement of Changes
in Shareholders' Equity.

Other securities consist of capital stock of Federal Home Loan Bank of New York
and other non-marketable equity securities and are reported at cost.

Loans

Loans generally are reported at their outstanding principal balance adjusted for
any charge-offs, the allowance for loan losses, and any deferred fees or costs
on originated loans.  Loan origination fees and certain direct origination costs
are capitalized and recognized as an adjustment to the yield over the life of
the related loan. Loans held for sale are reported at the lower of cost or fair
market value.

Loans, other than consumer loans, are generally transferred to nonaccrual status
when principal or interest payments become 90 days past due.  Any accrued but
uncollected interest previously recorded on such loans is reversed in the
current period.  Past due consumer loans are generally fully reserved or
charged-off when they reach a 90-day delinquency status.  Loans are returned to
accrual status when management determines that the circumstances have improved
to the extent that both principal and interest are collectible and there has
been a sustained period of repayment performance in accordance with the
contractual terms of the loan.

While a loan is classified as nonaccrual and the future collectibility of the
recorded loan balance is doubtful, collections of interest and principal are
generally applied as a reduction to principal outstanding.  When the future
collectibility of the recorded loan balance is expected, interest income may be
recognized on a cash basis.  In the case where a nonaccrual loan had been
partially charged-off, recognition of interest on a cash basis is limited to
that which would have been recognized on the recorded loan balance at the
contractual interest rate.  Cash interest receipts in excess of that amount are
recorded as recoveries to the allowance for loan losses until prior charge-offs
have been fully recovered.

For all loans except large groups of smaller-balance homogenous loans, which are
collectively evaluated, a loan is considered impaired when, based on current
information and events, it is probable that a creditor will be unable to collect
all amounts due according to the contractual terms of the loan. When a loan is
identified as impaired, accrual of interest ceases and any amounts that are
recorded as receivable are reversed out of interest income.

The Company measures its impaired loans by using the fair value of the
collateral if the loan is collateral-dependent and the present value of the
expected future cash flows, discounted at the loan's effective interest rate, if
the loan is not collateral-dependent.  The difference between the recorded value
of the impaired loan and the fair value of the loan is defined as the impairment
allowance.  Impairment allowances are considered by the Company in determining
the overall adequacy of the allowance for credit losses.

The allowance for loan losses is increased by charges to income and decreased by
charge-offs (net of recoveries).  Management's periodic evaluation of the
adequacy of the allowance is based on the Company's past loan experience, known
and inherent 

                                       42
<PAGE>
 
risks in the portfolio, adverse situations that may affect the borrower's
ability to repay, the estimated value of any underlying collateral, and current
economic conditions.

Premises and equipment

Land is carried at cost.  Premises and equipment are stated at cost less
accumulated depreciation and amortization.  Depreciation is computed on the
straight-line basis over the estimated useful lives of the related assets,
generally ranging from three to 40 years.  Amortization of leasehold
improvements is computed on a straight-line basis over the term of the lease.
Maintenance, repairs and minor improvements are charged to operating expense as
incurred. Major improvements are capitalized.

Goodwill and core deposit intangible

The excess of the cost of acquired entities or operations over the fair value of
identifiable assets acquired less liabilities assumed is recorded as goodwill.
All of the Company's goodwill and core deposit intangibles are being amortized
on a straight-line basis over ten years.  The Company periodically assesses
whether events or changes in circumstances indicate that the carrying amount of
goodwill and core deposit intangibles may be impaired.  Impairment is measured
using estimates of future cash flows or earnings potential of the operations
acquired.

Stock-based compensation

The Company accounts for stock-based compensation using the provisions of
Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued
to Employees," which require compensation cost to be recognized based on the
difference, if any, between the quoted market price of the stock on the grant
date and the amount an employee must pay to acquire the stock. The Company
presents the pro forma compensation expense calculated in accordance with
Statement of Financial Standards (SFAS) No. 123, "Accounting for Stock-Based
Compensation" in Note 9. For purposes of this calculation, pro forma
compensation expense is recognized over the vesting period of the option,
generally nine years.

Income taxes

The Company accounts for income taxes using the asset and liability approach,
which requires recognition of deferred tax liabilities and assets for the
expected future tax consequences of temporary differences between the carrying
amounts and the tax basis of such assets and liabilities.  This method utilizes
enacted statutory tax rates in effect for the year in which the temporary
differences are expected to reverse and gives immediate effect to changes in
income tax rates upon enactment.  Deferred tax assets are recognized, net of any
valuation allowances, for deductible temporary differences and tax credit
carryforwards.

Earnings per share

Basic earnings per share excludes dilution and is computed by dividing income
available to common shareholders by the weighted-average number of common shares
outstanding for the period.  Employee Stock Ownership Plan shares not committed
to be released are not considered outstanding for purposes of this calculation.
Diluted earnings per share reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into 

                                       43
<PAGE>
 
common stock or resulted in the issuance of common stock that then shared in the
earnings of the Company.

Stock split

On May 7, 1998, the shareholders approved an increase in the allowable
outstanding shares of common stock to 5,000,000 shares and a three-for-one stock
split effective for shareholders of record on May 8, 1998.  The stock split was
recorded by a transfer of $2,251,904 from capital surplus to common stock,
representing $1.00 par value for each additional share issued.  All per share
data has been retroactively restated to reflect the split.

NOTE 2 - ACQUISITION:

In January 1999, the Company entered into an agreement to acquire a majority
interest in The Mahopac National Bank (Mahopac), headquartered in Mahopac, New
York.  Mahopac has three branch offices in Putnam County and had approximately
$148 million of assets at December 31, 1998.  The Company expects to purchase
between 58% and 70% of the outstanding common shares of Mahopac at an expected
purchase price between $12.0 million and $14.5 million.  The shareholder
agreement includes a provision that grants the Company the right to acquire
substantially all of the remaining outstanding shares of Mahopac, if the
Company's shares of Mahopac have not been previously acquired by the remaining
shareholders.  The merger, which will be accounted for as a purchase, is subject
to the approval of the shareholders of Mahopac and the appropriate bank
regulators and is expected to be completed in May 1999.

NOTE 3 - RESTRICTIONS ON CASH AND DUE FROM BANKS: The Federal Reserve Board
requires banks to maintain certain minimum cash balances consisting of vault
cash and deposits in the Federal Reserve Bank.  The amount of such reserves is
based on percentages of certain deposit types and totaled $1,598,000 and
$2,515,000 at December 31, 1998 and 1997, respectively.

NOTE 4 - INVESTMENT SECURITIES:
The amortized cost and estimated market value of securities available for sale
are as  follows:

<TABLE>
<CAPTION>
                                                                                  Gross             Gross          Estimated
                                                               Amortized       unrealized          unrealized        market
                                                                 cost             gains             losses           value
                                                           -------------------------------------------------------------------
       December 31, 1998
U.S. Treasury securities and obligations of
<S>                                               <C>        <C>              <C>               <C>               <C>
   U.S. government corporations and agencies                   $13,742,386       $  346,126          $   (647)     $14,087,865
State and political subdivision obligations                     32,486,465        1,414,614           (24,571)      33,876,508
Mortgage-backed securities                                      17,173,404          161,538           (44,301)      17,290,641
                                                           -------------------------------------------------------------------
                                                  Total         63,402,255        1,922,278           (69,519)      65,255,014
                                                           -------------------------------------------------------------------
 
December 31, 1997
U.S. Treasury securities and obligations of
   U.S. government corporations and agencies                    14,920,070          270,302            (3,672)      15,186,700
State and political subdivision obligations                      4,812,298          112,351            (1,449)       4,923,200
Mortgage-backed securities                                      14,163,181           98,359           (14,940)      14,246,600
                                                           -------------------------------------------------------------------
                                                  Total        $33,895,549       $  481,012          $(20,061)     $34,356,500
                                                           -------------------------------------------------------------------
</TABLE>

                                       44
<PAGE>
 
The amortized cost and estimated market value of securities held to maturity are
as follows:

<TABLE>
<CAPTION>
                                                                            Gross            Gross         Estimated
                                                         Amortized       unrealized       unrealized         market
                                                            cost            gains           losses           value
                                                      ----------------------------------------------------------------
<S>                                                     <C>             <C>              <C>              <C>
  December 31, 1997
U.S. Treasury securities and obligations of
   U.S. government corporations and agencies             $11,958,264       $  210,724         $  (588)     $12,168,400
State and political subdivision obligations               24,961,440          895,029          (2,769)      25,853,700
Mortgage-backed securities                                 6,189,618           35,303          (4,721)       6,220,200
                                                      ----------------------------------------------------------------
  Total                                                  $43,109,322        1,141,056          (8,078)     $44,242,300
                                                      ----------------------------------------------------------------
</TABLE>

The market values of securities are estimated utilizing independent pricing
services and are based on available market data.  The market values of state and
political subdivision obligations that are not actively traded are determined by
independent pricing services based on market transactions in comparable
securities and various relationships between securities.

The amortized cost and estimated market value of debt securities at December 31,
1998, by contractual maturity, are shown below.  Actual maturities may differ
from contractual maturities because borrowers may have the right to call or
prepay obligations.

<TABLE>
<CAPTION>
                                                                         Available for sale
                                                                                         Estimated
                                                                  Amortized               market
                                                                    cost                   value
 
<S>                                                         <C>                    <C>
Due within one year                                                   $14,739,654            $14,845,840
Due after one year through five years                                  16,651,369             17,209,062
Due after five years through ten years                                 18,748,905             19,720,399
Due after ten years                                                    13,262,326             13,479,713
                                                          ----------------------------------------------
                 Total Securities                                     $63,402,254            $65,255,014
                                                          ----------------------------------------------
</TABLE>


Investments originating from the Federal Home Loan Mortgage Corporation and the
Federal National Mortgage Association each exceeded 10% of shareholders' equity
as of December 31, 1998.  The total amortized cost and market value of
securities pledged to secure public deposits, as required by law, was
$40,439,900 and $41,649,400, respectively, at December 31, 1998.

                                       45
<PAGE>
 
NOTE 5 - LOANS:

Loans consisted of the following:

<TABLE>
<CAPTION>
                                                                         December 31,
                                                                    1998              1997
                                                           -----------------------------------
 
<S>                                                            <C>               <C>
Residential real estate                                         $ 53,638,439      $ 49,158,726
Commercial real estate                                            39,948,496        35,046,889
Commercial and industrial loans                                   38,201,766        33,616,025
Agricultural loans                                                35,707,279        31,563,146
Consumer loans                                                    19,340,354        10,587,246
                                                           -----------------------------------
                                                                 186,836,334       159,972,032
Allowance for loan losses                                         (2,377,300)       (2,028,600)
                                                           -----------------------------------
                        Total Loans                             $184,459,034      $157,943,432
                                                           -----------------------------------
</TABLE>

Included in residential real estate loans are $15,347,038 and $8,843,953 of
loans held for sale at December 31, 1998 and 1997, respectively. Loans serviced
for others, principally residential real estate loans, amounting to $10,147,104
and $11,161,100 at December 31, 1998 and 1997, respectively, are not included in
the consolidated financial statements.

