[LOGO]


                               MISSION STATEMENT

              Chesapeake Financial Shares, Inc. is an independent,
              community-oriented, one-bank holding company serving
                 a market between the Potomac and James rivers.

             Each staff and board member is part of a team that is
            committed to innovation and to maintaining excellence in
                   customer service that creates growing and
                  rewarding returns to its clients, employees,
                          community, and shareholders.


[LOGO]                                                                 [LOGO]


<PAGE>



Chesapeake Financial Shares, Inc.

                  Highlights for 1997
-------------------------------------------------------------------------------
                  Year ended December 31, 1997

                  Earnings
                  Net Income                                  $      1,750,509
                  Per Share                                               1.68

                  At Year End
                  Assets                                      $    163,915,653
                  Deposits                                         147,519,068
                  Loans - Net                                      102,099,056
                  Securities                                        43,907,871
                  Shareholders' Equity                              13,914,675
                  Book Value Per Share                                   13.76
                  Number of Shareholders                                   463





                  Contents
-------------------------------------------------------------------------------

                  Chairman's Letter to Shareholders.........................  1

                  Selected Financial Information............................  2

                  Financial Statements......................................  3

                  Note to Financial Statements..............................  9

                  Independent Auditor's Report.............................. 27

                  Management's Discussion and Analysis of
                  Financial Condition and Results of Operations............. 28

                  Chesapeake Financial Shares, Inc.
                  Directors and Subsidiaries................................ 33

<PAGE>


[LOGO]



Dear Shareholder:

     The past year was accented by losses more than gains. The deaths of Mother
Teresa and Princess Diana led the headlines. We lost Charles Kuralt, Jimmy
Stewart, Jacques Cousteau, John Denver, William Brennan, Ben Hogan, Eddie
Arcaro, Robert Mitchem, and Deng Xiaoping, to name a few. Iraq's Saddam Hussein
again confronted the UN inspector teams; the President's and Vice President's
fund-raising practices were investigated; Mike Tyson bit Evander Holyfield's ear
during their heavyweight fight; the Mars Pathfinder explored the Red Planet; and
after 156 years of British colonial rule, Hong Kong sovereignty reverted to
China. In Virginia the most significant events occurred in November as the
Republicans swept the three seats of Governor, Lieutenant Governor, and Attorney
General in the Statewide election, the first time in more than 100 years.

     After adjusting for a 20% stock dividend, record earnings of $1.68 per
share were recorded by Chesapeake for 1997 versus $1.52 per share for 1996, an
increase of 10.53%. Dividend pay-outs of $.28 per share were up 16.7% with total
record earnings of $1,750,509, an 11.11% increase. Return on beginning equity
was 14.57% versus 14.26% for 1996.

     The economy in Chesapeake's market area generally remains strong with
aggressive expansion in the Williamsburg/James City County area. Overall spots
of concern showed in the Nation's economy as illustrated by the 1.3 million
bankruptcies filed during the year, the highest ever, however, in general
business was brisk, and the Nation's population was comfortable and optimistic.
Chesapeake Bank's loan quality remained extremely strong as 30-day and over past
due loans were 1.15% of total loans, and the loan loss reserve was maintained at
1.68% of net loans.

     Managed trust assets continued upward to new record levels as clients
continued to switch to Chesapeake to take advantage of the investment management
services. A new Trust Officer was added to the staff to be assigned to the
Williamsburg/James City County area early in 1998. The outreach program to
clients in the community begun several years ago continues to produce very
positive results.

     In an effort to expand Chesapeake's presence on the Peninsula in
Williamsburg and James City County, property on Lafayette Street just off of the
Richmond Road in Williamsburg was purchased. The existing building is being
renovated, and Chesapeake Bank has received permission to open a third office on
the Peninsula. Opening date is anticipated for late spring.

     CFS also contracted to purchase approximately 30,000 square feet of space
in the School Street business center complex in Kilmarnock. The space formerly
occupied by the Colonial store will be renovated, and Operations, Support, Data
Processing, and Loan Administration Departments will move to this location.
Space will continue to be leased to Advance Auto Parts and de' Medici. The
renovation and move will be completed early in the third quarter.

     During the past year Chesapeake introduced Chesapeake Investment Services
offering investment reviews, annuities, mutual funds, stock and bond discount
brokerage, and holding customers' investment portfolios. Each financial center
(bank branch) is able to offer investment services directly or by appointment.

     Specific details on the financial achievements of Chesapeake Financial
Shares for 1997 are contained in this report as required by the Securities and
Exchange Commission and other regulatory bodies. I hope that you will read the
report with particular interest in management's discussion and analysis of the
financial condition and the results of operations.

                                 Sincerely,



                                 Douglas D. Monroe, Jr.
                                 Chairman of the Board & Chief Executive Officer

1


<PAGE>


Chesapeake Financial Shares, Inc.

Selected Financial Information

<TABLE>
<CAPTION>

                                              1997           1996           1995           1994            1993
                                              ------------------------------------------------------------------
                                                (Dollars in thousands except ratios and per share amounts)
<S> <C>

RESULTS OF OPERATIONS
Interest income                           $   11,361    $   10,142     $    9,556      $    8,668      $   8,423
Interest expense                               5,407         4,755          4,556           3,770          3,827
                                           ---------     ---------     ----------      ----------      ---------
Net interest income                            5,954         5,387          5,000           4,898          4,596
Provision for loan losses                         75           150             84             (96)           300
                                           ---------     ---------     ----------      ----------      ---------
Net interest income after
     provision for loan losses                 5,879         5,237          4,916           4,994          4,296
Other operating income                         2,982         2,559          2,120           1,626          2,362
Other operating expenses                       6,556         5,720          5,351           5,167          5,190
                                           ---------     ---------     ----------      ----------      ---------
Income before tax                              2,305         2,076          1,685           1,453          1,468
Income tax expense                               554           501            420             418            471
                                           ---------     ---------     ----------      ----------      ---------
Net income                                $    1,751    $    1,575      $   1,265       $   1,035     $      997
                                          ==========     =========     ==========      ==========      =========
FINANCIAL CONDITION
Total assets                               $ 163,916     $ 142,876      $ 131,258       $ 124,439      $ 120,846
Total deposits                               147,519       127,630        118,687         112,295        109,309
Net loans                                    102,099        90,426         80,991          74,804         67,880
Note payable and
    subordinated debentures                        0             0            388             538            888
Shareholders' Equity                          13,915        12,009         11,048           9,793          9,210
Average assets                               148,948       133,376        127,230         122,642        120,222
Average shareholders' equity                  12,866        11,426         10,421           9,502          8,908

KEY FINANCIAL RATIOS
Return on average assets                        1.18%        1.18%          0.99%           0.84%           0.83%
Return on average equity                       13.61%       13.78%         12.14%          10.89%          11.19%
Dividends paid as a percent
     of net income                             16.21%       15.53%         16.97%          17.68%          16.55%

PER SHARE DATA
Net income, assuming dilution             $     1.68    $    1.52       $   1.22       $     .99      $     0.96
Cash dividends declared                   $     0.28    $     .24       $   0.21       $    0.18      $     0.16
Book value                                $    13.76    $   11.92       $  10.77       $    9.40      $     8.84

</TABLE>

2

<PAGE>

                                                             1997 Annual Report

Consolidated Balance Sheets
December 31, 1997 and 1996

<TABLE>
<CAPTION>

                                                            1997                                       1996
                                                            ------------------------------------------------
<S> <C>
Assets
Cash and due from banks                                     $     5,123,586                     $  5,896,836
Federal funds sold                                                1,900,000                               --
Securities, at approximate market value (Note 2)                 43,907,871                       37,682,482
Loans, net (Notes 3 and 12)                                     102,099,056                       90,425,824
Premises and equipment, net (Note 4)                              3,448,318                        3,284,063
Accrued interest receivable                                       1,300,062                        1,088,201
Intangible assets, net (Note 5)                                          --                           84,000
Other assets (Note 7)                                             6,136,760                        4,414,212
                                                            ---------------                     ------------
         Total assets                                       $   163,915,653                     $142,875,618
                                                            ===============                     ============
Liabilities and Shareholders' Equity
Deposits:
   Demand accounts                                          $    19,255,328                     $ 16,646,453
   Savings and interest bearing demand deposits                  40,445,981                       37,273,969
   Certificates of deposit:
     Denominations less than $100,000                            72,128,426                       57,952,834
     Denominations of $100,000 or more                           15,689,333                       15,756,309
                                                            ---------------                     ------------
         Total deposits                                     $   147,519,068                     $127,629,565

Short-term borrowings                                             1,250,000                        2,000,000
Accrued interest payable                                            334,763                          272,546
Other liabilities (Note 8)                                          897,147                          964,536
Commitments and contingent liabilities
   (Notes 11 and 15)                                                     --                               --
                                                            ---------------                     ------------
         Total liabilities                                  $   150,000,978                     $130,866,647
                                                            ---------------                     ------------
Shareholders' equity: (Note 10)
   Preferred stock, par value $1 per share;
     authorized 50,000 shares; no shares outstanding        $            --                     $         --
   Common stock, voting, par value $5 per share;
     authorized 2,000,000 shares; issued and
     outstanding 1,010,888 in 1997 and 839,687
     in 1996                                                      5,054,440                        4,198,435
   Common stock, nonvoting, par value $5 per share;
       authorized 635,000 shares; no shares outstanding                  --                               --
   Paid-in capital                                                  484,348                          468,493
   Retained earnings (Note 19)                                    8,047,310                        7,418,259
   Unrealized gain (loss) on securities available
     for sale, net                                                  328,577                          (76,216)
                                                            ---------------                     ------------
         Total shareholders' equity                         $    13,914,675                     $ 12,008,971
                                                            ---------------                     ------------
         Total liabilities and shareholders' equity         $   163,915,653                     $142,875,618
                                                            ===============                     ============


See Notes to Consolidated Financial Statements.


<PAGE>

                                                                                                                 3

Chesapeake Financial Shares, Inc.

Consolidated Statements of Income
Years Ended December 31, 1997, 1996 and 1995


</TABLE>
<TABLE>
<CAPTION>

                                                   1997                   1996                 1995
                                                   ---------------------------------------------------------
<S> <C>

Interest Income
   Interest and fees on loans                        $ 9,038,054           $ 8,103,829           $ 7,357,399
   Interest on Federal funds sold                         58,076                40,281               102,481
   Interest on time deposits with banks                       --                18,431                48,996
   Interest on investment securities
     Taxable                                                  --                    --             1,412,518
     Nontaxable                                               --                    --               193,552
   Interest on securities available for sale
     Taxable                                           1,636,219             1,428,063               260,175
     Nontaxable                                          589,059               514,213               149,158
     Dividends                                            40,060                37,118                31,964
                                                     -----------           -----------           -----------
         Total interest income                       $11,361,468           $10,141,935           $ 9,556,243
                                                     -----------           -----------           -----------
Interest Expense
   Savings and interest bearing accounts             $   990,450           $ 1,001,072           $ 1,051,747
   Certificates of deposit
     Denominations less than $100,000                  3,503,931             2,922,308             2,816,698
     Denominations of $100,000 or more                   850,604               780,509               619,895
   Short-term borrowings                                  62,454                24,764                23,706
   Long-term debt                                             --                26,026                44,379
                                                     -----------           -----------           -----------
         Total interest expense                      $ 5,407,439           $ 4,754,679           $ 4,556,425
                                                     -----------           -----------           -----------
         Net interest income                         $ 5,954,029           $ 5,387,256           $ 4,999,818

Provision for loan losses (Note 3)                        75,000               150,000                84,000
                                                     -----------           -----------           -----------
         Net interest income after provision
           for loan losses                           $ 5,879,029           $ 5,237,256           $ 4,915,818
                                                     -----------           -----------           -----------
Noninterest Income
   Trust income                                      $   923,483           $   818,888           $   728,851
   Service charges                                       527,107               499,705               506,125
   Net gain (loss) on other real estate owned                 --                12,788               (26,740)
   (Loss) on securities available for sale                (2,365)               (1,593)               (6,384)
   Other income (Note 13)                              1,533,427             1,229,708               918,337
                                                     -----------           -----------           -----------
         Total noninterest income                    $ 2,981,652           $ 2,559,496           $ 2,120,189
                                                     -----------           -----------           -----------

</TABLE>


See Notes to Consolidated Financial Statements.