Impaired loans totaled $262,200 and $576,000 at December 31, 1998 and 1997,
respectively.  The total allowance for loan losses related to these loans was
$90,400, $73,700 and $120,700 at December 31 of 1998, 1997 and 1996,
respectively. The average recorded investment in impaired loans during 1998,
1997 and 1996 was $441,500, $436,800 and $409,900, respectively.  Nonaccrual
loans totaled $468,300 and $727,100 at December 31, 1998 and 1997, respectively.
Accruing loans past due 90 days or more totaled $389,600 and $97,500 at December
31, 1998 and 1997, respectively.  Interest income that would have been earned on
nonaccrual loans as of December 31, 1998 and 1997 and 1996, would have been
$52,382, $26,355 and $42,477, respectively. Interest income that was recognized
on these nonaccrual loans for 1998, 1997 and 1996 was not significant.

The Company does not have reportable operating segments as defined by SFAS No.
131, "Disclosures about Segments of an Enterprise and Related Information."  A
summary of revenues by loan products consists of the following:

<TABLE>
<CAPTION>
                                                 Year ended
                                                 December 31,
                                        1998        1997          1996
                                   ------------ -----------     ----------  
<S>                                <C>          <C>             <C> 
Residential real estate            $  4,210,550  $4,017,130     $3,767,700
Commercial real estate                3,838,940   3,299,020      3,155,050
Commercial and industrial loans       3,688,390   3,169,650      2,590,400
Agricultural loans                    2,869,500   2,589,500      2,209,000
Consumer loans                        1,742,208   1,535,042      1,470,587  
Total revenue                       $16,349,588 $14,610,342    $13,203,737
                                    ----------- -----------    -----------
</TABLE>

As discussed in Note 16, the Company's customers are located primarily in the
counties of Genesee, Wyoming and Livingston in New York State.  There are no
transactions with a single customer that in the aggregate result in revenues
that exceed ten percent of consolidated total revenues.

                                       46
<PAGE>
 
An analysis of changes in the allowance for possible loan losses is as follows:

<TABLE>
<CAPTION>
                                         Year ended December 31,
                                1998             1997             1996
                             ---------------------------------------------
<S>                          <C>             <C>               <C>
Balance, beginning of year   $2,028,600      $1,841,200        $1,716,300
   Provision expense            532,567         368,165           282,510
   Charge-offs                 (231,112)       (216,280)         (185,599) 
   Recoveries                    47,245          35,515            27,989
                             -----------------------------------------------
Balance, end of year         $2,377,300      $2,028,600        $1,841,200
                             -----------------------------------------------
</TABLE>

NOTE 6 - PREMISES AND EQUIPMENT:

Premises and equipment, net of accumulated depreciation and amortization,
consisted of the following:


<TABLE>
<CAPTION>
                                                             December 31,
                                                       1998           1997
                                                   ----------------------------
<S>                                                <C>            <C>
Land and improvements                              $   341,182    $   320,976
Premises                                             5,326,295      5,005,423
Furniture, Fixtures and equipment                    4,473,873      4,193,163
Leasehold improvements                                 176,070        176,070
                                                   --------------------------
                                                   $10,317,420    $ 9,695,632
   Accumulated depreciation and amortization        (3,973,371     (3,275,761)
                                                   --------------------------
Net Book Value                                     $ 6,344,049    $ 6,419,871
                                                   --------------------------
</TABLE>


Depreciation and amortization expense relating to premises and equipment was
approximately $707,600 in 1998, $649,200 in 1997 and $547,500 in 1996.


NOTE 7 - DEPOSITS:

Deposits consisted of the following:

<TABLE>
<CAPTION>
                                                             December 31,
                                                         1998           1997
                                                     ---------------------------
<S>                                                  <C>            <C>
Noninterest bearing demand deposits                  $ 36,432,791   $ 32,083,730
Negotiable order of withdrawal deposits                32,806,269     30,538,409
Savings deposits                                       37,210,480     34,559,819
Money market deposits                                  16,619,819     11,504,838
Certificates of deposit less than $100,000             86,377,846     87,528,729
Certificates of deposit $100,000 or greater            31,404,827     20,989,799
                                                     ------------   ------------
Total Deposits                                       $240,852,032   $217,205,324
</TABLE>


At December 31,1998, the scheduled maturities of certificates of deposit in
1999, 2000, 2001, 2002 and 2003 and thereafter are as follows:  $91,461,311,
$19,016,831, $5,598,674, $442,265 and $1,263,592, respectively.

                                       47
<PAGE>
 
NOTE 8 - BORROWINGS:

At December 31, 1998, the Company had advances, secured by residential mortgage
loans, from the Federal Home Loan Bank of New York of $3,968,283.  Advances from
the Federal Home Loan Bank of New York averaged approximately $7,332,000 during
1998, and the maximum amount outstanding at any month-end during 1998 was
$7,720,010. The borrowings have fixed rates of interest ranging from 5.25% to
7.97%, with a weighted average interest rate of 6.51%, and mature at various
dates through 2005. Principal repayments required in 1999, 2000, 2001, 2002,
2003 and thereafter are as follows: $1,866,431, $312,728, $342,437, $368,235,
$395,993 and $682,459 respectively.  At December 31, 1998, the Company has an
available line of credit with the Federal Home Loan Bank of New York of
$26,342,400. There is no amount outstanding on this line at December 31, 1998.
There are no significant commitment fees associated with this line. Securities
sold under agreements to repurchase averaged approximately $2,395,000 during
1998, and $1,837,000 during 1997. The maximum amount outstanding at any month-
end during 1998 was $5,819,874.

NOTE 9 - SHAREHOLDERS' EQUITY:

The Company has 300,000 shares reserved for issuance under its fixed stock
option plan.  The options may be granted at prices not less than the fair market
value at the date of grant, vest over periods up to nine years, and expire no
later than ten years after the date of grant. There were no options granted in
1998 and 1997 and 17,000 options granted in 1996. The fair value of each option
grant is estimated on the date of grant using the Black-Scholes option pricing
model. The options granted during 1996 were valued using the following
assumptions:  a risk-free interest rate of 6.49%; an expected life of seven
years; expected volatility of 14.98%; and an expected dividend yield of 2.62%.
The Company has not recognized any compensation cost associated with the
granting of options. Had the Company recognized compensation cost associated
with these options, net income and earnings per share would have been as
follows:

<TABLE>
<CAPTION>
                                          Year ended December 31,
                                     1998          1997         1996
Pro forma:
<S>                               <C>           <C>           <C>      
   Net income                     $3,299,060    $3,122,141    $2,864,681
   Basic earnings per share            $1.01         $1.10         $1.06
   Diluted earnings per share          $ .98         $1.00         $ .97
</TABLE>



A summary of the status of the Company's stock option plan as of December 31,
1998, 1997 and 1996, and changes during the years ending on those dates is as
follows:

                                       48
<PAGE>
 
<TABLE>
<CAPTION>
                                 1998                        1997                        1996
                       --------------------------------------------------------------------------------
                                       Weighted                    Weighted                    Weighted
                                       average                     average                     average
                                       exercise                    exercise                    exercise
                        Shares          price       Shares          price       Shares          price
                       --------------------------------------------------------------------------------
<S>                    <C>       <C>   <C>         <C>       <C>   <C>         <C>       <C>   <C>
Outstanding at          50,726              $20     71,492              $18     81,258              $15
 beginning of year
Granted                                                                         17,000              $29
Three-for-one          101,452              $ 7
 stock split
Exercised              (15,794)             $ 6    (20,766)             $15    (25,016)             $15
Forfeited                                                                       (1,750)             $ 5
                       --------------------------------------------------------------------------------
Outstanding at         136,384              $ 7     50,726              $20     71,492              $18
 year end
                       --------------------------------------------------------------------------------
Options                 73,611              $ 5     16,924              $16     27,864              $15
 exercisable at
 year end
                       --------------------------------------------------------------------------------
Fair value of                                                                     7.99
 options granted
 during the year
                       --------------------------------------------------------------------------------
</TABLE>


At December 31, 1998, there are 87,934 options outstanding with an exercise
price of $5 and a remaining contractual life of one year, and 48,450 options
outstanding with an exercise price of $9.67 and a remaining contractual life of
seven years.

During 1993, the Company sold 200,000 shares of its common stock with attached
warrants to purchase an additional 200,000 shares.  The warrants were
exercisable at $23.00 per share and expired on December 31, 1997.  Warrants for
164,700 shares and 14,400 shares were exercised during 1997 and 1996,
respectively.  The total number of warrants exercised was $182,623.

NOTE 10 - EMPLOYEE BENEFIT PLANS:

The Company has a noncontributory defined benefit pension plan covering
substantially all employees.  Benefits are based on 1% of career average annual
compensation multiplied by the number of years of service, up to 40 years.  The
Company's funding policy is to contribute annually an amount, based on actuarial
computations, which would satisfy the Internal Revenue Service's funding
standards.

Net pension expense includes the following components:
<TABLE>
<CAPTION>
 
                                                           Year ended December 31,
                                                         1998        1997       1996
<S>                                                   <C>         <C>         <C>
 
Service cost                                          $  93,518   $  87,056   $ 83,041
Interest cost on projected benefit obligation           105,666      95,691     86,718
Expected return on plan assets                         (125,824)   (111,534)   (99,995)
Amortization of unrecognized transition obligation       (7,073)     (7,073)    (7,073)
Amortization of prior service cost                          (28)        (28)       (28)
 
 Net pension expense                                  $  66,259   $  64,112   $ 62,663
 
</TABLE>

                                       49
<PAGE>
 
The funded status of the plan was as follows:
<TABLE>
<CAPTION>
 
                                                       Pension Benefits
                                                      1998         1997
<S>                                                <C>          <C>
 
Change in benefit obligation:
 Benefit obligation at beginning of year           $1,521,386   $1,381,795
 Service cost                                          93,518       87,056
 Interest cost                                        105,666       95,691
 Actuarial loss                                       172,393       17,446
 Benefits paid                                        (67,907)     (60,602)
                                                   ----------   ----------
 
 Benefit obligation at end of year                  1,825,056    1,521,386
                                                   ----------   ----------
 
Change in plan assets:
 Fair value of plan assets at beginning of year     1,650,678    1,467,525
 Actual return on plan assets                         103,961      243,755
 Benefits paid                                        (67,907)     (60,602)
                                                   ----------   ----------
 
 Fair value of plan assets at end of year           1,686,732    1,650,678
                                                   ----------   ----------
 
Funded status                                        (138,324)     129,292
Unrecognized net actuarial loss (gain)                 42,818     (151,438)
Unrecognized prior service cost                          (294)        (322)
Unrecognized initial net obligation                   (26,876)     (33,949)
                                                   ----------   ----------
Accrued benefit cost                                 (122,676)     (56,417)
 
</TABLE>

The projected benefit obligation at December 31, 1998 and 1997, was determined
using a discount rate of 6.50% and 7.00%, respectively, and an assumed average
rate of increase in future compensation levels of 5.50%.  The expected long-term
rate of return on plan assets was 7.75%. The plan assets consist primarily of
fixed income securities.  The unrecognized net transition asset as of January 1,
1989, is being amortized over the remaining service lives of the participants at
that date, which approximates 14 years.