4


<PAGE>

                                                             1997 Annual Report
Consolidated Statements of Income (Continued)
Years Ended December 31, 1997, 1996 and 1995

<TABLE>
<CAPTION>

                                                         1997                  1996                 1995
                                                    ---------------------------------------------------------
<S> <C>
Noninterest Expenses
   Salaries and benefits                              $3,079,538            $2,840,262             $2,705,334
   Occupancy expenses                                  1,365,534             1,210,534                935,022
   Other expenses (Note 13)                            2,110,722             1,669,517              1,711,252
                                                      ----------            ----------             ----------
         Total noninterest expenses                   $6,555,794            $5,720,313             $5,351,608
                                                      ----------            ----------
Income before income taxes                            $2,304,887            $2,076,439             $1,684,399

Income tax expense (Note 7)                              554,378               501,303               419,697
                                                      ----------            ----------             ----------
         Net income                                   $1,750,509            $1,575,136             $1,264,702
                                                      ==========            ==========             ==========
Earnings per share, basic (Note 14)                   $     1.74            $     1.55             $    1.22
                                                      ==========            ==========             ==========
Earnings per share, assuming dilution (Note 14)       $     1.68            $     1.52             $    1.22
                                                      ==========            ==========             ==========

</TABLE>

See Notes to Consolidated Financial Statements.



5

<PAGE>

Chesapeake Financial Shares, Inc.

Consolidated Statements of Cash Flows
Years Ended December 31, 1997, 1996 and 1995

<TABLE>
<CAPTION>


                                                        1997                   1996                  1995
                                                   ---------------------------------------------------------
<S> <C>

Cash Flows from Operating Activities
   Net income                                       $  1,750,509          $  1,575,136          $  1,264,702
   Adjustments to reconcile net income
     to net cash provided by (used in)
     operating activities:
       Depreciation and amortization                     575,598               472,537               335,557
       Provision for loan losses                          75,000               150,000                84,000
       Deferred income tax expense (benefit)               1,681               (66,298)                8,826
       Amortization of premiums, net                     217,385               251,642               258,648
       Net loss on sale of bank premises                  28,806                   523                   653
       Loss on securities available for sale               2,365                 1,593                 6,384
       Net (gain) loss on other real estate
         owned                                                --               (12,788)               26,740
       Issuance of common stock for services              54,175                37,380                33,420
       Changes in other assets and liabilities:
         (Increase) decrease in accrued interest
           receivable                                   (211,861)               (3,399)               39,537
         (Increase) in other assets                   (1,940,419)             (404,721)           (2,046,451)
         Increase in accrued interest payable             62,217                16,512                61,134
         Increase (decrease) in other liabilities        (67,389)              200,752              (134,028)
                                                    -------------         -------------         -------------
           Net cash provided by (used in)
              operating activities                  $    548,067          $  2,218,869          $    (60,878)
                                                    -------------         -------------         -------------
Cash Flows from Investing Activities
   Net decrease in time deposits with banks         $         --          $    450,375          $    984,555
   Purchase of investment securities                          --                    --              (264,215)
   Proceeds from sale and call of investment
     securities                                               --                    --               250,000
   Proceeds from maturities of investment
     securities                                               --                    --             1,945,000
   Purchases of securities available for sale        (18,499,317)          (18,784,158)           (6,938,447)
   Proceeds from sales and calls of securities
     available for sale                                7,217,090             9,216,346             4,487,354
   Proceeds from maturities of securities
     available for sale                                5,458,072             8,501,663             2,650,000
   Origination of loans available for sale            (4,251,450)           (3,635,002)           (4,145,550)
   Proceeds from sale of loans available
     for sale                                          4,033,450             3,635,002             4,145,550
   Proceeds from sale of other real estate                    --                35,905                    --
   Proceeds from sale of bank premises                        --                   600                    --
   Net (increase) in loans                           (11,530,232)           (9,563,173)           (6,314,258)
   Other capital expenditures                           (684,660)           (1,029,587)             (674,111)
                                                    -------------         -------------         -------------
           Net cash (used in)
          investing activities                      $(18,257,047)         $(11,172,029)         $ (3,874,122)

See Notes to Consolidated Financial Statements.


6

<PAGE>

                                                             1997 Annual Report

Consolidated Statements of Cash Flows (Continued)
Years Ended December 31, 1997, 1996 and 1995


</TABLE>
<TABLE>
<CAPTION>

                                                           1997                 1996                  1995
                                                    ----------------------------------------------------------

<S> <C>
Cash Flows from Financing Activities
   Net increase (decrease) in short-term
     borrowings                                      $    (750,000)          $1,885,000            $  (605,000)
   Net increase (decrease) in demand
     accounts, interest bearing demand
     accounts and savings accounts                       5,780,887            2,402,429             (3,419,149)
   Net increase in certificates of deposits             14,108,616            6,539,824              9,811,362
   Net proceeds from issuance of
     common stock                                           15,914               41,825                     --
   Acquisition of common stock                             (36,754)            (293,631)              (167,630)
   Cash dividends                                         (282,933)            (244,585)              (214,646)
   Curtailment of note payable                                  --             (387,500)              (150,000)
                                                     -------------           -----------           -----------
         Net cash provided by
           financing activities                      $  18,835,730           $9,943,362            $ 5,254,937
                                                     -------------           -----------           -----------
         Net increase in cash
           and Federal funds sold                    $   1,126,750           $  990,202            $ 1,319,937

Cash and Federal funds sold at beginning
   of year                                               5,896,836            4,906,634              3,586,697
                                                     -------------           -----------           -----------
Cash and Federal funds sold at end of year           $   7,023,586           $5,896,836            $ 4,906,634
                                                     =============           ===========           ===========
Supplemental Disclosures of Cash Flow
   Information:
   Cash paid during the year for:
     Interest                                        $   5,345,222           $4,738,167            $ 4,495,292
                                                     =============           ===========           ===========
     Income taxes                                    $     479,719           $  531,684            $   534,398
                                                     =============           ===========           ===========
Supplemental Schedule of Noncash
   Investing and Financing Activities
     Other real estate acquired in settlement
       of loans                                      $        --             $        --           $    43,655
                                                     =============           ===========           ===========
     Sale of other real estate by issuance
       of new loans                                  $        --             $   30,000            $       --
                                                     =============           ===========           ===========
     Unrealized gain (loss) on securities
       available for sale                            $     613,324           $ (234,964)           $   513,386
                                                     =============           ===========           ===========
     Common stock issued for services                $      54,175           $   37,380            $    33,420
                                                     =============           ===========           ===========
     Common stock dividend                           $     838,525           $        --           $       --
                                                     =============           ===========           ===========

</TABLE>


See Notes to Consolidated Financial Statements.



7

<PAGE>

Chesapeake Financial Shares, Inc.

Consolidated Statements of Changes in Shareholders' Equity
Years Ended December 31, 1997, 1996 and 1995


<TABLE>
<CAPTION>

                                                                                                     Unrealized
                                                                                                     Gain (Loss)
                                      Common          Common                                         on Securities
                                      Stock,          Stock,         Paid-In        Retained          Available
                                     Voting          Nonvoting       Capital        Earnings         for Sale, Net      Total
                                     --------------------------------------------------------------------------------------------
<S> <C>

Balance, December 31, 1994          $4,306,915      $  33,750       $  674,899      $ 5,037,652     $   (259,974)     $ 9,793,242
   Net income                              --              --               --        1,264,702               --        1,264,702
   Issuance of common stock for
     services                           16,710             --           16,710               --               --           33,420
   Acquisition of common stock         (47,940)       (33,750)         (85,940)              --               --         (167,630)
   Cash dividends ($.21 per share)          --             --               --         (214,646)              --         (214,646)
   Change in unrealized gain
     (loss) on securities available
     for sale, net of deferred
     income taxes of $174,552              --              --               --               --          338,834          338,834
                                    ----------      ----------      ----------      -----------     ------------      -----------
Balance, December 31, 1995          $4,275,685      $      --       $  605,669      $ 6,087,708     $     78,860      $11,047,922
   Net income                               --             --               --        1,575,136               --        1,575,136
   Exercise of stock options            20,375             --           21,450              --                --           41,825
   Issuance of common stock
     for services                       15,575             --           21,805              --                --           37,380
   Acquisition of common stock        (113,200)            --         (180,431)             --                --         (293,631)
   Cash dividends ($.24 per share)          --             --               --         (244,585)              --         (244,585)
   Change in unrealized gain
     (loss) on securities available
     for sale, net of deferred
     income taxes of $79,888                --             --               --               --         (155,076)        (155,076)
                                    -----------     -----------     -----------     -----------     -------------     -----------
Balance, December 31, 1996          $4,198,435      $      --       $  468,493      $ 7,418,259     $    (76,216)     $12,008,971
   Net income                               --             --               --        1,750,509               --        1,750,509
   Sale of common stock                  2,500             --            4,664               --               --            7,164
   Exercise of stock options             5,000             --            3,750               --               --            8,750
   Issuance of common stock
     for services                       21,670             --           32,505               --               --           54,175
   Acquisition of common stock         (11,690)            --          (25,064)              --               --          (36,754)
   Cash dividends ($.28 per share)          --             --               --         (282,933)              --         (282,933)
   Stock dividend                      838,525             --               --         (838,525)              --               --
   Change in unrealized gain
     (loss) on securities available
     for sale, net of deferred
     income taxes of $208,531               --             --               --               --          404,793          404,793
                                    -----------     -----------     -----------     -----------     ------------     ------------
Balance, December 31, 1997          $5,054,440      $      --       $  484,348      $ 8,047,310     $    328,577      $13,914,675
                                    ===========     ===========     ===========     ===========     ============     ============

</TABLE>

See Notes to Consolidated Financial Statements.

8


<PAGE>


                                                             1997 Annual Report

Notes to Consolidated Financial Statements

NOTE 1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

General

     Chesapeake  Financial  Shares,  Inc. ("CFS") owns 100% of Chesapeake Bank
(the "Bank").  Two additional  subsidiaries, Chesapeake  Mortgage  Company, Inc.
and  Chesapeake  Insurance  Agency,  Inc.  T/A  Chesapeake  Investment  Services
are wholly-owned  subsidiaries of CFS and the Bank,  respectively.  The
consolidated  financial statements include the accounts of CFS and its
wholly-owned subsidiaries. All significant intercompany accounts have been
eliminated.

     The accounting and reporting policies of CFS are in accordance with
generally accepted accounting principles and conform to general practices within
the banking industry. The more significant of these policies are summarized
below.

Securities

     Investments in equity securities that have readily determinable fair values
and for all investments in debt securities are classified in three categories
based on management's intent and accounted for as follows:

     a.  Securities Held to Maturity

         Securities classified as held to maturity are those debt securities the
     Corporation has both the intent and ability to hold to maturity regardless
     of changes in market conditions, liquidity needs or changes in general
     economic conditions. These securities are carried at cost adjusted for
     amortization of premium and accretion of discount, computed by the interest
     method over their contractual lives. The Corporation held no assets
     classified as held to maturity at December 31, 1997 or 1996.

     b.  Securities Available for Sale

         Securities classified as available for sale are those debt and equity
     securities that the Corporation intends to hold for an indefinite period of
     time, but not necessarily to maturity. Any decision to sell a security
     classified as available for sale would be based on various factors,
     including significant movements in interest rates, changes in the maturity
     mix of the Corporation's assets and liabilities, liquidity needs,
     regulatory capital considerations, and other similar factors. Securities
     available for sale are carried at fair value. Unrealized gains or losses
     are reported as increases or decreases in shareholders' equity, net of the
     related deferred tax effect. Realized gains or losses, determined on the
     basis of the amortized cost of specific securities sold, are included in
     earnings.

      c. Trading Securities

         Trading securities, which are generally held for the short term in
     anticipation of market gains, are carried at fair value. Realized and
     unrealized gains and losses on trading account assets are included in
     interest income on trading account securities. The Corporation held no
     assets classified as trading securities at December 31, 1997 or 1996.

Derivatives

     The  Corporation  has no securities  defined as derivatives  by FASB No.
119,  "Disclosures  for Derivative  Financial Instruments."

Loans

     Loans are stated at face value, net of unearned discount and the reserve
for loan losses. Interest is computed by methods which result in level rates of
return on principal. Nonrefundable loan fees and direct loan origination costs
are recognized in operations when received and incurred, respectively. The
impact of this methodology is not significantly different from recognizing the
net of these fees and costs over the contractual life of the related loan.




9


<PAGE>


Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements

     Loans are placed on nonaccrual status when a loan is specifically
determined to be impaired or when principal or interest is delinquent for 90
days or more. Any unpaid interest previously accrued on those loans is reversed
from income. Interest income generally is not recognized on specific impaired
loans unless the likelihood of further loss is remote. Interest payments
received on such loans are applied as a reduction of the loan principal balance.
Interest income on other nonaccrual loans is recognized only to the extent of
interest payments received.

     Mortgage loans held for resale are stated at the lower of cost or market on
an individual loan basis. Loan discounts and origination fees received on loans
held for resale are deferred until the related loans are sold to third party
investors. Gains are recognized at the time of sale.

     The impairment of loans that have been separately identified for evaluation
is measured based on the present value of expected future cash flows or,
alternatively, the observable market price of the loans or the fair value of the
collateral. However, for those loans that are collateral dependent (that is, if
repayment of those loans is expected to be provided solely by the underlying
collateral) and for which management has determined foreclosure is probable, the
measure of impairment of those loans is to be based on the fair value of the
collateral. The Corporation had no loans subject to FASB No. 114 at December 31,
1997 and 1996.

Reserve for Loan Losses

     The reserve for loan losses is maintained at a level which, in management's
judgment, is adequate to absorb credit losses inherent in the loan portfolio.
The amount of the reserve is based on management's evaluation of the
collectibility of the loan portfolio, including the nature of the portfolio,
credit concentrations, trends in historical loss experience, specific impaired
loans, and economic conditions. Reserves for impaired loans are generally
determined based on collateral values or the present value of estimated cash
flows. The reserve is increased by a provision for loan losses, which is charged
to expense and reduced by charge-offs, net of recoveries. Changes in the reserve
relating to impaired loans are charged or credited to the provision for loan
losses. Because of uncertainties inherent in the estimation process,
management's estimate of credit losses inherent in the loan portfolio and the
related reserve may change in the near term.

Premises and Equipment

     Premises and equipment are stated at cost less accumulated depreciation.
Depreciation is computed using both straight-line and accelerated methods over
the assets' estimated useful lives. Estimated useful lives range from 10 to 39
years for buildings and 3 to 7 years for furniture, fixtures and equipment.

Foreclosed Properties

     Foreclosed properties are recorded at the lower of the outstanding loan
balance at the time of foreclosure or the estimated fair value less estimated
costs to sell. At foreclosure any excess of loan balance over the fair value of
the property is charged to the reserve for loan losses. Such carrying value is
periodically reevaluated and written down if there is an indicated decline in
fair value. Costs to bring a property to salable condition are capitalized up to
the fair value of the property while costs to maintain a property in salable
condition are expensed as incurred. The Bank has included $245,000 of foreclosed
properties in other assets at December 31, 1997 and 1996. No real estate was
acquired in settlement of loans during 1997 and 1996.

Intangible Assets

     The franchise asset was amortized on an accelerated basis over a ten year
period, which is the estimated life of the acquired customer base.



10


<PAGE>


                                                             1997 Annual Report



Notes to Consolidated Financial Statements

Trust Department Assets

     Securities and other property held by the Trust Department in a fiduciary
or agency capacity are not assets of the Corporation and are not included in the
accompanying consolidated financial statements.

Income Taxes

     Deferred taxes are provided on a liability method whereby deferred tax
assets are recognized for deductible temporary differences, operating loss
carryforwards, and tax credit carryforwards. Deferred tax liabilities are
recognized for taxable temporary differences. Temporary differences are the
differences between the reported amounts of assets and liabilities and their tax
bases. Deferred tax assets are reduced by a valuation allowance when, in the
opinion of management, it is more likely than not that some portion or all of
the deferred tax assets will not be realized. Deferred tax assets and
liabilities are adjusted for the effects of changes in tax laws and rates on the
date of enactment.

Statement of Cash Flows

     For purposes of the statement of cash flows, CFS considers cash equivalents
to include cash on hand, amounts due from banks and Federal funds sold.

Advertising Costs

     CFS follows the policy of charging the production costs of advertising to
expense as incurred.

Use of Estimates

     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,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.

Earnings Per Share

     In 1997, the Financial Accounting Standards Board issued Statement No. 128,
"Earnings per Share." Statement 128 replaced the calculation of primary and
fully diluted earnings per share with basic and diluted earnings per share.
Basic earnings per share excludes any dilutive effects of options, warrants and
convertible securities. Diluted earnings per share is very similar to the
previously reported fully diluted earnings per share. All earnings per share
amounts for all periods have been presented, and where appropriate, restated to
conform to the statement 128 requirements.



11

<PAGE>

Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements

NOTE 2.  SECURITIES

     Amortized cost and fair values of securities available for sale as of
December  31, 1997 and 1996, are as follows:

<TABLE>
<CAPTION>

                                                     1997
                                ----------------------------------------------------------
<S> <C>
                                                 Gross            Gross
                                Amortized      Unrealized       Unrealized        Fair
                                  Cost           Gains           (Losses)         Value
                                ----------------------------------------------------------
U.S. Treasury securities       $ 1,702,928     $     516      $  (4,787)       $ 1,698,657
U.S. Government agencies        29,482,679       130,705        (73,037)        29,540,347
Securities of state and
   political subdivisions       11,473,361       452,106             --         11,925,467
Other                              743,400            --             --            743,400
                               -----------     ---------       --------        -----------
Total                          $43,402,368     $ 583,327      $ (77,824)       $43,907,871
                               ===========     =========      =========        ===========

</TABLE>

<TABLE>
<CAPTION>

                                                     1996
                               ----------------------------------------------------------
                                                 Gross            Gross
                                Amortized      Unrealized       Unrealized        Fair
                                   Cost           Gains          (Losses)         Value
                               ----------------------------------------------------------
<S> <C>

U.S. Treasury securities       $ 3,058,460     $    3,180     $ (19,171)        $ 3,042,469
U.S. Government agencies        23,488,966         47,414      (136,337)         23,400,043
Securities of state and
  political subdivisions        10,539,035         44,924       (55,489)         10,528,470
Other                              711,500             --           --              711,500
                               -----------     ----------     ---------         -----------
      Total                    $37,797,961     $   95,518     $(210,997)        $37,682,482
                               ===========     ==========     =========         ===========


</TABLE>


     The amortized cost and fair value of securities available for sale as of
December 31, 1997, by contractual maturity are shown below. Expected maturities
may differ from contractual maturities because issuers may have the right to
call or prepay obligations without any penalties.

                                                 Amortized            Fair
                                                    Cost              Value
                                             ---------------------------------
Due in one year or less                      $    3,880,365     $    3,871,605
Due after one year through five years             1,916,274          1,907,418
Due after five years through ten years            4,835,419          4,872,026
Due after ten years                              32,026,910         32,513,422
Other                                               743,400            743,400
                                             --------------     --------------
Total                                        $   43,402,368     $   43,907,871
                                             ==============     ==============


     There were no sales and calls of securities being held to maturity during
1997 and 1996. Proceeds from sales and calls of securities being held to
maturity during 1995 were $250,000. There were no gross gains or losses realized
on the sales and calls during 1995.

     Proceeds from sales and calls of securities available for sale during 1997,
1996 and 1995 were $7,217,090, $9,216,346 and $4,487,354, respectively. Gross
gains of $22,319, $37,526 and $10,967 and gross losses of $24,684, $39,119 and
$17,351 were realized on those sales and calls, respectively.

     As allowed by the Question and Answer Guide to FASB No. 115, "Accounting
for Certain Investments in Debt and Equity Securities" issued in November of
1995, debt securities with an amortized cost of $28,960,443 were transferred
from held-to-maturity to available-for-sale on December 1, 1995. The securities
had an unrealized gain of approximately $39,700.



12

<PAGE>



                                                             1997 Annual Report

Notes to Consolidated Financial Statements

     The amortized cost of securities pledged to secure public deposits,
borrowings from the Federal Reserve Bank and fiduciary powers amounted to
$7,991,890 and $8,538,977, at December 31, 1997 and 1996, respectively.


NOTE 3.  LOANS

     Major classifications of loans are summarized as follows:

<TABLE>
<CAPTION>
                                                                            December 31,
                                                            --------------------------------------------------
                                                                    1997                                1996
                                                            --------------------------------------------------
<S> <C>
Commercial                                                  $    40,854,618                     $   33,256,921
Real estate - mortgage                                           38,945,983                         38,333,737
Real estate - construction                                        2,900,402                          3,109,470
Consumer                                                         16,267,812                         14,554,795
Participations with other banks                                   4,461,081                          2,429,715
Other                                                               409,225                            394,030
                                                            ---------------                     --------------
                                                            $   103,839,121                     $   92,078,668
     Less, reserve for loan losses                                1,740,065                          1,652,844
                                                            ---------------                     --------------
                                                            $   102,099,056                     $   90,425,824
                                                            ===============                     ==============

</TABLE>

     Participations with other banks are secured by commercial real estate.