The Company also has an executive supplemental income plan which provides for
specified deferred compensation benefits payable to certain officers in the
event of death, disability or retirement.  The liability relating to this plan
was approximately $210,000 and $225,000 at December 31, 1998 and 1997,
respectively, and was determined using a discount rate of 7.50% and an assumed
rate of increase in future compensation of 3%.  There were charges to income
related to this plan in 1998 and 1997 of approximately $10,600 and $34,700,
respectively.  The Company is both owner and beneficiary of a life insurance
policy on the life of each participant, the proceeds from which can be used to
fund the after-tax cost of the promised benefits.  The cash surrender value of
such life insurance policies was approximately $570,000 and $562,000 as of
December 31, 1998 and 1997, respectively.

The Company sponsors an internally leveraged employee stock ownership plan
("ESOP") that covers all employees with one year of service, who work at least
1,000 hours per year and who have attained the age of 21.  The Company has
financed the purchase of ESOP shares with borrowings from the Bank, which in
turn borrows the amount from the Federal Home Loan Bank of New York.  The
Company makes annual contributions to the ESOP equal to the ESOP's debt service.
As the debt is repaid, shares are released from collateral and 

                                       50
<PAGE>
 
allocated to active employees, based on the proportion of debt service paid in
the year.

The Company accounts for its ESOP in accordance with Statement of Position 93-6,
"Employers' Accounting for Employee Stock Ownership Plans."  Accordingly, the
debt of the ESOP is recorded as debt and the shares pledged as collateral are
reported as unearned ESOP shares in the consolidated statement of condition.  As
shares are released from collateral, the Company recognizes compensation expense
equal to the current market price of the shares, and the shares become
outstanding for earnings per share computations.  Dividends on allocated ESOP
shares are recorded as a reduction of retained earnings; dividends on
unallocated ESOP shares are available for debt service.  ESOP compensation
expense was approximately $131,800, $101,800 and $149,700 for the years ended
December 31, 1998, 1997 and 1996, respectively.  The ESOP shares at December
31,1998, have been adjusted for the three-for-one stock split discussed in Note
1.  The ESOP shares are as follows:

<TABLE>
<CAPTION>
                                          December 31,
                                        1998        1997
<S>                                  <C>         <C>
 
  Released and allocated shares      $  170,298  $   58,759
  Unreleased shares                      62,793      23,547
   Total ESOP shares                    233,091      82,306
                                     ----------  ----------
  Fair value of unreleased shares    $1,004,688  $1,130,256
</TABLE>

NOTE 11 - INCOME TAXES:

The components of the provision for income taxes are as follows:

<TABLE>
<CAPTION>
                                 Year ended December 31,
                            1998           1997           1996
                        -------------------------------------------
<S>                     <C>              <C>              <C>
Current:
    Federal             $1,064,584       $1,055,800     $1,021,500
    State                  421,183          337,800        322,300
                        ------------------------------------------
       Total             1,485,767        1,393,600      1,343,800
                        ------------------------------------------
                                                        
                                                        
Deferred:                                               
    Federal                (93,681)          71,700          6,000
    State                  (26,183)          21,700          1,200
                        ------------------------------------------
                          (119,864)          93,400          7,200
                        ------------------------------------------
Total                   $1,365,903       $1,487,000     $1,351,000
                        ------------------------------------------
</TABLE>

                                       51
<PAGE>
 
The components of deferred tax assets and liabilities are as follows:

<TABLE>
<CAPTION>
                                                            December 31,
                                                           1998       1997
                                                       ----------------------
<S>                                                     <C>         <C> 
Deferred tax assets:
     Allowance for loan losses                          $716,900    $643,100
     Deferred compensation                                84,300      90,000
     Unrealized gains recognized for tax purposes         73,900      59,200
     Deferred loan origination fees and costs             28,000      38,100
     Pension                                              38,400      22,800
    Other                                                 43,500       9,800
Total                                                    985,000     863,000
                                                       ---------------------
                                                                   
Deferred tax liabilities:                                          
     Depreciation                                        445,400     443,000
     Unrealized investment gains                         611,000     151,900
Total                                                  1,056,400     594,900
                                                       ---------------------
           Net deferred tax (liability) asset           $(71,400)   $268,100
                                                       ---------------------
</TABLE>

The Company believes that it is more likely than not that the net deferred tax
asset will be realized through future taxable earnings.

The provision for income taxes is different from that which would be obtained by
applying the statutory federal income tax rate to income before taxes.  The
items causing this difference are as follows:

<TABLE>
<CAPTION>
                                                1998                         1997                        1996
                                  -----------------------------------------------------------------------------------
                                                       % of                         % of                        % of
                                                      pretax                       pretax                      pretax
                                     Amount           income      Amount           income     Amount           income
                                  -----------------------------------------------------------------------------------
<S>                               <C>           <C>   <C>      <C>           <C>   <C>      <C>          <C>   <C>
Expected tax at federal            $1,590,706           34.0%   $1,571,700           34.0%  $1,435,000           34.0%
 statutory rates
Increases (decreases)
 resulting from:
   Tax exempt interest               (446,416)          (9.5)     (384,300)          (8.3)    (331,000)          (7.8)
   State income taxes, net of         260,700            5.6       237,300            5.1      214,000            5.0
    federal benefit
   Other, net                         (39,087)          (0.8)       62,300            1.4       33,000            0.8
                                  -----------------------------------------------------------------------------------
Provision for income taxes          1,365,903           29.3     1,487,000           32.2%   1,351,000           32.0%
                                  -----------------------------------------------------------------------------------
</TABLE>

                                       52
<PAGE>
 
<TABLE>
<CAPTION>
NOTE 12 - EARNINGS PER SHARE:
 
The calculations of basic and diluted earnings per share are as follows:
 
Year ended December 31,
                                              1998       1997        1996
<S>                                        <C>         <C>         <C>
Income available to common shareholders    $3,312,643  $3,135,724  $2,870,341
                                           
BASIC EARNINGS PER SHARE                   
Weighted average shares outstanding         3,266,509   2,838,660   2,697,351
Basic earnings per share                   $     1.01  $     1.10  $     1.06
                                           
DILUTED EARNINGS PER SHARE                 
Weighted average shares outstanding         3,266,509   2,838,660   2,697,351
Dilutive effect of:                        
  Warrants                                         68     187,212     135,483
  Stock options                                86,949     105,828     117,324
                                           
Adjusted weighted average shares           
 outstanding                                3,353,526   3,131,700   2,950,158
Diluted earnings per share                 $      .99  $     1.00  $      .97
</TABLE>

NOTE 13 - COMPREHENSIVE INCOME:

The Company adopted SFAS No. 130, "Reporting Comprehensive Income," in the first
quarter of 1998.  SFAS No. 130 establishes standards for reporting and
displaying comprehensive income and its components.  Financial statements
presented for periods prior to 1998 are required to be reclassified to reflect
application of the provision of SFAS No. 130.  The following table sets forth
the components of other comprehensive income.

<TABLE>
<CAPTION>
                                    Year ended
                                 December 31, 1998
                                 -----------------

                          Before tax         Income
                            amount           taxes            Net
<S>                       <C>          <C>                 <C>
Unrealized gains
  on securities
   Unrealized holding
     gains                $  277,515           $ (82,859)  $194,656
 
   Less:
     Reclassification
     adjustment for
     gains realized
     in net income           (60,352)             19,010    (41,342)
                          ----------   -----------------   --------
 
Net unrealized
  gains                   $  217,163           $ (63,849)  $153,314
 
 
Cumulative effect of
  change in accounting
  principle               $1,174,645           $(375,886)  $798,759
</TABLE> 

                                       53
<PAGE>
 
<TABLE> 
<CAPTION> 
                                          Year ended
                                       December 31, 1997
                                       -----------------
                          Before tax        Income
                            amount           taxes           Net
<S>                       <C>          <C>                 <C>
Unrealized gains
  on securities
   Unrealized holding
     gains                $  225,999           $ (53,633)  $172,366
 
   Less:
     Reclassification
     adjustment for
     gains realized
     in net income           (36,850)             10,687    (26,163)
                          ----------   -----------------   --------
 
Net unrealized
  gains                   $  189,149           $ (42,946)  $146,203
 
</TABLE>

<TABLE>
<CAPTION>
                            Year ended
                            December 31, 1996
                            -----------------
                         Before tax   Income
                           amount      taxes      Net
<S>                      <C>          <C>      <C>
Unrealized losses
  on securities:
   Unrealized holding
     gains                $(230,387)  $94,645  $(135,742)
 
   Less:
     Reclassification
     adjustment for
     gains realized
     in net income          (12,924)    4,135     (8,789)
                         ----------   -------  ---------
 
Net unrealized
  losses                  $(243,311)   98,780   (144,531)
</TABLE>

NOTE 14 - RELATED PARTY TRANSACTIONS:

The Company has entered into transactions with its executive officers,
directors, principal shareholders, and companies in which such individuals have
10% or more ownership (related parties).  It is the Company's policy that all
related party transactions are conducted at "arms- length" and all loans and
commitments included in such transactions are made on substantially the same
terms, including interest rates and collateral, as those prevailing at the time
for comparable transactions with other customers.

The aggregate amount of loans to such related parties at December 31, 1998, was
$7,472,861.  During 1998, new loans and increases in existing loans to such
related parties amounted to  $18,262,814 and principal repayments amounted to
$17,254,653.  At December 31, 1998, there were approximately $874,904 in
deposits from such related parties.

NOTE 15 - COMMITMENTS AND CONTINGENT LIABILITIES:

The Company operates one branch office under a noncancellable lease agreement
which expires in 2002.  Two other branch offices are located on land which is
being leased through 2004 and 2090, respectively.  These lease agreements
contain various renewal and purchase options at maturity.

Future minimum rentals under these leases are: 1999-2003, $9,600 per year.
Total rental expense was approximately $10,300 in 1998 and $16,400 in 1997 and
$23,000 in 1996.

                                       54
<PAGE>
 
NOTE 16 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK AND CONCENTRATIONS
OF CREDIT RISK:

The Company is party to financial instruments with off-balance sheet risk in the
normal course of business in order to meet the financing needs of its customers.
These financial instruments include commitments to extend credit and standby
letters of credit which involve, to varying degrees, elements of credit,
interest rate or liquidity risk in excess of the amount recognized in the
consolidated statement of condition. The Company's exposure to credit loss in
the event of nonperformance by the other party to the financial instrument for
commitments to extend credit and standby letters of credit is represented by the
contractual amounts of those instruments.  The Company has experienced minimal
credit losses to date on its financial instruments with off-balance sheet risk.

The Company uses the same credit policies in making commitments and conditional
obligations as it does for on-balance sheet instruments.  The Company controls
the credit risk of off-balance sheet instruments through credit approvals,
limits and monitoring procedures, and management evaluates each customer's
credit worthiness on a case-by-case basis.  The amount of collateral obtained is
based on management's credit evaluation of the customer.

Commitments to extend credit, which generally have fixed expiration dates or
other termination clauses, are legally binding agreements to lend to a customer
(as long as there is no violation of any condition established in the contract).
At December 31, 1998, the Company's total commitments to extend credit
approximated $40,094,237. Since a portion of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily
represent future liquidity requirements.

The Company has identified certain credit risk concentrations in relation to its
on- and off-balance sheet financial instruments.  Credit risk is defined as the
possibility that a loss may occur from the failure of another party to perform
according to the terms of the contract.  A credit risk concentration results
when the Company has a significant credit exposure to an individual or a group
engaged in similar activities or affected similarly by economic conditions.

The Company's customers are located primarily in the counties of Genesee,
Wyoming and Livingston in New York State.  As Note 5 to the consolidated
financial statements indicates, approximately 19% of the Company's outstanding
loans are commercial loans to customers who are directly involved in the
agriculture industry, primarily dairy farmers.  In addition, there are other
commercial and industrial loans, real estate loans and consumer loans
outstanding to customers who are indirectly related to the agriculture industry.

NOTE 17 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS:

The following methods and assumptions were used to estimate the fair value of
each class of financial instruments:

                                       55
<PAGE>
 
 Cash and short-term instruments

 For those short-term instruments, the carrying amount represents an estimate of
 fair value.

 Loan receivables

 The fair value of loans is determined by utilizing a discounted cash flow model
 which considers scheduled maturities, repricing characteristics, prepayment
 assumptions and interest cash flows.

 Deposit liabilities

 The fair value of demand deposits, savings accounts, and certain money market
 deposits is the amount payable on demand at the reporting date.  The fair value
 of fixed-maturity certificates of deposit is determined by utilizing a
 discounted cash flow model which considers scheduled maturities, repricing
 characteristics and interest cash flows.

 Borrowings

 A discounted cash flow model utilizing rates currently available to the bank
 for debt with similar terms and remaining maturities is used to estimate fair
 value of existing debt.

 Commitments to extend credit

 Fees charged for commitments to extend credit and stand-by letters of credit
 are not significant and are offset by associated credit risk with respect to
 certain amounts expected to be funded. Accordingly, the fair value of the
 financial instruments is immaterial.

 The estimated fair values of the Company's financial instruments are as
 follows:


<TABLE>
<CAPTION>
 
 
                                         December 31, 1998                December 31,1997
                                      Carrying                        Carrying
                                       amount         Fair value        amount      Fair value
<S>                              <C>              <C>               <C>           <C>
                                 -----------------------------------------------------------------
Financial assets:
 Cash and due from banks            $ 10,647,917  $ 10,647,917      $ 10,863,023  $ 10,863,023
 Federal funds sold                    9,250,000     9,250,000         1,550,000     1,550,000
 Investment securities                67,338,515    67,338,515        79,168,153    80,301,131
 Loans, net of allowance
   for possible loan losses          184,459,034   189,172,000       157,943,432   158,960,000
 
Financial liabilities:
 Deposits                            240,852,032   241,686,032       217,205,324   217,395,300
 Securities sold under
   agreements to repurchase            1,198,294     1,198,294         1,673,911     1,673,911
 Advances from the Federal
   Home Loan Bank                      3,968,283     4,804,000         7,812,302     7,812,302
 </TABLE>

The reported fair values of financial instruments are based on a variety of
factors. Accordingly, the fair values may not represent actual values of the
financial instruments that could have been realized as of year-end or that will
be realized in the future.

                                       56
<PAGE>
 
NOTE 18 - REGULATORY MATTERS:

The Company is subject to various regulatory capital requirements administered
by the federal banking agencies.  Failure to meet minimum capital requirements
can initiate certain mandatory  (and possibly additional discretionary) actions
by regulators that, if undertaken, could have a direct material effect on the
Company's financial statements.  Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Company must meet
specific capital guidelines that involve quantitative measures of the Company's
assets, liabilities, and certain off-balance-sheet items as calculated under
regulatory accounting practices.  The Company's capital amounts and
classification are subject to qualitative judgments by the regulators about
components, risk weightings, and other factors.

Quantitative measures established by regulation to ensure capital adequacy
require the Company to maintain minimum amounts and ratios (set forth in the
table below) of total and Tier I capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier I capital (as defined) to average
assets (as defined).  Management believes, as of December 31, 1998, that the
Bank meets all capital adequacy requirements to which it is subject.

As of December 31, 1998, the most recent notification from the Federal Deposit
Insurance Corporation categorized the Company as well capitalized under the
regulatory framework for prompt corrective action.  To be categorized as well
capitalized the Company must maintain minimum total risk-based, Tier I risk-
based, Tier I leverage ratios as set forth in the table.  The Company's actual
capital amounts and ratios are also presented in the table.  There are no
conditions or events since that notification that management believes have
changed the institution's category

<TABLE>
<CAPTION>
 
                                                                                                           To be well   
                                                                                                        capitalized under 
                                                                          For capital                   prompt corrective 
                                           Actual                     adequacy purposes                 action provisions 
                                ---------------------------------------------------------------------------------------------
                                                                                                                  greater than 
                                                                                                                  or equal to  
                                    Amount       Ratio            Amount             Ratio        Amount             Ratio
                                ---------------------------------------------------------------------------------------------
<S>                            <C>          <C>            <C>                  <C>          <C>               <C> 
As of December 31, 1998:
 Total capital (to risk            
   weighted assets) :
  The Company                   $34,127,000      19.10%        $14,304,480            8.00%        $       N/A
  The Bank                       32,107,000      17.69%         14,525,600            8.00%         18,157,000       10.00%

 Tier I Capital (to risk                                                              
   weighted assets) :                                                                 
  The Company                    31,881,000      17.84%          7,152,240            4.00%                N/A
  The Bank                       29,837,000      16.44%          7,262,800            4.00%         10,894,200        6.00%

 Tier I Capital (to average                                                           
   assets) :                                                                          
  The Company                    31,881,000       11.26%          8,495,500            3.00%                N/A
  The Bank                       29,837,000       11.03%          8,113,230            3.00%         13,522,050       5.00%
                                                    
As of December 31, 1997:                            
 Total capital (to risk                             
 weighted assets) :                                 
  The Company                   $33,135,000       21.29%        $12,451,040            8.00%                N/A
  The Bank                       29,093,000       18.69%         12,465,760            8.00%        $15,582,200       10.00%

 Tier I Capital (to risk                                                   
   weighted assets) :                                                      
  The Company                    31,190,000       20.04%          6,225,520            4.00%                N/A
  The Bank                       27,064,000       17.39%          6,232,880            4.00%          9,349,320        6.00%

 Tier I Capital (to average                                                
   assets) :                                                               
  The Company                    31,190,000       12.18%          7,680,420            3.00%                N/A
  The Bank                       27,064,000       10.57%          7,690,590            3.00%         12,817,650        5.00%
</TABLE>

                                       57
<PAGE>
 
NOTE 19 - CONDENSED FINANCIAL INFORMATION:

The Company's principal asset is its investment in the Bank. The Bank is
restricted by law and related regulations as to the amount of funds that can be
transferred to the Company.  Under such restrictions, approval from regulatory
agencies is required for the declaration of dividends in any year that exceed
the total of net income of the subsidiary in the current year, plus retained net
income for the preceding two years.  At December 31, 1998, the Bank could
declare dividends of approximately $8,358,727 without prior approval from
regulatory agencies.

                                       58
<PAGE>
 
Condensed financial information of the Company follows:
<TABLE>
<CAPTION>
 
            Statement of Condition

                                                        December 31,
                                                      1998          1997
<S>                                              <C>            <C>   

ASSETS
Cash and due from bank - The Bank of Castile      $ 1,439,488   $ 3,826,493
Investment in The Bank of Castile                  30,487,434    27,657,967
Other assets                                          995,193       590,750
                                                  -----------   -----------

      Total assets                                $32,922,115   $32,075,210
 
 
LIABILITIES AND SHAREHOLDERS 'EQUITY
Accrued expenses                                  $    46,626   $     4,475
Employee stock ownership plan loan payable            490,654       539,320
                                                  -----------   ----------- 

      Total liabilities                               537,280       543,795
                                                  ===========   ===========  
 
Common stock                                        3,390,650     1,124,852
Capital surplus                                    12,347,915    14,436,634
Retained earnings                                  18,673,888    16,428,534
Unearned employee stock ownership plan shares        (490,654)     (539,320)
Accumulated other comprehensive income                 16,969        80,715
Treasury stock at cost                             (1,553,933)            -
                                                  -----------   -----------
       Total shareholders' equity                  32,384,835    31,531,415
                                                  -----------   -----------
 
Total Liabilities and Shareholders' Equity        $32,922,115   $32,075,210
 
</TABLE>
Statement of Income
<TABLE>  
<CAPTION>
                                                       Year ended December 31,
                                                    1998        1997       1996

<S>                                             <C>         <C>         <C>
Dividends received - The Bank of Castile        $  800,458  $  771,691  $  602,192
Dividend and other income                           23,708       1,979           -
                                                ----------  ----------  ----------
  Total income                                     824,166     773,670     602,192
Operating expenses                                 340,990     273,495     294,155
                                                ----------  ----------  ----------
Income before equity in undistributed income
 of subsidiary                                     483,176     500,175     308,037
Equity in undistributed income of
 subsidiary - The Bank of Castile                2,829,467   2,635,549   2,562,304
                                                ----------  ----------  ----------
 
</TABLE>

              Net income              $3,312,643    $3,135,724    $2,870,341

                                       59
<PAGE>
 
Statement of Cash Flows

 <TABLE>   
 <CAPTION> 
                                                         Year ended December 31,
                                                      1998          1997          1996

<S>                                                <C>           <C>           <C>  
CASH FLOWS FROM OPERATING ACTIVITIES:
 Net Income                                        $ 3,312,643   $ 3,135,724   $ 2,870,341
 Adjustments to reconcile net income to
  net cash provided by operating activities -
   ESOP compensation expense                           131,794       101,815       149,655
   Equity in income of subsidiary                   (3,629,925)   (3,407,240)   (3,164,496)
   Other                                              (426,038)     (497,257)      (12,778)
                                                   -----------   -----------   -----------
    Net cash used in operating activities             (611,526)     (666,958)     (157,278)
                                                   -----------   -----------   -----------
 
CASH FLOWS FROM INVESTING ACTIVITIES:
 Dividends received - The Bank of Castile              800,458       771,691       602,192
                                                   -----------   -----------   -----------
     Net cash provided by investing
      activities                                       800,458       771,691       602,192
                                                   -----------   -----------   -----------
 
CASH FLOWS FROM FINANCING ACTIVITIES:
 Cash dividends paid                                (1,067,289)     (753,504)     (602,191)
 Payment of current borrowings                         (48,666)      (59,925)     (112,583)
 Proceeds from exercise of options and warrants         93,951     4,099,590       706,440
 Purchases of treasury stock                        (1,553,933)            -             -
 Repurchase of warrants                                      -      (429,500)            -
                                                   -----------   -----------   -----------
 
      Net cash (used in)provided by
       financing activities                         (2,575,937)    2,856,661        (8,334)
                                                   -----------   -----------   -----------
 
Net increase in cash and due from banks             (2,387,005)    2,961,394       436,580
Cash and due from banks, beginning of year           3,826,493       865,099       428,519
                                                   -----------   -----------   -----------
 
Cash and due from banks, end of year               $ 1,439,488   $ 3,826,493   $   865,099
</TABLE>

                                       60
<PAGE>
 
Item 8 - Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure

  Not applicable.



                                   PART III

Item 9 -  Directors, Executive Officers and Control Persons of the Registrant

  In accordance with the Bylaws of the Company, three (3) classes of directors
are elected in three (3) staggered three-year terms. Each director so elected
serves for a term of three (3) years and until his successor is duly elected and
qualified.

 Executive officers serve until the next annual meeting of directors and until
their successors are appointed and qualified.