     Nonaccrual loans excluded from impaired loan disclosure under FASB No. 114
amounted to $581,048 and $142,944 at December 31, 1997 and 1996, respectively.
If interest on these loans had been accrued, such income would have approximated
$37,604 and $5,313 at December 31, 1997 and 1996, respectively.

     Changes in the reserve for loan losses are as follows:



                                             Years Ended December 31,
                                 -------------------------------------------
                                 1997                 1996              1995
                                 --------------------------------------------
Balance at beginning of year   $1,652,844        $1,463,181        $1,370,598
   Provision for loan losses       75,000           150,000            84,000
   Loans charged off              (41,956)         (157,448)          (27,530)
   Recoveries on loans
      previously charged-off       54,178           197,111            36,113
                               ----------        ----------        ----------
Balance at end of year         $1,740,066        $1,652,844        $1,463,181
                               ==========        ==========        ==========



13

<PAGE>


Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements

NOTE 4.  PREMISES AND EQUIPMENT

     Major classifications of premises and equipment are summarized as follows:

                                                       December 31,
                                            ------------------------------
                                                    1997          1996
                                            ------------------------------
Land                                        $     553,135     $    428,135
Buildings                                       2,432,575        2,232,418
Furniture, fixtures and improvements              819,849          813,391
Mechanical equipment                            2,648,085        2,401,214
Leasehold improvements                            759,033          759,033
                                            -------------     ------------
                                            $   7,212,677     $  6,634,191
   Less accumulated depreciation                3,764,359        3,350,128
                                            -------------     ------------
                                            $   3,448,318     $  3,284,063
                                            =============     ============

     For the years ended  December 31, 1997,  1996 and 1995,  depreciation
expense was  $491,598,  $388,537 and  $251,557, respectively.


NOTE 5.  INTANGIBLE ASSETS

Intangible assets consist of the following:
                                                              December 31,
                                                    ---------------------------
                                                       1997             1996
                                                    ---------------------------
Franchise asset associated with customer
   deposits assumed, net of accumulated
   amortization of  $1,200,000  and  $1,116,000,
   respectively                                      $    --         $   84,000
                                                     ----------      ----------

     For the years ended December 31, 1997, 1996 and 1995 amortization expense
was $84,000, respectively.


NOTE 6. NOTE PAYABLE

     CFS has available a $2,000,000 line of credit with the Community Bankers'
Bank. The line of credit bears interest at The Wall Street Journal prime rate
and is secured by all issued and outstanding shares of capital stock of
Chesapeake Bank. The loan agreement also contains certain covenants including
restrictions on changes in control of CFS and the Bank, redemption of stock,
payment of dividends, and capital expenditures. CFS was in compliance with all
of the covenants at December 31, 1997. There was no amount drawn on this line of
credit at December 31, 1997.

The Bank has unsecured lines of credit with correspondent banks totalling
$6,500,000 available for overnight borrowing. The Bank also has a line of credit
secured by mortgage loans totalling $13,000,000 available for long or short-term
borrowing. There were no amounts drawn on these lines of credit at December 31,
1997.




14

<PAGE>




                                                            1997 Annual Report

Notes to Consolidated Financial Statements

NOTE 7. INCOME TAXES

     Net deferred tax assets consist of the following components as of December
31, 1997 and 1996:

<TABLE>
<CAPTION>

                                                              1997                           1996
                                                              -----------------------------------

<S> <C>
Deferred tax assets:
   Reserve for loan losses                                     $    389,778            $   356,629
   Deferred compensation                                            110,071                101,642
   Accrued pension expense                                           82,452                105,056
   Intangible asset                                                  80,489                 84,568
   Securities available for sale                                         --                 39,262
   Other                                                             20,373                 19,146
                                                               ------------            -----------
                                                               $    683,163            $   706,303
                                                               ------------            -----------
Deferred tax liabilities:
   Securities available for sale                               $    160,134            $        --
   Accumulated discount accretion                                     2,948                  1,009
   Premises and equipment                                           181,201                165,338
                                                               ------------            -----------
                                                               $    344,283            $   166,347
                                                               ------------            -----------
                                                               $    338,880            $   539,956
                                                               ============            ===========

</TABLE>


     The provision for income taxes charged to operations  for the years ended
December 31, 1997,  1996 and 1995,  consists of the following:

<TABLE>
<CAPTION>

                                                     1997                 1996                  1995
                                                     -------------------------------------------------
<S> <C>
Current tax expense                                  $ 552,697          $ 567,601          $   410,871
Deferred tax expense (benefit)                           1,681            (66,298)               8,826
                                                     ---------          ---------          -----------
                                                     $ 554,378          $ 501,303          $   419,697
                                                     =========          =========          ===========
</TABLE>


     The income tax provision differs from the amount of income tax determined
by applying the U.S. Federal income tax rate to pretax income for the years
ended December 31, 1997, 1996 and 1995, due to the following:

<TABLE>
<CAPTION>


                                                     1997                 1996                   1995
                                                     -------------------------------------------------
<S> <C>
Computed "expected" tax expense                     $ 783,662         $ 705,989             $ 572,696
Increase (decrease) in income taxes
   resulting from:
     Tax exempt interest income                      (204,598)         (203,087)             (137,588)
     Other                                            (24,686)           (1,599)              (15,411)
                                                    ---------         ---------             ---------
                                                    $ 554,378         $ 501,303             $ 419,697
                                                    =========         =========             =========

</TABLE>




15

<PAGE>


Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements

NOTE 8.  EMPLOYEE BENEFIT PLANS

Pension Plan

     The Corporation has a noncontributory, defined benefit pension plan for all
full-time employees over 21 years of age. Benefits are generally based upon
years of service and the employees' compensation. The Corporation funds pension
costs in accordance with the funding provisions of the Employee Retirement
Income Security Act.

     The following table sets forth the plan's funded status and amounts
recognized as of December 31, 1997 and 1996, computed as of October 1, 1997 and
1996, respectively:

<TABLE>
<CAPTION>

                                                                   Years Ended December 31,
                                                             ----------------------------------
                                                             1997                          1996
                                                             -----------------------------------
<S> <C>

Accumulated benefit obligation, including vested
   benefits of $1,032,458 and $842,198 in 1997
   and 1996, respectively                                  $ 1,065,889             $     871,146
                                                           ===========             =============
Projected benefit obligation for service
   rendered to date                                        $(1,577,250)            $  (1,311,102)
Plan assets at fair value                                    1,770,008                 1,255,666
                                                           -----------             -------------

Funded status                                              $   192,758             $     (55,436)
Unrecognized net obligation                                     48,834                    52,904
Unrecognized prior service cost                                 36,737                    39,361
Unrecognized net gain                                         (520,835)                 (441,719)
                                                           -----------             -------------
Accrued pension liability at October 1                     $  (242,506)            $    (404,890)
Contribution made in fourth quarter                                 --                    95,902
                                                           -----------             -------------
Accrued pension liability at December 31                   $  (242,506)            $    (308,988)
                                                           ===========             ==============
</TABLE>



     Net pension costs for 1997, 1996 and 1995 include the following:

<TABLE>
<CAPTION>

                                                                   Years Ended December 31,
                                                     ------------------------------------------------
                                                     1997                 1996                   1995
                                                     ------------------------------------------------
<S> <C>

Service cost-benefits earned during
    the period                                        $121,141          $102,467              $90,630
Interest costs on projected benefit
    obligation                                         117,913            88,547               78,506
Actual return on plan assets                          (158,844)          (91,671)             (78,656)
Net amortization                                        (8,935)           (5,990)              (2,423)
                                                     ----------         --------              -------
Net periodic pension cost                            $  71,275          $ 93,353              $88,057
                                                     ==========         =========             =======

</TABLE>


     The discount rate and rate of increase in future compensation levels used
in determining the actuarial present value of the projected benefit obligation
were 7.5% and 5.0%, respectively, for the year ended December 31, 1997. The
discount rate and rate of increase in future compensation levels were 7.5% and
6.0%, respectively, for the years ended December 31, 1996 and 1995. The expected
long-term rate of return on plan assets was 9.0% for all years presented.



16

<PAGE>


                                                            1997 Annual Report

Notes to Consolidated Financial Statements

Deferred Compensation Agreements

     The Bank and CFS have deferred compensation agreements providing for
monthly payments to an officer of each company commencing at retirement. The
liabilities under these agreements are being accrued over the officers'
remaining periods of employment such that the then present value of the monthly
payments will have been accrued by retirement date. CFS funds the deferred
compensation commitments through life insurance policies on the officers. One of
the officers is currently retired and receiving benefits under this plan.

Employee Stock Ownership Plan

     Generally, full-time employees who have completed one calendar year of
service are eligible. Contributions each year are at the discretion of the Board
of Directors, within certain limitations prescribed by Federal tax regulations.
Compensation expense related to the plan was $20,000, $19,992 and $10,000 in
1997, 1996 and 1995, respectively. An employee's proportional ownership in the
plan assets vests on an increasing scale over 7 years, or sooner under certain
circumstances. The plan intends to invest contributions received in shares of
CFS common stock.

401-K Plan

     CFS has adopted a contributory 401-k plan which covers substantially all
employees. Total expense related to the plan was $25,590, $20,381 and $20,687
for 1997, 1996 and 1995.


NOTE 9.  STOCK OPTION PLAN

     CFS had a stock option plan in which options for 144,000 shares of voting
common stock and 112,500 shares of nonvoting common stock are reserved for
issuance. The stock option plan required that options be granted at an exercise
price equal to at least 100% of the fair market value of the common stock on the
date of grant; however, for those individuals who own more than 10% of the stock
of CFS, the option price must be at least 110% of the fair market value on the
date of grant. Such options are generally not exercisable until after three
years from the date of issuance and require continuous employment during the
period prior to exercise. This plan expired in 1995. Options previously granted
may be exercised by the participants until the options expire, which is ten
years after the date of the original option grant.



17

<PAGE>


Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements


     A summary of the status of the  expired  plan at December  31,  1997,  1996
and 1995 and the changes  during the years ended on those dates is as follows:

<TABLE>
<CAPTION>

                                   1997                          1996                            1995
                          ------------------------      -------------------------       --------------------------
                                         Weighted                        Weighted                       Weighted
                                         Average                         Average                        Average
                                         Exercise                        Exercise                       Exercise
                          Shares         Price          Shares           Price         Shares           Price
                          ------------------------------------------------------------------------------------------
<S> <C>
Outstanding at
   beginning of year       75,750        $  8.42         80,640         $  8.43           59,640       $  8.33
Options granted                --             --             --              --           21,000          8.69
Options exercised          (1,200)          7.29        (4,890)            8.55               --            --
Options forfeited              --             --             --              --               --            --
                           ------        -------         ------          ------          -------       -------
Outstanding at
   end of year             74,550           9.19         75,750            8.42           80,640          8.43
                           ======        =======         ======          ======          =======       =======

Options exercisable,
   end of year             53,550                        34,350                           39,240
Options available for
  grant, end of year          --                             --                               --

</TABLE>

     In 1996, CFS adopted an incentive stock plan under which options may be
granted to certain key employees for purchase of CFS's common stock. The
effective date of the plan was April 5, 1996 with an expiration date of March
31, 2006. The plan reserves for issuance 54,000 shares of CFS's voting common
stock. The stock option plan requires that options be granted at an exercise
price equal to at least 100% of the fair market value of the common stock on the
date of the grant; however for those individuals who own more than 10% of the
stock of CFS, the option price must be at least 110% of the fair market value on
the date of grant. Such options are generally not exercisable until three years
from the date of issuance and require continuous employment during the period
prior to exercise. The options will expire in no more than ten years after the
date of grant.