  Set forth below is certain information regarding the
executive officers and directors of the Company as of March 26, 1999.

<TABLE>
<CAPTION>
                                       Positions
                                       Held With
Name                           Age     the Company              Address                    
<S>                            <C>     <C>                      <C>                        
James H. Van Arsdale, III      78      Chairman of                71 Park Road East        
                                       the Board of               Castile, NY  14427       
                                       Directors                                           
                                                                                           
James W. Fulmer                47      President, Chief          38 Wolcott Street         
                                       Executive Officer,        LeRoy, NY 14482           
                                       and Director                                        
                                                                                           
Charles L. Van Arsdale         75      Director                  5136 Park Road West       
                                                                 Castile, NY 14427         
                                                                                           
Stanley J. Harmon*             78      Secretary and             4845 Luther Road          
                                       Director                  Silver Springs, NY  14550 
                                                                                           
Patrick J. Dalton              40      Director                  2 Shrewsbury Lane         
                                                                 Fairport  NY  14450       
                                                                                           
Thomas J. Sykes                52      Treasurer                 11 Cambric Circle         
                                                                 Pittsford NY 14534         
</TABLE>

                                       61
<PAGE>
 
     *Mr. Harmon, whose term expires at the annual meeting, has notified the
Company that he does not want to be considered for re-election to the Board of
Directors
__________________________________


  James W. Fulmer also serves as a director of the Bank.  The principal
occupation or employment of each director and each executive officer of the
Company and the year in which each such director became a director of the
Company and/or the Bank is set forth below.

  Mr. James H. Van Arsdale, III, a director of the Company since 1981, was named
Chairman of the Board of Directors of the Company in 1981. Prior to that time,
Mr. Van Arsdale performed various managerial functions for the Bank and held
various executive offices of the Bank. He was the Chairman of the Board of
Directors of the Bank until 1992 when he retired. Mr. Van Arsdale had also been
a director of the Bank since 1948. Mr. Van Arsdale is the brother of Mr. Charles
L. Van Arsdale.

  Mr. James W. Fulmer has served as the President and Chief Executive Officer of
the Company since January 1, 1991, and as the Chief Executive Officer of the
Bank since January, 1996. Before joining the Company as the Executive Vice
President in December, 1988, Mr. Fulmer held various executive positions with
Fleet Bank of New York (formerly known as Security New York State Corporation
and Norstar Bank) for approximately twelve (12) years and with the Genesee
Valley Penny Saver for approximately one year. Mr. Fulmer has served as a
director of the Bank since 1988 and as Vice Chairman of the Board of Directors
of the Bank since 1991. Effective May 1, 1992, he assumed the position of
Chairman of the Board of Directors of the Bank, and he currently serves as a
member of the Board of Directors of the Cherry Valley Cooperative Insurance
Company, Catholic Health System of WNY, Genesee Mercy Healthcare, the Genesee
County Industrial Development Agency, and is secretary of the Independent
Bankers Association of New York State. He is also a member of the Board of
Directors of the New York State Bankers Association and Monroe Abstract & Title
Corporation.

  Mr. Charles L. Van Arsdale was the President of the Company from the date of
its incorporation in 1981 until December 31, 1990.  In addition, Mr. Van Arsdale
was a director of the Bank from 1949 until his retirement in 1996.  Prior to
1981, Mr. Van Arsdale performed several managerial functions for the Bank and
held various executive offices of the Bank.  Mr. Van Arsdale is the brother of
Mr. James H. Van Arsdale, III.

  Mr. Stanley J. Harmon, the Secretary of the Company since 1981, is a retired
funeral director.  Mr. Harmon also served as a director of the Bank from 1960
until April 30, 1993. As set forth above, Mr. Harmon has informed the Company
that he does not want to stand for re-election to the Board of Directors of the
Company.

  Mr. Patrick J. Dalton has been a director of the Company since May 7,  1998.
Mr. Dalton has been partner in the law firm of Harris Beach & Wilcox, 

                                       62
<PAGE>
 
LLP located in Rochester, New York since 1994 and has been a member of the
Management Committee of the firm since July,1997.

  Mr. Thomas J.Sykes, Treasurer of the Company since September 1998, is also the
Chief Financial Officer for the Company and the Bank. Prior to joining the
Company, Mr Sykes was the Chief Financial Officer/Controller for Brainerd
Manufacturing Company, Inc. and had held eariler executive banking positions at
First National Bank of Memphis, Lincoln First Bank of Rochester and Rochester
Community Savings Bank. Mr. Sykes graduated from Ohio University, Athens, Ohio
with a B.S. and a M.B.A. from Memphis State University.

  The following table sets forth the names and ages of the
principal officers and directors of the Bank and their current
positions with the Bank.

 
 
Name                          Age       Position                 
                                                                 
James W. Fulmer               47        Chief Executive Officer,  
                                         Chairman of the Board of 
                                         Directors, and  Director
Robert L. Brass               61        Director                 
Joseph G. Bucci               55        Director                 
Brenda L. Copeland            47        President and Director   
Thomas E. Cushing             48        Director                 
Gary D. Gates                 62        Director                 
Benjamin C. Mancuso, Jr.      65        Director                 
John McClurg                  37        Director                 
Craig Yunker                  47        Director                  
------------------


  James W. Fulmer also serves as a director of the Company.  The principal
occupation or employment of all other directors and principal officers of the
Bank and the year in which each such director and principal officer of the Bank
became a director or principal officer of the Bank, as the case may be, is set
forth below.

  Mr. Robert L. Brass, a director of the Bank since 1992,
is President of L.R. Brass, Inc., a retail food market.

  Mr. Joseph G. Bucci, a director of the Bank since 1986,
is a self-employed real estate agent.

  Ms. Brenda L. Copeland became the President of the Bank
on January 1, 1991.  In addition, she has served as a director of the Bank since
1988, and has been employed by the Bank since 1971.

  Mr. Thomas E. Cushing, a director since 1989, is the Vice President, Secretary
and Treasurer of J.O. Cook, Inc.

                                       63
<PAGE>
 
  Mr. Gary D. Gates, a director since 1986, is the President of Gary's TV  and
Appliance ,Inc.

  Mr. Benjamin C. Mancuso, Jr., a director since 1992, is President of Charles
Mancuso and Son, Inc., a family-owned holding company.

 Mr. Craig Yunker, a director of the Bank since 1991, is a partner in CY Farms.

  John McClurg, a director since 1995, is President and owner of McClurg
Chrysler-Plymouth, Inc. and McClurg Chevrolet-Pontiac-Oldsmobile, Inc., two
automobile dealerships located in Perry, New York.

Item 10 - Executive Compensation

  The following tables show, for the years ended December 31, 1998, 1997, and
1996, respectively, the total cash compensation paid by the Company and the Bank
to executive officers who received total annual salary and bonus in excess of
$100,000 and to the Chief Executive Officer of the Company.


                          SUMMARY COMPENSATION TABLE

                              Annual Compensation


Name and                                            Other Annual
Principal                                           Compensation(2)
Position            Year   Salary($)(1)  Bonus($)       ($) 
--------            -----  ------------  --------   ---------------   

James W. Fulmer     1998     $160,561    $21,500        $9,012
President, CEO      1997     $141,463    $20,000        $   0
& Director of       1996     $128,015    $17,500        $8,345
the Company, and
Chairman of the
Board of the Bank

Brenda L. Copeland  1998     $129,047    $17,500         None
President of        1997     $113,211    $15,000         None
the Bank            1996     $105,601    $13,000         None

<TABLE>
<CAPTION>
 
 
                            Long Term Compensation
 
                                    Awards

                                                        Long Term
Name and                      Restricted     Options    Incentive        All Other
Principal                   Stock Award(s)     SARs      Payout       Compensation(3)  
Position             Year       ($)            (#)        ($)              ($)
--------            ------  --------------  --------    ---------     ---------------
<S>                 <C>     <C>             <C>         <C>           <C> 
James W. Fulmer      1998        None         None        None            $ 9,941
President, CEO       1997        None         None        None             16,087
& Director of        1996        None         None        None              7,349
the Company, and     
Chairman of the      
Board of the Bank    
</TABLE> 

                                       64
<PAGE>
 
<TABLE> 
<CAPTION> 
<S>                 <C>     <C>             <C>         <C>           <C>  
Brenda L. Copeland   1998        None         None        None            $ 9,210    
President of         1997        None         None        None             16,477 
the Bank             1996        None         None        None              6,042 
</TABLE>

(1) Includes matching contributions under the Company's 401(k) plan in an amount
equal to $4,166.33, $3,680.30, and $3,290.3, respectively, for James W. Fulmer,
and $3,365.87, $2,999.04, and $2,790.00, respectively, for Ms. Brenda L.
Copeland, for the years ended December 31, 1998, 1997, and 1996, respectively,
as well as director's fees and certain fringe benefits such as automobiles and
group term life insurance.

(2) The amounts disclosed represent the Company's contribution pursuant to the
Executive Supplemental Income Agreements executed by and between the Company and
Mr. Fulmer.  See "Executive Compensation - Benefits --Executive Supplemental
Income Agreements."

(3) The amounts disclosed represent the portion of Company's contribution to the
Employee Stock Ownership Plan ("ESOP") allocated to Mr. Fulmer and Ms. Copeland,
respectively.

  During 1998, all directors of the Company received an amount equal to $4,800
per year. During 1998, the Board of Directors of the Company met six (6) times,
and all of the directors attended 75% or more of the meetings.

  During 1998, the directors of the Bank each received an annual retainer of
$9,000 in lieu of meeting attendance fees. During 1998, the Board of Directors
of the Bank met fourteen (14) times. Two (2) of the members of the Board of
Directors of the Bank entered into a certain Deferred Compensation Agreement
relating to all amounts received from the Bank during the period from 1986 until
1990. Under these agreements, all fees earned as a director during that period
are deferred until such director's death or retirement from the Board of
Directors of the Bank. Payments of the fees so deferred, as well as all earnings
on such deferred amounts, are then paid to such director or his beneficiary, as
the case may be, in one hundred twenty (120) equal monthly installments. The
Bank does not currently intend to offer such agreements to other members of its
Board of Directors.

  In addition, during 1998, one designated director of the Board of Directors of
the Bank received a weekly fee of $150 for his services in connection with the
Bank's Loan Committee.  Members of the Examining Committee also receive a
quarterly fee of $150 in lieu of meeting attendance fees.

Employment Contracts

  On January 1, 1991, James W. Fulmer began to serve as the President and Chief
Executive Officer of the Company in accordance with his employment agreement
dated September 12, 1989, as amended, effective January 1, 1991.  Subsequently,
on May 1, 1992, Mr. Fulmer became the Chairman of the Board of Directors of the
Bank. Pursuant to the terms of the agreement, as amended, 

                                       65
<PAGE>
 
each year the term of Mr. Fulmer's employment agreement is automatically
extended for an additional year so that the term of the employment agreement is
always three (3) years. In the event that the Company terminates the employment
agreement without cause, the Company is required to pay Mr. Fulmer, as severance
pay, his annual compensation plus all fringe benefits for a period of three (3)
years from the date of such termination. In addition, in the event of such
termination without cause or the sale, merger, or substantial reorganization of
the Company or the Bank, all of Mr. Fulmer's options to purchase common stock
shall become immediately exercisable. See "Executive Compensation - Benefits --
Stock Option Plan."