     A summary of the status of the 1996 plan at  December  31,  1997 and 1996
and the  changes  during the years  ended on those dates are as follows:

<TABLE>
<CAPTION>


                                              1997                                              1996
                                   -------------------------------               -----------------------------

                                                           Weighted                                   Weighted
                                                             Average                                   Average
                                                            Exercise                                  Exercise
                                        Shares               Price                Shares              Price
                                   ----------------------------------------------------------------------------
<S> <C>
Outstanding at beginning
   of year                               12,600           $     11.25                  --              $    --
Options granted                          10,200                 12.20               12,600                11.25
Options exercised                            --                    --                   --                   --
Options forfeited                            --                    --                   --                   --
                                         ------            ----------               ------             --------
Outstanding at end of year               22,800                 11.67               12,600                11.25
                                         ======           ===========               ======             ========

Options exercisable, end of year            --                                          --
Options available for grant,
   end of year                           31,200                                     41,400

</TABLE>



18


<PAGE>



                                                            1997 Annual Report

Notes to Consolidated Financial Statements


     The status of the options outstanding at December 31, 1997 is as follows:

<TABLE>
<CAPTION>
                                          Options Outstanding                            Options Exercisable
                            --------------------------------------------------        ------------------------
                                                                       Weighted                        Weighted
        Range of                                      Remaining        Average                         Average
        Exercise                 Number              Contractual       Exercise        Number          Exercise
        Price                  Outstanding              Life             Price       Exercisable        Price
--------------------------------------------------------------------------------------------------------------
<S> <C>
     $8.33 to $9.17               19,950                1.3            $ 8.78            19,950         $ 8.78
     $8.33 to $9.17               12,600                2.3              8.81            12,600           8.81
              $8.22                1,800                3.3              8.22             1,800           8.22
   $10.83 to $11.92               12,600                5.3             11.25                --             --
    $7.29 to $11.92               29,400                6.3              9.17            19,200           7.57
     $8.33 to $9.17               21,000                7.3              8.69                --            --

</TABLE>

     CFS applies APB Opinion 25 in accounting for its stock option plans,
accordingly no compensation expense has been recognized for 1997, 1996 and 1995.
Had compensation cost been determined on the basis of fair value pursuant to
FASB Statement No. 123, there would not have been a significant impact on net
income or earnings per share.


NOTE 10.  SHAREHOLDERS' EQUITY

     During 1997, 1996 and 1995, CFS issued 4,334 shares, 3,115 shares and 3,342
shares,  respectively,  of common stock to its Directors for partial
compensation.

     The voting and nonvoting common stock have equal dividend and participation
rights.


NOTE 11.  COMMITMENTS

     CFS leases certain facilities and equipment under operating leases which
expire at various dates through 2000. These leases generally contain renewal
options and require CFS to pay taxes, insurance, maintenance and other expenses
in addition to the minimum normal rentals.

     Minimum rental payments under these operating lease agreements as of
December 31, 1997 are as follows:

 Year Ending
December 31,
------------------------------------
   1998                 $    101,064
   1999                      101,064
   2000                       63,264
   2001                       15,864
   2002                        7,088

     Rent expense under operating leases aggregated  $129,130,  $129,707 and
$85,879 for the years ended December 31, 1997, 1996 and 1995, respectively.

     CFS has entered into a contract totalling $502,500 for renovations to an
existing branch facility acquired in 1997. The renovations will be completed and
the branch will open in 1998.


19

<PAGE>


Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements

     As a member of the Federal Reserve System, the Bank is required to maintain
certain average reserve balances.  For the final weekly reporting period in the
years ended December 31, 1997 and 1996, the aggregate amounts of daily average
required balances were approximately $196,000 for both periods.


NOTE 12.  RELATED PARTY TRANSACTIONS

     Officers,  Directors and their  affiliates  had borrowings of $5,679,221
and $5,071,174 at December 31, 1997 and 1996, respectively, with the Bank.

     Changes in borrowings during 1997 were as follows:

     Balance, December 31, 1996                     $  5,071,174
       Additions                                       1,686,849
       Payments                                       (1,078,802)
                                                    -------------
     Balance, December 31, 1997                     $  5,679,221
                                                   =============

     These transactions occurred in the ordinary course of business on
substantially the same terms as those prevailing at the time for comparable
transactions with unrelated persons.

NOTE 13.  OTHER INCOME AND EXPENSES

     The principal components of "Other Income" in the consolidated statements
of income are:

<TABLE>
<CAPTION>


                                                     1997                  1996                 1995
                                                     ---------------------------------------------------
<S> <C>
Cash Management fees and discount                 $   598,003          $    381,985            $  258,870
FHLMC servicing fee income                            121,534               130,871               131,328
Merchant discount                                     369,441               204,438               150,843
ATM fee income                                        199,329               149,241                77,281
Other (includes no items in
   excess of 1% of total revenue)                     245,120               363,173               300,015
                                                  -----------          ------------            -----------
                                                  $ 1,533,427          $  1,229,708            $  918,337
                                                  ===========          ============            ===========

</TABLE>

     The principal components of "Other Expenses" in the consolidated statements
of income are:

<TABLE>
<CAPTION>

                                                     1997                  1996                  1995
                                                 -------------------------------------------------------
<S> <C>
Advertising                                      $    211,136          $    135,468          $    127,757
Deposit insurance                                      15,253                 2,000               131,568
Merchant card                                         368,320               211,815               144,786
Professional                                           87,380                83,925               126,575
Other (includes no items in
   excess of 1% of total revenue)                   1,428,633             1,236,309             1,180,566
                                                 ------------          ------------          ------------
                                                 $  2,110,722          $  1,669,517          $  1,711,252
                                                 ============          ============          ============

</TABLE>



20

<PAGE>




                                                            1997 Annual Report

Notes to Consolidated Financial Statements

NOTE 14.  EARNINGS PER SHARE

     The following data shows the amounts used in computing earnings per share
and the effect on the weighted average number of shares of dilutive potential
common stock. The potential common stock will not have a significant impact on
net income. The number of shares used in the calculations for 1996 and 1995
reflect a 20% stock dividend paid on October 15, 1997.


<TABLE>
<CAPTION>



                                                           1997                   1996                  1995
                                                        -----------------------------------------------------
<S> <C>
Weighted average number
   of common shares, basic                               1,006,925             1,015,370             1,031,434
Effect of dilutive stock options                            35,966                20,751                 1,114
                                                        ----------             ---------             ---------
Weighted number of common shares
   and dilutive potential common stock
   used in diluted EPS                                   1,042,891             1,036,121             1,032,548
                                                         =========             =========             =========

</TABLE>

NOTE 15. SUBSEQUENT EVENT

     On January 2, 1998, CFS acquired real estate to be used for an operations
center. The total purchase price was $900,000 and is to be paid under a
promissory note payable bearing interest at 5.5%. The note is payable in monthly
principal and interest payments of $6,191 through January 2018.


NOTE 16. TIME DEPOSITS

     Remaining maturities on certificates of deposit are as follows:

                  1998                                      $    65,744,789
                  1999 and later years                           22,072,970
                                                            ---------------
                                                            $    87,817,759
                                                            ===============


NOTE 17. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK

     The Corporation is a party to financial instruments with off-balance-sheet
risk in the normal course of business to meet the financing needs of its
customers. These financial instruments include commitments to extend credit and
standby letters of credit. Those instruments involve, to varying degrees,
elements of credit and interest rate risk in excess of the amount recognized in
the balance sheet. The contract amounts of those instruments reflect the extent
of involvement the Corporation has in particular classes of financial
instruments.

     The Corporation's exposure to credit loss in the event of nonperformance by
the other party to the financial instruments for commitments to extend credit
and standby letters of credit is represented by the contractual amounts of those
instruments. The Corporation uses the same credit policies in making commitments
and conditional obligations as they do for on-balance-sheet instruments.

     Commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in the contract. Standby
letters of credit are conditional commitments issued by the Corporation to
guarantee the performance of a customer to a third party. Commitments generally
have fixed expiration dates or other termination clauses and may require payment
of a fee. At December 31, 1997, the Corporation's total commitments to extend
credit and standby letters of credit were $14,923,489 and $1,079,950,
respectively. At December 31, 1996, the Corporation's total commitments to
extend credit and standby letters of credit were $15,140,458 and $3,000,
respectively.



21

<PAGE>


Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements

     The Corporation evaluates each customer's creditworthiness on a
case-by-case basis. The amount of collateral obtained, if deemed necessary by
the Corporation upon extension of credit, is based on management's credit
evaluation of the counter-party. Collateral held varies but may include accounts
receivable, inventory, property, plant and equipment, and income-producing
commercial properties. Since most of the letters of credit are expected to
expire without being drawn upon, they do not necessarily represent future cash
requirements.

     The Corporation grants commercial, real estate and consumer loans to
customers primarily in the Northern Neck, Middle Peninsula, and James City
County areas of Virginia. Although the Corporation has a diversified loan
portfolio, the ability of debtors to honor their contracts is highly dependent
upon the real estate development market in this area.


NOTE 18. 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 for which it is practicable to estimate
that value:

Cash and Short-Term Investments

     For those short-term instruments, the carrying amount is a reasonable
estimate of fair value.

Securities

     For securities held for investment purposes, fair values are based on
quoted market prices or dealer quotes.

Loan Receivables

     For certain homogeneous categories of loans, such as some residential
mortgages, and other consumer loans, fair value is estimated using the quoted
market prices for securities backed by similar loans, adjusted for differences
in loan characteristics. The fair value of other types of loans is estimated by
discounting the future cash flows using the current rates at which similar loans
would be made to borrowers with similar credit ratings and for the same
remaining maturities.

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 estimated using the rates
currently offered for deposits of similar remaining maturities.

Off-Balance Sheet Financial Instruments

     The fair value of commitments is estimated using the fees currently charged
to enter into similar agreements, taking into account the remaining terms of the
agreements and the present creditworthiness of the counterparties. For
fixed-rate loan commitments, fair value also considers the difference between
current levels of interest rates and the committed rates. The fair value of
letters of credit is based on fees currently charged for similar agreements or
on the estimated cost to terminate them or otherwise settle the obligations with
the counter-parties at the reporting date.

     At December 31, 1997 and 1996, the carrying amounts and fair values of loan
commitments and standby letters of credit were deemed immaterial.



22

<PAGE>



                                                            1997 Annual Report

Notes to Consolidated Financial Statements

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

<TABLE>
<CAPTION>

                                                1997                         1996
                                      ------------------------     -----------------------
                                      Carrying           Fair      Carrying          Fair
                                       Amount            Value     Amount            Value
                                      -----------------------------------------------------
                                            (In Thousands)              (In Thousands)
<S> <C>
Financial assets:
   Cash and short-term
     investments                     $  7,024       $    7,024    $ 5,897        $   5,897
   Securities                          43,908           43,908     37,682           37,682
   Loans                              103,839          102,044     92,079           91,905
   Less:  reserve for loan losses      (1,740)              --     (1,653)            --
                                     --------       ----------    -------        ---------
       Total financial assets        $153,031       $  152,976    $134,005       $ 135,484
                                     ========       ==========    ========       =========               
Financial liabilities:
   Deposits                          $147,519       $  148,174    $127,629       $ 127,816
   Short-term borrowings                1,250            1,250       2,000           2,000
                                     --------       ----------    --------       ---------
       Total financial liabilities   $148,769       $  149,424    $129,629       $ 129,816
                                     ========       ==========    ========       =========

</TABLE>

NOTE 19.  REGULATORY MATTERS

     The Corporation is subject to various regulatory capital requirements
administered by the Federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory - possibly additional discretionary
- actions by regulators that, if undertaken, could have a direct material effect
on the Corporation's financial statements. Under capital adequacy guidelines and
the regulatory framework for prompt corrective action, the Corporation must meet
specific capital guidelines that involve quantitative measures of the
Corporation's assets, liabilities, and certain off-balance-sheet items as
calculated under regulatory accounting practices. The Corporation's capital
amounts and classification are also 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 Corporation to maintain minimum amounts and ratios (set forth in the
table below) of total and Tier 1 capital (as defined in the regulations) to
risk-weighted assets, and of Tier 1 capital to average assets. Management
believes, as of December 31, 1997, that the Corporation meets all capital
adequacy requirements to which it is subject.

     As of December 31, 1997, the most recent notification from the Federal
Reserve Bank categorized the Corporation as well capitalized under the
regulatory framework for prompt corrective action. To be categorized as well
capitalized, the Corporation must maintain minimum total risk-based, Tier 1
risk-based, and Tier 1 leverage ratios as set forth in the table. There are no
conditions or events since that notification that management believes have
changed the institution's category.



23

<PAGE>



Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements

     The Corporation's actual capital amounts and ratios are also presented in
the table.

<TABLE>
<CAPTION>

                                                                                          To Be Well
                                                                                       Capitalized Under
                                                            For Capital                Prompt Corrective
                                    Actual               Adequacy Purposes            Action Provisions
                               ------------------     -----------------------        ----------------------
                               Amount       Ratio     Amount          Ratio          Amount           Ratio
                               --------------------------------------------------------------------------------
                                                              (Amount in Thousands)

<S> <C>
As of December 31, 1997:
   Total Capital (to Risk
     Weighted Assets):
       Consolidated          $  14,999     13.5%       > $8,903     >  8.0%                    N/A
       Chesapeake Bank       $  13,057     11.8%       > $8,879     >  8.0%         > $11,098        >  10.0%
   Tier 1 Capital (to Risk
        Weighted Assets):
         Consolidated        $  13,602     12.2%       > $4,452     >  4.0%                    N/A
         Chesapeake Bank     $  11,665     10.5%       > $4,440     >  4.0%         > $6,659         >  6.0%
   Tier 1 Capital (to
       Average Assets):
       Consolidated          $  13,602      8.5%       > $6,392     >  4.0%                     N/A
         Chesapeake Bank     $  11,665      7.4%       > $6,317     >  4.0%         > $7,896         >  5.0%
As of December 31, 1996:
   Total Capital (to Risk
     Weighted Assets):
            Consolidated     $  13,121     13.7%       > $7,656     >  8.0%                     N/A
       Chesapeake Bank       $  11,925     12.5%       > $7,612     >  8.0%         > $9,515         >  10.0%
   Tier 1 Capital (to Risk
     Weighted Assets):
       Consolidated          $  11,925     12.5%       > $3,828     >  4.0%                     N/A
       Chesapeake Bank       $  10,729     11.3%       > $3,806     >  4.0%         > $5,709         >  6.0%
   Tier 1 Capital (to
     Average Assets):
       Consolidated          $  11,925      8.5%       > $5,590     >  4.0%                      N/A
       Chesapeake Bank       $  10,729      7.7%       > $5,556     >  4.0%         > $6,945         >  5.0%

</TABLE>



NOTE 20. PARENT COMPANY FINANCIAL STATEMENTS

     The following parent company accounting policies should be read in
conjunction with the related condensed balance sheets, statements of income, and
statements of cash flows.

     Investments in subsidiaries are accounted for using the equity method of
accounting. The parent company and its subsidiaries file a consolidated U.S.
Federal income tax return. The subsidiaries' individual tax provisions and
liabilities are stated as if they filed separate returns and any benefits or
detriments of filing the consolidated tax return are absorbed by the parent
company.

     The parent company's principal assets are its investments in its
wholly-owned subsidiaries. Dividends from the Bank are the primary source of
funds for the parent company. The payment of dividends by the Bank is restricted
by various statutory limitations. Banking regulations also prohibit extensions
of credit by the Bank to the parent company unless appropriately secured by
assets. The amount available for payment of additional dividends without prior
regulatory approval in 1996 from the Bank to the parent company is $1,508,084 or
10.8% of consolidated net assets.



24

<PAGE>



                                                             1997 Annual Report

Notes to Consolidated Financial Statements

BALANCE SHEETS (CONDENSED)

<TABLE>
<CAPTION>

                                                                            December 31,
                                                             ----------------------------------------
                                                                   1997                     1996
                                                             ----------------------------------------
<S> <C>
Assets
Cash                                                          $     366,397            $      198,629
Securities                                                        1,534,706                 1,000,839
Investment in subsidiaries                                       11,987,491                10,767,716
Other assets                                                         36,081                    45,787
                                                              -------------           ---------------
       Total assets                                           $  13,924,675            $   12,012,971
                                                              =============           ===============
Liabilities and Shareholders' Equity
Other liabilities                                             $      10,000            $        4,000
Shareholders' equity                                             13,914,675                12,008,971
                                                              -------------            --------------
       Total liabilities and shareholders' equity             $  13,924,675            $   12,012,971
                                                              =============            ==============

</TABLE>


STATEMENTS OF INCOME (CONDENSED)

<TABLE>
<CAPTION>

                                                                       Years Ended December 31,
                                                     ---------------------------------------------------------
                                                           1997                 1996                  1995
                                                     ---------------------------------------------------------

<S> <C>
Income - Dividends - Bank                              $   930,000           $1,800,000            $   600,000
               Dividends - Mortgage Co.                         --                  --                   3,632
               Other                                        87,830               21,858                 19,947
                                                       -----------           ----------            -----------
       Total income                                    $ 1,017,830           $1,821,858            $   623,579

Expenses - Interest expense                            $        --           $  26,026             $    44,379
                 Other expenses                            144,747             103,912                 133,023
                                                       -----------           -----------           -----------
       Total expenses                                  $   144,747           $ 129,938             $   177,402
                                                       -----------           -----------           -----------
Income before income taxes and
   equity in undistributed earnings
   of subsidiaries                                     $   873,083           $1,691,920            $   446,177
Allocated income tax benefit                                25,552               21,158                 24,373
Income before equity in undistri-                      -----------           -----------           -----------
   buted earnings of subsidiaries                      $   898,635           $1,713,078            $   470,550
Equity (deficit) in undistributed
   earnings of subsidiaries                                851,874             (137,942)               794,152
                                                       -----------           -----------           -----------
Net income                                             $ 1,750,509           $1,575,136            $ 1,264,702
                                                       ===========           ===========           ===========

</TABLE>

25

<PAGE>






Chesapeake Financial Shares, Inc.

Notes to Consolidated Financial Statements

STATEMENTS OF CASH FLOWS (CONDENSED)

<TABLE>
<CAPTION>

                                                                 Years Ended December 31,
                                                      ------------------------------------------------------
                                                         1997                  1996                   1995
                                                      ------------------------------------------------------
<S> <C>
Cash Flows from Operating Activities
   Net income                                        $1,750,509          $1,575,136           $1,264,702
   Adjustments to reconcile net income
     to net cash provided by operating
     activities:
       Equity (deficit) in undistributed
         earnings of subsidiaries                      (851,874)            137,942             (794,152)
       Issuance of common stock for services             54,175              37,380               33,420
       Amortization of premium                           (2,960)                144                2,435
   Changes in other assets and liabilities:
     (Increase) decrease in other assets                (10,025)            (10,847)              21,682
     Increase (decrease) in other liabilities             6,000              (9,624)               1,090
                                                     ----------          ----------           -----------
           Net cash provided by
               operating activities                  $  945,825          $1,730,131           $  529,177
                                                     ----------          ----------           ----------
Cash Flows from Investing Activities
   Purchase of investment securities                 $ (574,284)         $ (907,718)          $       --
   Proceeds from maturities of
     investment securities                              100,000             200,625                   --
                                                     ----------          ----------           ----------
           Net cash (used in)
                investing activities                 $ (474,284)         $ (707,093)          $       --
                                                     ----------          -----------          ----------
Cash Flows from Financing Activities
   Dividends paid                                    $ (282,933)         $ (244,585)          $ (214,646)
   Curtailment of note payable                               --            (387,500)            (150,000)
   Acquisitions of common stock                         (36,754)           (293,631)            (167,630)
   Net proceeds from issuance of common stock            15,914              41,825                    --
                                                     ----------          ----------           ----------
       Net cash (used in)
                financing activities                 $ (303,773)         $ (883,891)          $ (532,276)
                                                     ----------          ----------           ----------
          Net increase (decrease) in cash            $  167,768          $  139,147           $   (3,099)

Cash at beginning of year                               198,629              59,482               62,581
                                                     ----------          ----------           ----------
Cash at end of year                                  $  366,397          $  198,629          $   59,482
                                                     ==========          ==========          ============

</TABLE>



26

<PAGE>

                                                            1997 Annual Report

          [LOGO]


 Yount, Hyde & Barbour, P.C.
Certified Public Accountants
       and Consultants

Independent Auditor's Report




To the Boards of Directors and Shareholders
Chesapeake Financial Shares, Inc. and Subsidiaries
Kilmarnock, Virginia

     We have audited the accompanying consolidated balance sheets of Chesapeake
Financial Shares, Inc. and Subsidiaries as of December 31, 1997 and 1996, and
the related consolidated statements of income, changes in shareholders' equity,
and cash flows for the years ended December 31, 1997, 1996 and 1995. These
financial statements are the responsibility of the Corporation's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

     We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

     In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Chesapeake
Financial Shares, Inc. and Subsidiaries as of December 31, 1997 and 1996, and
the results of its operations and its cash flows for the years ended December
31, 1997, 1996 and 1995, in conformity with generally accepted accounting
principles.


Yount, Hyde & Barbour, P.C.

Winchester, Virginia
January 8, 1998

27

<PAGE>




Chesapeake Financial Shares, Inc.