  Effective January 1, 1991, the Company entered into an amended employment
agreement with Ms. Brenda L. Copeland whereby Ms. Copeland agreed to serve as
the President of the Bank or in any other capacity that the Board of Directors
of the Company or the Bank may reasonably request.  Each year the term of Ms.
Copeland's employment agreement is automatically extended for an additional year
so that the term of the employment agreement is always three (3) years.  In the
event that the Company terminates the employment agreement without cause, the
Company is required to pay Ms. Copeland, as severance pay, her annual
compensation plus all fringe benefits for a period of eighteen (18) months from
the date of such termination.  In addition, in the event that the Company
terminates the employment agreement as a result of a change of "control" of the
Company, the Company is required to pay Ms. Copeland, as severance pay, her
annual compensation plus all fringe benefits for a period of three (3) years
from the date of such termination.  For purposes of the employment agreement,
the term "control" is defined as the possession of the power to elect a majority
of the members of the Board of Directors of the Company through the ownership of
voting securities in the Company.


Benefits

  Employee Stock Ownership Plan. In 1986, the Board of Directors of the Company
  -----------------------------
adopted the Employee Stock Ownership Plan ("ESOP"), effective as of January 1,
1986. Employees eligible to participate in the ESOP are all employees who have
met the eligibility requirements on the effective date of adoption of the ESOP,
and any employees hired subsequent to that date who have completed one year of
service, work at least 1,000 hours per year, and have attained the age of 21
years. Contributions to the ESOP are discretionary, as determined by the Board
of Directors of the Bank. All funds contributed are received, held, invested and
reinvested by the ESOP trustee. Although the trustee may invest the funds
contributed to the ESOP in such prudent investments as the trustee deems
desirable, substantially all the trust funds are invested in the common stock of
the Company.

  Each participant is entitled to direct the trustee as to the exercise of any
voting rights attributable to the shares of common stock allocated to such
participant and if the trustee receives no voting instructions, the shares of
common stock are not voted. All common stock of the ESOP not allocated to the
plan participants is voted by the trustee in its sole discretion. The ESOP also
contains provisions permitting the ESOP 

                                       66
<PAGE>
 
to borrow funds to purchase common stock and on June 16, 1986, the ESOP borrowed
$500,000 pursuant to a certain loan and pledge agreement with two (2)
unaffiliated banks. The proceeds of the loan were used to purchase approximately
48,000 newly issued shares of common stock, after giving effect to a 6-for-1
stock split of the Company, with such shares pledged as security for the payment
of principal and interest as provided in the above-mentioned agreement. All
amounts due and owing under this loan have been satisfied.

  In November of 1990, the Company borrowed $185,500 on behalf of the ESOP
pursuant to a loan and pledge agreement with an unaffiliated bank.  The loan
proceeds were used to purchase 14,000 shares of the Company's outstanding stock,
with such shares pledged as security for the payment of principal and interest
as provided in said agreement.  In November of 1993, the Company borrowed
$301,000 on behalf of the ESOP to purchase 15,050 shares of the Company's common
stock and 15,050 warrants to purchase additional shares of common stock as part
of the public offering.  All amounts due and owing under these loans were
subsequently refinanced with the Bank (with appropriate collateral granted to
the Bank), which in turn, borrowed the funds from the Federal Home Loan Bank
under an existing accommodation.  In 1995, the Company borrowed $140,511 on
behalf of the ESOP to purchase 5,500 shares of common stock. During 1997, the
ESOP exercised its warrants and purchased 15,050 shares of common stock from the
Company for an amount equal to $346,150.


  Upon an ESOP participant's retirement, disability or death, as those terms are
defined in the ESOP, the participant shall be fully vested in all amounts
allocated to such participant under the ESOP, as well as such participant's
share in the allocation of all contributions made by the Company during the
"Plan Year" (as that term is defined in the ESOP) in which such retirement,
disability or death occurs. In the event a participant's service terminates for
any reason other than retirement, disability or death, such participant's
account becomes vested based upon the number of years of "Credited Service" of
such participant (as that term is defined in the ESOP) in accordance with the
following schedule, as amended so as to comply with the requirements of the Tax
Reform Act of 1986, as amended (the "1986 Act"):

  Credited Service             Vested Percentage

  Less than three years                0%
  Three years                         30%
  Four years                          40%
  Five years                         100%

  Compensation expense related to the ESOP amounted to $131,800 , $101,800, and
$149,700, for the years ended December 31, 1998, 1997, and 1996, respectively.
See Note 10 to "Notes to Consolidated Financial Statements" included in this
Annual Report on Form 10-K on pages 49-51.

                                       67
<PAGE>
 
     Defined Benefit Pension Plan. The Company maintains a defined benefit
pension plan for the benefit of all employees covered under the Company's prior
pension plan and any other employees with at least six (6) months of service who
work at least 1,000 hours per year and have attained the age of 21 years.
Amounts contributed to the pension plan for each covered employee by the Company
are determined on an actuarial basis. The discount rate used in determining the
actuarial present value of accumulated benefits was 6.50% and 7.00% at December
31, 1998 and at December 31, 1997, respectively. See Note 10 to "Notes to
Consolidated Financial Statements" included in this Annual Report on Form 10-K
on pages 49-51.


  Under the plan, a participant is eligible for the "Normal Retirement Pension
Benefits" upon attainment of age 65 years. Vested employees who terminate before
attaining age 65 may elect optional early retirement benefits (at reduced
levels).

  The following table sets forth the current regular vesting schedule for
participants under the plan, as amended so as to comply with the requirements of
the 1986 Act:


  Years of Service        Vested Percentage

  Less than three years          0%
  Three years                   20%
  Four years                    40%
  Five years                    60%
  Six years                     80%
  Seven years                  100%


An employee's "Normal Retirement Pension" benefit under the plan is an amount
(payable monthly in the form of a life only annuity) equal to the product of 1%
of such employee's "Average Compensation" and such employee's years of "Benefit
Accrual Service" (not to exceed forty (40) years), as those terms are defined in
the plan. The following table sets forth the annual Normal Retirement Pension
benefit at age 65 to an employee covered by the plan for each of the following
Average Compensation amounts and periods of Benefit Accrual Service with the
Company.

                                       68
<PAGE>
 
                       Normal Retirement Pension Benefit
                     for Years of Benefit Accrual Service

Average
Compensation   15 Years   20 Years    25 Years    30 Years   35 Years  40 Years
 
$15,000        $ 2,250    $ 3,000     $  3,750    $ 4,500    $ 5,250   $ 6,000
                                                                              
$30,000        $ 4,500    $ 6,000     $  7,500    $ 9,000    $10,500   $12,000
                                                                              
$45,000        $ 6,750    $ 9,000     $ 11,250    $13,500    $15,750   $18,000
                                                                              
$60,000        $ 9,000    $12,000     $15,000`    $18,000    $21,000   $24,000
                                                                              
$75,000        $11,250    $15,000     $ 18,750    $22,500    $26,250   $30,000 
 

The pension plan also provides for certain disability retirement benefits and
death benefits as well as optional forms of payment of benefits which a covered
employee may elect.  The benefits provided for under the plan are in addition to
and separate from the benefits available to the participants under the Social
Security Act.

  The pension plan was adopted in 1986, to be effective as
of January 1, 1986, the date in which the Company terminated its former defined
benefit pension plan.  There were no contributions made in 1998  1997, or 1996.

  401(k) Plan. The Bank maintains a qualified 401(k) plan, entitled "The Bank of
  -----------
Castile Salary Savings Plan", to encourage the accumulation of savings for
retirement or other purposes. Employees of the Bank who have attained the age of
20-1/2 years are eligible to join the plan following the completion of three (3)
months of service.

 Under the terms of the plan, participants may elect to contribute from 1% to 6%
of their eligible salary and the Bank contributes an amount equal to 50% of this
participant contribution for employees. Employees may elect to contribute up to
an additional 9% of eligible salary without any matching Bank contribution.
 All amounts contributed into the plan are invested with Tompkins County Trust,
with its principal office located at The Commons, P.O.Box 460, Ithaca, New
York,14851. Pursuant to the plan, contributions by and for employees are held in
trust by the Bank.

  Participants are immediately fully vested in all contributions to the plan.
Withdrawals of contributions are subject to limitations and generally not
permitted, except in the event of hardship, until termination of employment, or
the participant's attainment of "Normal Retirement Age", as that term is defined
in the plan.  During 1998, the Company contributed a total of $4,166.33 as a
matching contribution for James W. Fulmer, and $3,365.87 as a matching
contribution for Brenda L. Copeland, which amounts 

                                       69
<PAGE>
 
are included in the Summary Compensation Table set forth on pages 64-65 of this
Annual Report on Form 10-K.

  Executive Supplemental Income Agreements.  The Bank has also entered into
  ----------------------------------------                                 
certain executive supplemental income agreements which provide for specified
deferred compensation benefits payable to certain highly compensated officers
and members of a select management group of the Bank in the event of death,
disability or retirement.  The Board of Directors, in its sole discretion,
determines who is eligible to participate in this arrangement. Although the Bank
is not under any obligation whatsoever to fund its obligations under the above-
mentioned agreements, the Bank is both the owner and beneficiary of a life
insurance policy on the life of each participant, the proceeds from which can be
used to fund the after-tax cost of the promised benefits.  Charges to income
related to these agreements were approximately $10,600, $34,700, and $42,500 for
the years ended December 31, 1998, 1997, and 1996, respectively.


  Under these agreements, a participant who has reached "Normal Retirement Age,"
as that term is defined in the agreements, and has attained twenty (20)
continuous years of service with the Bank (including periods of disability and
authorized leaves of absence) receives an annual amount equal to the difference
between (i) 75% of such officer's average "Annual Compensation," as that term is
defined in the agreements, during his final five (5) calendar years of
employment with the Bank, and (ii) the sum of all social security benefits paid
to such officer and any amounts paid to such officer under the Company's defined
benefit pension plan.  Participants may retire after age 55 with the approval of
the Board of Directors and in the event that there has been a buy-out, merger,
or substantial change in ownership of the Bank, an officer may retire at any
time after attaining the age of 55 years without approval of the Board of
Directors.  In either case, the benefits available on early retirement are equal
to the benefits available at "Normal Retirement Age," actuarially reduced.  The
agreements also contain certain provisions for the payment of pre-"Normal
Retirement Age" death benefits.

  Stock Option Plan.  At the Annual Meeting of Shareholders of the Company on
  -----------------                                                          
April 26, 1990, the shareholders approved the Letchworth Independent Bancshares
Corporation Stock Option Plan of 1990 (the "Option Plan"). At the Annual Meeting
of Shareholders of the Company on May 7, 1998, the shareholders approved the
Letchworth Independent Bancshares Corporation Stock Option Plan of 1998 (the
"1998 Plan"). The purpose of the Option Plan and the 1998 Plan are to increase
the incentive and to encourage the continued employment and services of key
employees of the Company and the Bank by facilitating their purchase of a stock
interest in the Company. Management believes that the implementation of the
Option Plan and the 1998 Plan are  in the best interests of the Company and its
shareholders since it will enhance the Company's ability to continue to attract
and retain qualified directors, officers and other key employees.