Management's Discussion and Analysis of
Financial Condition and Results of Operations

     The following discussion is intended to assist the reader in understanding
and evaluating Chesapeake's consolidated financial condition and results of
operations. This discussion should be read in conjunction with the company's
audited consolidated financial statements, the accompanying notes, the Letter to
Shareholders, and other information contained elsewhere in this annual report.
There was a stock split effective in the form of a 20% stock dividend, paid on
October 15, 1997. All per share information has been adjusted accordingly. This
analysis attempts to identify trends and material changes which occurred during
the periods presented.

FINANCIAL CONDITION

     On December 31, 1997, the Company had total assets of $163.9 million,
representing a 14.7% increase over the December 31, 1996 balance of $142.9
million, following an increase of 12.7% from December 31, 1995. Loan growth has
been strong during the last four years due to the demand in the Northern Neck,
the Middle Peninsula, and the Company's expansion into the James City
County/Williamsburg area. The Company will open the third office in Williamsburg
in the late spring of 1998.

Summary of Results of Operations

     Record earnings for 1997 of $1,750,509 or $1.68 (fully diluted) compared to
$1,575,136 or $1.52 per share in 1996 completes the third continuous year of
double digit earnings growth. The 11.1% increase in net income resulted from a
12.3% increase or $641,773 in net interest income after provision for loan
losses. Noninterest income increased to $2,981,652 in 1997, up 16.5% over the
1996 level of $2,559,496. All noninterest income items were up for 1997, except
other income and FHLMC servicing fee income. Cash Management fee (see note 13)
income was up 56.6% or $216,018, Merchant Card income was up 80.7% or $165,003,
Trust income was up 12.8% or $104,595, and ATM income was up 33.6% or $50,088.
Other income was down 32.5% or $118,053 due to a one time recovery in 1996.
FHLMC servicing income is down 7.13% or $9,337 from 1996. Total noninterest
expenses for 1997 were $6,555,794, up 14.6% over 1996 totals of $5,720,313.

     Earnings for 1996 of $1,575,136 or $1.52 compared to $1,264,702 or $1.22
per share in 1995 highlighted an outstanding year of accomplishment and change
for Chesapeake Financial Shares, Inc. The 24.6% increase in net income resulted
from a 20.7% increase in noninterest income, an increase of 6.5% in net interest
income after provision for loan losses, and holding noninterest expense to a
6.9% increase. Noninterest income increased to $2,559,496 in 1996, up 20.7% over
the 1995 level of $2,120,189. Most noninterest income items were up for 1996,
with Trust income up 12.4%, Cash Management (see note 13) income up 47.6%, and
ATM income up 93.1%. Net interest income increased to $5,387,256 in 1996, up
7.7% over the 1995 level of $4,999,818. Total noninterest expenses for 1996 were
$5,720,313, up only 6.9% over 1995 totals of $5,351,608.

     Chesapeake Financial Shares' recorded earnings for 1995 of $1,264,702 or
$1.22 per share compared to $1,035,116 or $0.99 per share in 1994. The 22.2%
increase in net income resulted from increases in noninterest income,
controlling expenses, and maintaining net interest income. Total noninterest
income increased to $2,120,189 in 1995, up 30.4% over the 1994 level of
$1,625,999. All noninterest income items were up for 1995, with trust income up
3.7%, service charge income up 25.5%, and other income up 84.4%. Total
noninterest expenses for 1995 were $5,351,608, up only 3.6% over 1994 totals of
$5,167,469. Net interest income increased to $4,999,818 in 1995, up 2.1% over
the 1994 level of $4,897,451.

Assets:  Loan Portfolio

     The net loan portfolio (net of unearned discounts and reserve for loan
loss) totaled $102.1, $90.4, and $80.9 million for 1997, 1996, and 1995,
respectively, representing an increase of 12.9% for 1997 from 1996, 11.6% for
1996 from 1995, and 8.3% for 1995 from 1994. All loan categories except real
estate -- construction were up during 1996. Commercial loans increased 22.9% or
$7.6 million for 1997 over 1996 levels of $33.3 million. Participations with
other banks increased $2.0 million or 83.6% and consumer loans increased 11.8%
or $1.7 million during 1997. Real estate -- mortgage loans increased 1.6% or
$612,246 while real estate -- construction was down 6.7% or $209,068.

28

<PAGE>



                                                            1997 Annual Report


     On December 31, 1997, the loan portfolio consisted of 40.3% of single
family residential and residential construction loans and 39.3% of commercial
loans. The commercial loans consist principally of business loans such as
retail, hospitality, service and professional, marine industry, and commercial
real estate loans where real estate is the primary collateral, plus a very small
portion of agriculture loans. Management attempts to reduce the Bank's exposure
to the risks of the local real estate market by limiting the aggregate size of
its commercial portfolio and by primarily making such loans directly to the
business occupants. The Bank has historically engaged in limited mortgage
lending secured by multi family and agricultural properties. At year end,
residential real estate construction accounted for 2.8% of total loans
outstanding. The Bank's consumer installment portfolio remains its third largest
major loan category.

     Consistent with its focus on providing community based financial services,
Chesapeake Bank generally does not make loans outside its principal market
regions. By policy it does not originate or purchase highly leveraged loans or
loans to foreign entities or individuals.

     Total nonperforming assets consist of nonaccrual loans, restructured loans,
repossessed and foreclosed properties. Nonperforming assets were $791,344 at
December 31, 1997, representing no substantial change from $395,944 from
December 31, 1996. Past due loans were 1.13% of total loans at December 31,
1997.

Asset Quality-Provision/Reserve for Loan Losses

     The provision for loan losses is a charge against earnings necessary to
maintain the reserve for loan losses at a level consistent with management's
evaluation of the credit quality and the level of risk in the loan portfolio.

     The 1997 provision of $75,000 brought the reserve for loan losses to
$1,740,065 or 1.68% of gross loans. There was a provision of $150,000 in 1996
compared to the 1995 provision of $84,000. Management and the Board of Directors
believe the total reserve at year end was adequate relative to current levels of
risk in the portfolio. Continued loan growth may warrant additional provisions
in the future. The reserve for loan losses as a percent of gross loans less
unearned discounts was 1.7% on December 31, 1997, 1.8% on December 31, 1996 and
1.8% on December 31, 1995.

     Loan charge offs totaled $41,956 in 1997, $157,448 in 1996, and $27,530 in
1995. Recoveries for the same periods were $54,178, $197,111, and $36,113,
respectively. Management does not expect to have similar recovery experience in
1998.

     The Bank maintains a reserve for loan loss which management believes
represents a conservative estimate of potential losses in the Bank's loan
portfolio. To achieve this goal, the loan loss provision must be sufficient to
cover loans charged off plus the growth (if any) in the loan portfolio. In
determining the adequacy of the reserve for loan losses, management uses a
methodology which specifically identifies and reserves for higher risk loans. A
general reserve is established for non-specifically reserved loans. Loans in a
nonaccrual status and over ninety days past due are considered in this
evaluation as well as other loans which may be potential problem loans. The
status of nonaccrual and past due loans varies from quarter to quarter based on
seasonality, local economic conditions, and cash flow of customers.

     Management has periodically contracted outside professionals to perform an
independent loan quality review to enhance the internal loan review process. A
review was performed in late 1997 and the results were consistent with those of
the internal loan review officer and management's reserve analysis process. The
maintenance of high loan quality objectives has been key to the Company's
current levels of performance.

Investment Securities

     At year end, total securities and time deposits with other banks were $43.9
million, up 16.5% from the $37.7 million on December 31, 1996, which compared to
$37.1 million on December 31, 1995. Investment portfolio liquidity and deposit
growth provided funding for the increases in the loan portfolio.

     All of the Company's securities are classified as securities available for
sale. Securities may be classified as investment securities when management has
the intent and the Company has the ability at the time of purchase to hold


29


<PAGE>



Chesapeake Financial Shares, Inc.

the securities to maturity. Investment securities are carried at cost adjusted
for amortization of premiums and accretion of discounts. Securities available
for sale include securities that may be sold in response to changes in market
interest rates, changes in the securities prepayment risk, increases in loan
demand, general liquidity needs and other similar factors. Securities available
for sale are carried at fair market value.

     At December 31, 1997, securities available for sale totaled $43.9 million
and at December 31, 1996 the total was $37.7 million. Fair market value of the
portfolio at December 31, 1997 exceeded book value by $328,577 net of the tax
effect. At December 31, 1996 the book value of the portfolio exceeded fair
market value by $76,216 net of the tax effect. Debt securities with an amortized
cost of $29.0 million were transferred from held-to-maturity to
available-for-sale on December 1, 1995 (see Note 2). The reclassification of
securities for 1995 had no effect on the Company's financial condition or
results of operations as the aggregate market value of the portfolio exceeded
its book value by $78,860, also net of the tax effect. The original
reclassification in 1994 warranted a capital reserve at December 31, 1994 for
unrealized losses on securities available for sale of $259,974. This is within
risk limits monitored by the Board and the asset/liability management committee.

     The securities portfolio increased 16.5% or $6.2 million in 1997 and
increased less than 1% in 1996 over 1995. U. S. Government Agencies increased
26.2 or $6.1 million during 1997. Investments in state and political
subdivisions increased 13.3% or $1.4 million during 1997. Investments in U.S.
Treasury issues decreased $1.3 million or 44.2% from 1996, which had a decrease
of $1.5 million, or 33.6% from 1995. Management has increased the investment in
securities of state and political subdivisions including some local
municipalities to utilize the tax free income. Management has also changed the
investment strategy to increase the mortgage-backed securities portfolio. This
strategy has increased current income and has improved the total return of the
overall portfolio without assuming amounts of risk greater than limits
established and monitored by the Board of Directors.

Liabilities:  Deposits

     Deposits totaled $147.5, $127.6, and $118.7 million for 1997, 1996, and
1995, respectively, representing an increase of 15.6% for 1997 from 1996, and an
increase of 7.5% for 1996 from 1995. The composition of deposits continued to
change this year with changing interest rates. There was a 19.1% increase in
certificates of deposit. Noninterest bearing deposits increased to $19.3 million
or 15.7% from $16.6 million on December 31, 1996. Savings balances increased
during the year by 8.5% or $3.2 million to $40.4 million.

Shareholders' Equity

     Future growth and expansion of the Company is dictated by the ability to
generate capital which is generated principally by the earnings of the Bank. As
of December 31, 1997, the Company's primary capital to asset ratio was 9.3%. The
Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA)
established a capital based supervisory system for all insured depository
institutions including state chartered, Federal Reserve member banks. Under this
new requirement, the Bank continues to be certified as a "well capitalized"
institution, which is the highest level of this ranking.

     Federal regulators adopted minimum capital standards. Specifically, the
guidelines categorize assets and off balance sheet items into four risk weighted
categories. The minimum ratio of qualifying total capital to risk weighted
assets is 8%. For Chesapeake, Tier 1 capital is composed of common equity and
retained earnings less certain intangible items. Tier 1 capital to risk weighted
assets and Tier 1 capital to average assets (called leveraged capital) must be
4%.

     On December 31, 1997, the Company had ratios of Tier 1 risk based capital
to risk weighted assets of 12.2%, total risk based capital to risk weighted
assets of 13.5%, and Tier 1 leverage capital of 8.5%. At December 31, 1996,
these ratios were 12.5%, 13.7% and 8.5%, respectively.