    Under the 1998 Plan the Board of Directors may grant incentive stock options
as well as options that do not qualify as incentive stock options 

                                       70
<PAGE>
 
("non-statutory stock options"). The Board of Directors determines the
individuals to receive grants and the number of shares to be awarded, subject to
certain federal tax regulations in the case of incentive stock options granted
under the 1998 Plan. The 1998 Plan provides that the exercise price under each
incentive stock option shall be no less than 100% of the "Fair Market Value" (as
defined in the 1998 Plan) of the common stock on the date the option is granted.
The exercise price for each non-statutory stock option granted under the 1998
Plan is the price established by the Board of Directors of the Company, which
normally is expected to be no less than 100% of the "Fair Market Value" (as
defined in the 1998 Plan) on the date the option is granted. No additional
options will be granted under the Option Plan.

  On December 1, 1998, the Company issued options to acquire 10,000 shares of
its common stock at a purchase price of $15.00 per share. No other options were
granted during 1998 under the 1998 Plan or under the Option Plan.

  As of December 31, 1998, 153,140 stock options have been exercised under the
Option Plan, 8,298 of which were exercised in 1998. During 1998, no options were
exercised by James W. Fulmer or Brenda L. Copeland, and no options were
exercised under the 1998 Plan. To date, and Mr. Fulmer and Ms. Copeland have
exercised a total of 20,000 options and 16,800 options, respectively.  The
following table shows the aggregate number of options outstanding as of March
26,1999 for each of James W. Fulmer and Brenda L. Copeland, and for all
executive officers as a group.

                          Number of Options     Average Per
                          Outstanding*          Share Price**

James W. Fulmer              40,728              $ 5.00
Brenda L. Copeland           25,146              $ 5.00
All Executive
 Officers as a Group         65,874              $ 5.00***
--------------------                                                

*After giving effect to the 3-for-1 stock split discussed above.

** This price represents the "Fair Market Value," as that term is defined in the
Option Plan, of the common stock of the Company on the date that the options
were granted, after giving effect to the 3-for-1 stock split described above.

*** This price represents a weighted average of the exercise price of all
options currently outstanding to all executive officers of the Company.

The following table shows the number of options exercised, and the value of the
"in-the-money" options exercised, by each of Mr. Fulmer and Ms. Copeland during
1998, as well as the breakdown between options granted to James W. Fulmer and
Brenda L. Copeland that were exercisable and unexercisable as of December 31,
1998, and the potential value of "in-the-money" options, both exercisable and
unexercisable, as of December 31, 1998.  "In-the-money" options are those
options where the fair market value of the Company's common stock as of the
close of the fiscal year was in excess of the exercise price established on the
grant date.  This value is only realized by the executive when the option is
exercised and will fluctuate with changes in the price for the Company's common

                                       71
<PAGE>
 
stock after the close of the fiscal year.


<TABLE>
<CAPTION>
                          Shares                             No. of Unexercised     Value of "In-the-Money"
                         Acquired           Value                Options at         Unexercised Options at
                       on Exercise        Realized*          December 31, 1998       December 31, 1998
Name                                                           (Exercisable/           (Exercisable/
                                                               Unexercisable)         Unexercisable)**
<S>                    <C>               <C>                 <C>                    <C>
 
James W. Fulmer              0               N/A                   40,728/ 0            $448,008/ $0
Brenda L. Copeland           0               N/A                   25,146/ 0            $276,606/  0
</TABLE>

*  Represents the value of "in-the money" options on that date that the options
were exercised by Mr. Fulmer and Ms. Copeland during 1998.

** Assumes that the "Bid" price of $16.00 at December 31, 1998 represents a
reasonable valuation of the Company's common stock.

 No assurances can be given relating to the dilutive effect that the Option Plan
or the 1998 Plan or options granted thereunder may have on the outstanding
common stock.

Item 11 - Security Ownership of Certain Beneficial Owners and Management

  Based upon information made available to the Company, the following table sets
forth certain information as of March 26, 1999, with respect to the beneficial
ownership of common stock by the only persons or entities known to the Company
to be the beneficial owner of more than 5% of the Company's outstanding common
stock, each director of the Company, and as to all executive officers and
directors as a group:

                                Amount and
                                Nature of      Percent of
                                Beneficial     Common Stock       
Name and Address                Ownership(1)   Outstanding (2)    

Charles L. Van Arsdale           180,210 (3)        5.21%
5136 Park Road West
Castile, NY  14427
 
James H. Van Arsdale, III         86,249 (4)        2.49%       
71 Park Road East                                         
Castile, NY 14427                                         
                                                          
James W. Fulmer                   88,695 (5)        2.56% 
38 Wolcott Street                                         
LeRoy, New York  14482                                    

                                       72
<PAGE>
 
Brenda L. Copeland                95,588 (6)        2.76% 
130 South Main Street                                     
Gainesville, New York  14066                              
                                                          
Patrick J. Dalton                  1,500             .04% 
4 North Lyon Street                                       
Batavia, New York 14020                                   
                                                          
Stanley J. Harmon                 24,982 (7)        0.72%  
Luther Road
Silver Springs, New York 14550
 
Letchworth Independent Bancshares Corporation Employee    
Stock Ownership Plan
50 North Main Street             248,124 (8)        7.18%
Castile, New York  14427

Executive officers and
directors, as a group
(6 persons)                      477,224 (9)       13.80%
___________________________________


(1) Except for the shares of common stock beneficially owned by the Letchworth
Independent Bancshares Corporation Employee Stock Ownership Plan (the "ESOP"),
all such shares are owned with sole investment and voting power.

(2)  These percentages have been calculated based upon 3,457,524 shares of the
     Company's common stock outstanding, which amount includes the shares of
     common stock that Mr. Fulmer and Ms. Copeland have the right to acquire
     pursuant to the exercise of certain options granted under the Option Plan
     that are exercisable within sixty (60) days of the date of this Annual
     Report on Form 10-K.

(3)  Includes 56,004 shares of common stock owned by Mr. Van Arsdale's wife.

(4) Includes 11,553 shares of common stock owned by Mr. Van Arsdale's wife.

(5) Includes 40,728 shares of common stock that Mr. Fulmer has the right to
acquire by the exercise of certain stock options granted under the Option Plan
that are exercisable within sixty (60) days of the date of this Annual Report on
Form 10-K, as well as 10,083 shares of common stock allocated to Mr. Fulmer
under the ESOP and 945 shares of common stock owned by Mr. Fulmer's wife.

                                       73
<PAGE>
 
(6) Includes 25,146 shares of common stock that Ms. Copeland has the right to
acquire by the exercise of certain stock options granted under the Option Plan
that are exercisable within sixty (60) days of the date of this Annual Report on
Form 10-K, as well as 1,741 shares of common stock that Ms. Copeland has or
would have voting control as custodian under the New York Uniform Gift to Minors
Act, 11,254 shares of common stock allocated to Ms. Copeland under the ESOP, and
696 shares of common stock owned by Ms. Copeland's husband.

(7) Includes 13,785 shares of common stock owned by Mr. Harmon's wife and 3,403
shares of common stock owned by the Harmon Family Charitable Remainder Trust.

(8) Includes the shares of common stock allocated to Mr. Fulmer and Ms. Copeland
in accordance with footnotes (5), (6), and (7) above. The participants in the
ESOP have the sole power to vote shares and dispositive powers for shares which
have been allocated to participant accounts.  Only 62,793 shares of common stock
in the ESOP have not been allocated to participant accounts.  See    "Item 11 -
Executive Compensation -- Benefits --- Employee Stock Ownership Plan."

(9) Includes all of the shares of common stock referenced in footnotes (3),(4),
(5), (6), and (7) above.


Item 12 - Certain Relationships and Related Transactions

  Certain of the directors and officers of the Company and the Bank, members of
their families and companies or firms with which they are associated, were
customers of and had banking transactions with the Bank in the ordinary course
of business during 1998. All loans and commitments to loan included in such
transactions were made on substantially the same terms, including interest rates
and collateral, as those prevailing at the time for comparable transactions with
other persons and, in the opinion of management, did not involve more than a
normal risk of collectibility or present other unfavorable features. None of
such loans outstanding to directors or officers of the Company, members of their
families or companies or firms with which directors or officers of the Company
are associated were non-performing as of December 31, 1998. Total loans
outstanding to all directors and executive officers of the Company and the Bank
amounted to $7,472,861 at December 31, 1998.

                                       74
<PAGE>
 
Item 13 - Exhibits, Financial Statements, Schedules and Reports on Form 8-K

(a)(1) Financial Statements and Report of Independent Accountants:

     The following financial statements and accountant's report are included in
this Annual Report on Form 10-K on the following pages:



                                                Page
                                                ----

  Report of Independent Accountants.........     36

  Consolidated Statement of Condition
  as of December 31, 1998 and 1997..........     37

  Consolidated Statement of Income for
  the Years Ended December 31, 1998, 1997
  and 1996..................................     38

  Consolidated Statement of Changes in
  Shareholders' Equity for the Years Ended
  December 31, 1998, 1997, and 1996........      39

 Consolidated Statement of Cash Flows
  for the Years Ended December 31, 1998 and
  1997 and 1996.............................     40

  Notes to Consolidated Financial
  Statements................................     41-60



(2)  Financial Statement Schedules:

     All financial statement schedules have been omitted as they are not
applicable, not required, or the information is included in the Consolidated
Financial Statements or the Notes thereto.

(3)  Exhibits:

  3(a)    Certificate of Incorporation of Registrant filed by the New York
          Department of State on July 1981, incorporated by reference to the
          Registrant's Registration Statement on Form S-18 (Reg. No. 33-31149-
          NY), filed with the Commission on September 2, 1989, and wherein such
          Exhibit is designated Exhibit


  3(b)    Certificate of Amendment to Certificate of Incorporation of Registrant
          filed by the New York Department of State on July 26, 1989,
          incorporated by reference to 

                                       75
<PAGE>
 
          the Registrant's Registration Statement on Form S-18 (Reg. 
          No.33-31149-NY), filed with the Commission on September 2, 1989, 
          and wherein such Exhibit is designated Exhibit 3(b).
          
  3(c)    Certificate of Amendment to Certificate of Incorporation of Registrant
          filed by the New York Department of State on May 2, 1990, incorporated
          by reference to the Registrant's Quarterly Report on Form 10-Q for the
          quarter ended June 30, 1990 and filed with the Commission on August 9,
          1990, and wherein such Exhibit is designated Exhibit 4(b).
            
  3(d)    Certificate of Amendment to Certificate of Incorporation of Registrant
          filed by the New York Department of State on May 13, 1998,
          incorporated by the reference to the Registrant's Quarterly Report on
          Form 10-Q for the quarter ended September 30, 1998 and filed with the
          Commission on November 12, 1998, wherein such Exhibit is designated
          Exhibit 3(d).

  3(e)    Bylaws of Registrant, as amended by the stockholders of the Registrant
          at a special meeting of stockholders on July 11, 1989,incorporated by
          reference to the Registrant's Registration Statement on Form S-18
          (Reg. No. 33-31149-NY), filed with the Commission on September 2,
          1989, and wherein such Exhibit is designated Exhibit 3(c).

  4(a)    Form of Common Stock Certificate of Registrant, incorporated by
          reference to the Registrant's Amendment No. 1 to Form S-18
          Registration Statement (Reg. No. 33-31149-NY), filed with the
          Commission on October 31, 1989, and wherein such Exhibit is designate
          Exhibit 4.
   