     The adequacy of the Company's capital is reviewed by management on an
ongoing basis with reference to the size, composition and quality of the
company's asset and liability levels and consistent with regulatory requirements
and industry standards. Management seeks to maintain a capital structure that
assures an adequate level to support anticipated asset growth and absorb
potential losses.

Dividend and Market Information

     The Company raised its dividend to $.28 per share in 1997, an increase of
$.04 over 1996. This increase followed another $.03 per share dividend increase
from $.21 in 1995 to $.24 in 1996.


30

<PAGE>


                                                            1997 Annual Report


     Trades in the Company's common stock have occurred infrequently on a local
basis and generally involve a relatively small number of shares. Based on
information made available to them, management believes that the selling price
for the Company's common stock ranged during 1995 from $8.13 to $9.17; during
1996, from $10.63 to $12.71; and during 1997, from $12.71 to $20.00. Such
transactions may not be representative of all transactions during the indicated
periods or of the fair value of the stock at the time of such transactions due
to the infrequency of trades and the limited market for the stock. At December
31, 1997, there were 1,010,888 shares of Company stock outstanding held by
approximately 463 holders of record.

Liquidity, Interest Rate Sensitivity, and Inflation

     The objectives of the Company's liquidity management policy include
providing adequate funds to meet the needs of depositors and borrowers at all
times, as well as providing funds to meet the basic needs for ongoing operations
of the Company, to allow funding of longer-term investment opportunities and
regulatory requirements. Sufficient assets are maintained on a short-term basis
to meet the liquidity demands anticipated by management.

     The most immediate and efficient source of liquidity is the Bank's pool of
short-term investments. The Bank's primary sources of liquidity continue to be
Federal funds sold, time deposits with banks, and securities maturing or
repricing within one year. On December 31, 1997, approximately 26.4% of the
total invested portfolio dollars mature within one year as compared to 9.0% on
December 31, 1996. The Bank's loan portfolio is also liquid with 57.6% of all
loan dollars maturing or repricing within one year. This loan liquidity ratio
was 58.3% on December 31, 1996. Management considers the Company's liquidity to
be adequate. Other sources of liquidity include repayment of loans, the sale of
loans, and proceeds from the sale of repossessed assets and Other Real Estate
Owned. The sale of loans through the secondary market operation enhances this
liquidity position by providing both fixed and adjustable rate long-term
mortgage options to our client base. Mortgage loans held for resale are stated
at the lower of cost or market (or contract value), however, due to the quick
turnover of these assets, seldom do the loans represent more than 1% of total
assets.

     Bank management maintains overnight borrowing relationships with
correspondent banks for up to $6,500,000, unsecured. The Bank has other
borrowing relationships for up to $13,000,000, secured. The Company also has an
unused revolving line of credit for $2,000,000.

     As of December 31, 1997, the Bank had $249,300 in repossessed assets and
Other Real Estate Owned. These assets are being aggressively marketed for sale
and represent a near term secondary source of liquidity. The Bank expects to
realize full book value for these assets.

     Since the assets and liabilities of a bank are primarily monetary in nature
(payable in fixed, determinable amounts), the performance of a bank is affected
more by changes in interest rates than by inflation. Interest rates generally
increase as the rate of inflation increases, but the magnitude of the change in
rates may not be the same.

     While the effect of inflation is normally not as significant as is its
influence on those businesses which have large investments in plant and
inventories, it does have an effect. There are normally corresponding increases
in the money supply, and banks will normally experience above average growth in
assets, loans and deposits. Also, general increases in the prices of goods and
services will result in increased operating expenses.

Net Interest Income

     The principal source of earnings for Chesapeake is net interest income. Net
interest income is the difference between interest and fees generated by earning
assets and interest expense paid to fund those assets. As such, net interest
income represents the gross profit from the Bank's lending, investment, and
funding activities.

     A large number of variables interact to affect net interest income.
Included are variables such as changes in the mix and volume of earning assets
and interest bearing liabilities, market interest rates, and the statutory
Federal tax rate. It is management's ongoing policy to maximize net interest
income through the development of balance sheet and pricing strategies while
maintaining appropriate risk levels as set by the Board of Directors.

     Net interest income totaled $5.9, $5.4, and $5.0 million for 1997, 1996,
and 1995, respectively, representing an increase of 10.5% for 1997 over 1996,
7.7% for 1996 over 1995, and 2.1% for 1995 over 1994. Loan demand was strong


31

<PAGE>



Chesapeake Financial Shares, Inc.

again this year with total net loans up 12.9% or $11.7 million for 1997 over
1996. Total interest expense was $5.4, $4.8, and $4.6 million for 1997, 1996 and
1995, respectively. On a tax equivalent annualized basis, the net interest
margin was 4.6%, 4.6% and 4.4% for 1997, 1996 and 1995, respectively.

Noninterest Income

     For the year ended December 31, 1997, noninterest income was $3.0 million,
a 16.6% increase over the 1996 amount of $2.6 million, which was a 20.7%
increase over the 1995 amount of $2.1 million. The increase in 1997 was due to a
56.6% or $216,018 increase in our Cash Management service, and an increase of
$165,003 or 80.7% in Merchant Card income. Trust income was also up 12.8% or
$104,595, and ATM income was up 33.6% or $50,088. Service Charge income was up
5.5% or $27,402 from the same period in 1996. All other operating income items
increased for the year excluding the effect of the one-time recovery in 1996.

     Merchant Card, ATM, and Cash Management income was up due to product
promotions, including incentives and aggressive pricing. We expect our market
share to continue to grow in these product areas. The Company continuously seeks
additional sources of noninterest income.

Noninterest Expenses

     Total noninterest expenses increased 14.6% or $835,481 in 1997 over 1996.
In 1996, total operating expenses increased 6.9% over 1995 and increased 3.6% in
1995 over 1994. The 1997 increase was due primarily to a 26.4% or $441,205
increase in other expenses related to a $148,283 increase or 162.3% in Cash
Management expenses, $156,505 or 74.0% increase in Merchant Card expenses, a
$75,668 or 55.9% increase in advertising, and a $75,087 or 34.0% increase in ATM
expenses. The Bank now operates nine banking offices. Our ATM network was
reduced from seventeen to fourteen sites during the year. The ATM computer
processing function was moved in-house from a third party servicer. This has
reduced operating costs during the last quarter of the year and should make the
ATM function profitable for 1998.

     Salaries and benefits were up 8.4%, or $239,276, over 1996 levels of
$2,840,262. This increase was due to additional staffing, incentives, and cost
of living increases. Total occupancy expenses increased 12.8% or $155,000
compared to 1996 which was up 29.5% or $275,512 from the 1995 level of $935,022.
The FDIC insurance assessment was up 662.7% or $13,253 for 1997 over 1996,
compared to a decrease of 98.5% for 1996 over 1995. The assessment was at the
lowest rate available for 1997, 1996, and 1995 as a result of the Bank's "well
capitalized" status with Federal Deposit Insurance Corporation. Professional
fees and expenses were up only 4.1% or $3,455 for 1997 over 1996, compared to an
decrease of 33.7% or $42,650 for 1996 over 1995. The primary reason for the
decrease in 1996 was related to a comprehensive technology review and mainframe
software selection and implementation process that took place in 1995. This
culminated in a February 1996 banking software conversion.

     The rate of increase in noninterest expense is not expected to continue.
There were several one-time expenses in 1997 related to the ATM processing
conversion, combining several local area networks, and upgrading personal
computer systems.

     Services available to our customer base have been enhanced or added
including Touch Tone Loan (a computerized telephone based loan application
product), Touch Tone Teller (24 hour banking that now includes loan payments)
and the 24 Hour ATM network. Additionally, mutual funds, fixed and variable
annuities, and enhanced estate planning are available through Chesapeake
Investment Services and the Trust Department.


32

<PAGE>

[LOGO]

Chesapeake Financial Shares, Inc. - Directors
-------------------------------------------------------------------------------

<TABLE>
<S> <C>


Douglas D. Monroe, Jr.     T. Nash Broaddus                Thomas B. Denegre, Jr.
Chairman of the Board      Chairman of the Board           Retired Vice Chairman &
Chief Executive Officer    Prodesco, Inc.                  Senior Trust Officer
                           Textile Manufacturer            Chesapeake Bank


Eugene S. Hudnall, Jr.     Robert S. Scheu                 William F. Shumadine, Jr.
President, Noblett, Inc.   Retired CEO                     Senior Vice President
Retailer                   Marine Midland Trust            Lowe, Brockenbrough & Tattersall, Inc.
                           Company of Western New York     Registered Investment Advisor


Robert L. Stephens         Katherine W. Monroe
Owner                      Shareholder
The Tides Inn, Inc.
Resort Operations

</TABLE>



Chesapeake Bank - Directors
------------------------------------------------------------------------------
<TABLE>
<S> <C>

Rexford F. Beckwith, III                  James M. Holmes, Jr.             L. Frank Phillips, Jr.
President                                 President, Administrator         President
Rappahannock Westminster-Canterbury       Rappahannock General Hospital    L. F. Phillips & Son Oil Co., Inc.

Charles C. Chase, II                      Eugene S. Hudnall, Jr.           Albert C. Pollard
President, Rappahannock                   President                        President
Seafood Company, Inc.                     Noblett, Inc.                    Pollard Properties, Inc.

James F. Chase, Jr.                       Douglas D. Monroe, Jr.           Robert L. Stephens
Farmer                                    Chairman and President           Owner
                                          Chesapeake Bank                  The Tides Inn, Inc.

C. Irwin Clark, III                       Harvey B. Morgan                 Harry M. Ward
Chairman of the Board                     Pharmacist and Legislator        Superintendent of Schools
Hubbard Insurance Agency, Inc.                                             Mathews County

</TABLE>

Chesapeake Bank - Officers
------------------------------------------------------------------------------


<TABLE>

<S> <C>

Douglas D. Monroe, Jr.     Ray H. Hargett         Linda J. Bisulca    Carlie H. Gill
Jeffrey M. Szyperski       Betty Sue Spence       Shirley M. Daniel   Kathleen S. Banks
Marshall N. Warner         Jean H. Harper         Bert H. Heath, Jr.  Doris C. Bussells
John H. Hunt, II           Paul L. Wegkamp, Jr.   John N. Chappell    Patricia R. Lewis
Ted M. Kattmann            Dianne D. Hall         Brenda S. Cornell   Pattie G. R. Matthews
Larry T. Lawrence          Suzanne D. Keyser      Heidi L. Wilkins    Ann Marie Pruitt
John K. O'Shaughnessy      Cecelia G. Klink       Julie A. Williams


</TABLE>



Chesapeake Insurance Agency, Inc.
and Chesapeake Mortgage Company, Inc. - Directors
-------------------------------------------------------------------------------


Douglas D. Monroe, Jr.   Eugene S. Hudnall, Jr.    Katherine W. Monroe
Robert L. Stephens       Ray H. Hargett            T. Nash Broaddus





Chesapeake Bank Business Advisory Committees
-----------------------------------------------------------------------------


Middle Peninsula          Peninsula
Alvin L. Newton           Henry S. Branscome    Vernon M. Geddy, III
L. Frank Phillips, Jr.    John D. Briggs        Bruce P. Robertson
William J. Pointer        Patrick G. Duffeler   Thomas G. Tingle



33