  4(b)    Letchworth Independent Bancshares Corporation Option Stock of 1990 and
          form of Stock Option Agreement, incorporated by reference to the 
          

                                       76
<PAGE>
 
          Registrant's Quarterly Report on Form 10-Q for the quarter ended June
          30, 1990 and filed with the Commission on August 9, 1990, and wherein
          such Exhibit is designated Exhibit 19.

10(a)     Employment Agreement, dated September 12, 1989, by and between
          Registrant and James W. Fulmer, incorporated by reference to the
          Registrant's Amendment No. 1 to Form S-18 Registration Statement (Reg.
          No. 33-31149-NY), filed with the Commission on October 31, 1989, and
          wherein such Exhibit is designated Exhibit 10(a).

10(b)     Employment Agreement, dated as of January 1,1991, by and between
          Registrant and Brenda L.Copeland, incorporated by reference to the
          Registrant's Annual Report on Form 10-K for the year ended December
          31, 1991,filed with the Commission on March 30,1992, and wherein such
          Exhibit is designated Exhibit 10(b).

10(c)     Employee Stock Ownership Plan of Registrant, incorporated by
          reference to the Registrant's Registration Statement on Form S-18
          (Reg. No. 33-31149-NY),filed with the Commission on September2, 1989,
          and wherein such Exhibit is designated Exhibit 10(c).

10(d)     Defined Benefit Pension Plan of Registrant, incorporated by
          reference to the Registrant's Registration Statement  on Form S-18
          (Reg. No.33-31149-NY), filed with the Commission on September 2, 1989,
          and wherein such Exhibit is designated Exhibit 10(d).

10(e)     Form of Executive Supplemental Income Agreement, as amended,
          incorporated by  reference to the Registrant's Annual Report on Form
          10-K for the year ended December 31, 1991 and filed with the
          Commission on March 30, 1992, and where in such Exhibit is designated
          Exhibit 19.

                                       77
<PAGE>
 
10(f)     Form of Director Deferred Compensation Agreement, incorporated by
          reference to the Registrant's Registration Statement on Form S-18
          (Reg. No. 33-31149-NY), filed with the Commission on September2, 1989,
          and wherein such Exhibit is designated Exhibit 10(f).

10(g)     Loan and Pledge Agreement, dated June16, 1986, by and between
          Employee Stock Ownership Trust of Registrant and Salamanca Trust
          Company, incorporated by reference to the Registrant's Registration
          Statement on Form S-18  (Reg. No. 33-31149-NY), filed with the
          Commission on September 2, 1989, and wherein such Exhibit is
          designated Exhibit 10(g).

10(h)     Loan and Pledge Agreement, dated June16, 1986, by and between
          Employee Stock Ownership Trust of Registrant and Community National
          Bank, incorporated by reference to the Registrant's  Registration
          Statement on Form S-18  (Reg. No. 33-31149-NY), filed with the
          Commission on September 2, 1989, and wherein such Exhibit is
          designated  Exhibit 10(h).

10(i)     Lease Agreement, dated March 1, 1982, by and between Registrant
          and Herald Ford, Inc., incorporated by reference to the Registrant's
          Registration Statement on Form S-18 (Reg. No. 33-31149-NY), filed
          with the Commission on September 2,  1989, and wherein such Exhibit is
          designated Exhibit 10(i).

10(j)     Lease Agreement, dated April 12, 1982,and an Addendum thereto,
          dated January25, 1973, by and between Registrant and 15 South Center
          Street, Inc., Incorporated by reference to the Registrant's
          Registration Statement on Form S-18 (Reg. No. 33-31149-NY), filed
          with the Commission on September 2,  1989, and wherein such Exhibit
          is designated Exhibit 10(j).

                                       78
<PAGE>
 
10(k)     Lease Agreement, dated August 1, 1974,by and  between The Citizen
          Bank, Attica  and Fred Glickstein, which Lease Agreement was assumed
          by Registrant on  December 7, 1984,incorporated by reference to the
          Registrant's Registration Statement on Form S-18  (Reg. No. 33-31149-
          NY), filed with the Commission on September 2, 1989, and wherein such
          Exhibit is designated  Exhibit 10(k).

10(l)     Salary Savings Plan (401(k) Plan) of Registrant, incorporated by
          reference to  the Registrant's Amendment No. 1 to Form  S-18
          Registration Statement (Reg. No.33-31149-NY), filed with the
          Commission  on October 31, 1989, and wherein such Exhibit is
          designated Exhibit 10(l).

10(m)     Loan Agreement, dated November 6, 1990,  by and between
          Registrant and Alden  State Bank, incorporated by reference to  the
          Registrant's  Annual Report on Form  10-K for the year-ended December
          31,1990 and filed with the Commission on April 1, 1991, and wherein
          such Exhibit is designated Exhibit 10(m).

10(n)     Sales Contract, dated September 10, 1991, by and between John
          Piraino, Jr.  ("Piraino") and the Bank, incorporated by reference to
          the Registrant's Annual  Report on Form 10-K for the year ended
          December 31, 1992 and filed with the Commission on March 30, 1992, and
          wherein such Exhibit is designated  Exhibit 10(n).

10(o)     Indenture of Lease, dated September 10, 1991,by and between
          Piraino and the  Bank, incorporated by reference to the Registrant's
          Annual Report on Form 10-K  for the year ended December 31, 1992 and
          filed with the Commission on March 30,1992, and wherein such Exhibit
          is designated Exhibit 10(o).

10(p)     Purchase and Assumption Agreement, dated  as of January 10, 1991,
          by and between the Registrant, The Bank of Castile, and  

                                       79
<PAGE>
 
          Anchor Savings Bank FSB, incorporated by reference to the Registrant's
          Report on Form 8 amending the Registrant's Current Report on Form 8-K
          dated January 31,1992, and which Form 8 was filed with the Commission
          on April 3, 1992,and wherein such Exhibit is designated Exhibit 10(a).

10(q)     Sales Contract, dated as of January 10,1991,by and between The
          Bank of Castile and Anchor Savings Bank FSB, incorporated by
          referenced to the Registrant's Report on Form 8 amending the
          Registrant's Current Report on Form 8-K dated January 31, 1992, and
          which Form 8 was filed with the Commission on April 3, 1992, and
          wherein such Exhibit is designated Exhibit 10(b).

10(r)     Purchase and Assumption Agreement, dated  as of May 11, 1994, by
          and between TheBank of Castile and The Chase Manhattan  Bank (National
          Association),incorporated by reference to the Registrant's Report on
          Form 8-K, dated December 12, 1994, and which Form 8-Kwas filed with
          the Commission on December 19, 1994, and wherein such  Exhibit is
          designated Exhibit 2.1.

10(s)     Sales Contract, dated as of May 11, 1994, by and between The Bank
          of Castile and The Chase Manhattan Bank (National Association),
          incorporated by reference to the Registrant's Report on Form 8-K,
          dated December 12, 1994, and which Form  8-K was filed with the
          Commission on December 19, 1994, and wherein such Exhibit is
          designated Exhibit 2.2.

11        Computation of Earnings Per Share for the year ended December 31,
          1998.

13        Annual Report to Shareholders of Registrant for the year ended
          December31, 1998, incorporated by reference.

                                       80
<PAGE>
 
21        Subsidiaries of Registrant.

23        Consent of Price Waterhouse LLP for the Annual Report on Form 10-
          K for the fiscal year ended December 31, 1998.

24        Power of Attorney, included with the Signature Page of this
          Annual Report on  Form 10-K.

(b) Reports on Form 8-K. The Company did not file any Current Reports on Form 8-
K during the fiscal year ended December 31, 1998.



                                  SIGNATURES

In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934,
the Registrant has duly caused this Annual Report on Form 10-KSB to be signed on
its behalf by the undersigned, thereunto duly authorized.

Date:  March 26, 1999                LETCHWORTH INDEPENDENT
                                     BANCSHARES CORPORATION


                                     By: /s/ James W. Fulmer
                                        ---------------------------------
                                        James W. Fulmer, President
                                        and Chief Executive Officer



                               POWER OF ATTORNEY

KNOW ALL MEN BY THESE PRESENTS that each individual whose signature appears
below constitutes and appoints JAMES W. FULMER his true and lawful attorney-in-
fact and agent with full power of substitution and re-substitution, for him and
in his name, place and stead, in any and all capacities, to sign any and all
amendments to this Annual Report on Form 10-KSB, and to file the same, with all
exhibits thereto, and all documents in connection therewith, with the Securities
and Exchange Commission, granting unto said attorney-in-fact and agent full
power and authority to do and perform each and every act and thing requisite and
necessary to be done in and about the premises, as fully to all intents and
purposes as he might or could do in person, hereby ratifying and confirming all
that said attorney-in-fact and agent, or his substitute, may lawfully do or
cause to be done by virtue thereof.

                                       81
<PAGE>
 
     In accordance with the Securities Exchange Act of 1934, this Annual Report
on Form 10-K has been signed below on March 26, 1999 by the following persons on
behalf of the Registrant and in the capacities indicated.


   Signatures                             Title

 /s/James W. Fulmer              President, Chief Executive
----------------------------     Officer and Director 
James W. Fulmer              

 /s/Charles L. Van Arsdale       Director
----------------------------
 Charles L. Van Arsdale

/s/James H. Van Arsdale, III     Chairman of the Board
----------------------------     of Directors
James H. Van Arsdale, III      


/s/Stanley J. Harmon            Secretary and Director
---------------------------- 
 Stanley J. Harmon

 /s/Thomas J. Sykes             Treasurer and Chief
----------------------------    Financial Officer
 Thomas J. Sykes                

 /s/Patrick J. Dalton            Director
----------------------------
 Patrick J. Dalton

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<PAGE>
 
                                                                      EXHIBIT 11



                 LETCHWORTH INDEPENDENT BANCSHARES CORPORATION

                               AND SUBSIDIARIES

                       COMPUTATION OF EARNINGS PER SHARE

                               DECEMBER 31, 1998





Income available to common shareholders       $3,312,643

BASIC EARNINGS PER SHARE
  Weighted average shares outstanding          3,266,509
  Basic earnings per share                    $     1.01

DILUTED EARNINGS PER SHARE
  Weighted average shares outstanding          3,266,509
  Dilutive effect of:
     Warrants                                         68
     Stock options                                86,949

                                              ----------
Adjusted weighted average shares outstanding   3,353,526
Diluted earnings per share                    $      .99




Notes

There was a dilutive effect on earnings per share relating to stock options as
the year end market price of the common stock exceeded the exercise price of the
stock options.  However, fully diluted earnings per share is immaterially
different than primary earnings per share.

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<PAGE>
 
                                                                      EXHIBIT 21

LIST OF SUBSIDIARIES

  As of December 31, 1998, the only subsidiary of Letchworth Independent
Bancshares Corporation (the "Company") was The Bank of Castile (the "Bank").




                                                                      EXHIBIT 23


                      CONSENT OF INDEPENDENT ACCOUNTANTS



We hereby consent to the incorporation by reference in the Registration
Statement on Form S-8 (No.333-01263) of Letchworth Independent Bancshares
Corporation of our report dated January 22, 1999, appearing on pages 36 of this
Annual Report on Form 10-K.



PricewaterhouseCoopers, LLP

Buffalo, New York
March 29, 1999

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