<PAGE>   1
                                                                      Exhibit 13

                            PINNACLE BANCSHARES, INC.
                     LETTER TO OUR STOCKHOLDERS AND FRIENDS






Dear Stockholders:

         Although Pinnacle Bancshares, Inc. earned $1.5 million, or $.84 per
share in 1998, your Board of Directors and management are disappointed in these
results. As you are aware, in 1997 the Company earned $2.1 million, or $1.16 per
share.

         The decrease in net income for 1998 was primarily attributable to two
factors: losses on the sale and writedown of other real estate owned of $560,000
and a $240,000 increase in the provision for loan losses. The losses on sale and
writedown of other real estate owned primarily related to a golf course loan in
Walker County, Alabama, a charge to earnings of $400,000 which was taken in the
third quarter of 1998. The increase in the provision for loan losses in 1998 was
primarily due to an increase in the level of charge-offs, which increased by
$290,000 for the year ended December 31, 1998. Of these charge-offs, $250,000
related to the foreclosure of the golf course loan in the second quarter of
1998.

         At year end, other real estate owned, net totaled $2.2 million,
including the golf course, which was valued at $1,100,000. We are actively
seeking to sell this property, but to date have not been able to finalize a sale
on acceptable terms.

         Pinnacle Bancshares and Pinnacle Bank continue to be in sound
condition. In 1998, we established a new branch in Trussville, Alabama and we
intend to expand further in the Birmingham market, and other metropolitan
markets, as appropriate opportunities become available.

         With respect to the Year 2000 issue, a plan of action has been put in
place to minimize the Company's risk exposure. The Company believes that it will
be ready for the Year 2000 and beyond.

         Your Board of Directors and management are committed to protecting and
building the value of your investment. We believe that this can best be
accomplished by continuing to deliver quality services to our customers and
community.

         Thank you for your support.

                                       Sincerely,



                                       Robert B. Nolen, Jr.
                                       President and Chief Executive Officer
                                       Pinnacle Bancshares, Inc.
                                       Pinnacle Bank


<PAGE>   2

                          BALANCE SHEET AND OTHER DATA

<TABLE>
<CAPTION>
                                                                                         AT DECEMBER 31,
                                                                                 ------------------------------
                                                                                      1997             1998
                                                                                      ----             ----
                                                                                      (Dollars in thousands)

<S>                                                                              <C>              <C> 
TOTAL AMOUNT OF:
    Assets                                                                       $   201,949      $   218,086
    Loans, net                                                                       137,676          128,962
    Interest-bearing deposits in other banks                                           4,873           30,845
    Securities                                                                        44,423           40,415
    Loans held for sale                                                                1,857            2,986
    Deposits                                                                         179,377          194,687
    Borrowed funds                                                                     3,640            3,520
    Stockholders' equity                                                              16,781           17,612
NUMBER OF:
    Real estate loans outstanding                                                      3,994            3,589
    Savings accounts                                                                  16,365           16,136
    Full-service offices open                                                              5                6
</TABLE>


                          STATEMENT OF OPERATIONS DATA


<TABLE>
<CAPTION>
                                                                              FOR THE YEARS ENDED DECEMBER 31,
                                                                         -----------------------------------------
                                                                             1996           1997           1998
                                                                             ----           ----           ----
                                                                                       (In thousands)

<S>                                                                        <C>            <C>            <C> 
INTEREST INCOME                                                            $14,680        $15,858        $15,921        
                                                                                                                        
INTEREST EXPENSE                                                             8,443          8,903          9,251        
                                                                           -------        -------        -------        
   Net interest income before provision for loan losses                      6,237          6,955          6,670        
                                                                                                                        
PROVISION FOR LOAN LOSSES                                                      265            400            637        
                                                                           -------        -------        -------        
   Net interest income after provision for loan losses                       5,972          6,555          6,033        
                                                                                                                        
NONINTEREST INCOME                                                           1,334          1,359          1,060        
                                                                                                                        
NONINTEREST EXPENSE                                                          5,709          4,663          4,813        
                                                                                                                        
INCOME TAX EXPENSE                                                             613          1,188            778        
                                                                           -------        -------        -------        
   Net income                                                              $   984        $ 2,063        $ 1,502        
                                                                           =======        =======        =======        
</TABLE>



                                       2
<PAGE>   3
                                   OTHER DATA

<TABLE>
<CAPTION>
                                                                                        FOR THE YEARS ENDED DECEMBER 31,
                                                                                       ----------------------------------
                                                                                        1996          1997          1998
                                                                                       ------        ------        ------

<S>                                                                                    <C>           <C>           <C>
Interest rate spread                                                                     3.1%          3.5%          3.2%
Yield on average interest earning assets                                                 8.0           8.4           8.1
Return on assets (net income divided by average total assets)                            0.5           1.0           0.7
Return on equity (net income divided by average equity)                                  6.5          12.7           8.6
Equity-to-assets ratio (average equity divided by total average assets)                  8.0           8.1           8.0
Dividend payout ratio (dividends declared divided
    by net income)                                                                      65.5          34.5          48.2
</TABLE>


                          YIELDS EARNED AND RATES PAID

         The following table sets forth, for the periods and the dates
indicated, the weighted average yields earned on interest-bearing assets and the
weighted interest rates paid on the Bank's interest-bearing liabilities,
together with the net yield on interest earning assets.

<TABLE>
<CAPTION>
                                                                          FOR THE YEARS ENDED             AT
                                                                              DECEMBER 31,            DECEMBER 31,
                                                                    ------------------------------    ------------
                                                                     1996        1997        1998         1998
                                                                    ------      ------      ------       ------

        <S>                                                         <C>         <C>         <C>       <C>  
        Weighted average yield on loans.....................          8.7%        9.1%        9.0%        8.9%

        Weighted average yield on securities available
           for sale.........................................          6.4         6.5         6.4         6.3    

        Weighted average yield on all interest earning
           assets...........................................          8.0         8.4         8.1         7.7

        Weighted average rate paid on deposits..............          4.9         4.9         4.9         4.9

        Weighted average rate paid on
           borrowed funds...................................          5.8         5.7         5.8         5.8

        Weighted average rate paid on all interest
           bearing liabilities..............................          4.9         4.9         4.9         5.0

        Interest rate spread (spread between weighted
           average rate on all interest bearing assets and
           all interest bearing liabilities)................          3.1         3.5         3.2         2.8

        Net yield (net interest income as percentage of
           interest-earning assets).........................          3.4         3.7         3.4
</TABLE>



                                       3
<PAGE>   4

                      MANAGEMENT'S DISCUSSION AND ANALYSIS



INTRODUCTION

Pinnacle Bancshares, Inc. (the "Company") is a bank holding company incorporated
under the laws of the State of Delaware. The Company is the holding company for
Pinnacle Bank (the "Bank"), an Alabama chartered commercial bank that maintains
six branches in Jasper, Haleyville, Sumiton, Vestavia and Trussville, Alabama.
The Bank was originally chartered as First Federal Savings and Loan Association
of Jasper in 1935, and since that time its accounts have been federally insured.
The Bank converted from a federal stock savings bank to an Alabama chartered
commercial bank and was acquired by the Company in January 1997.

The Company generates revenue primarily from net interest margin derived by
soliciting deposits and borrowings, which are used to fund the Company's loan
portfolio, mortgage-backed securities, and investment securities. The Company
also derives revenue from fees and charges on loans and deposit accounts.

Historically, the Company's business strategy has been to engage primarily in
residential lending and retail consumer lending. To enhance growth and achieve
greater portfolio diversification, as well as to provide an improved interest
rate spread, the Company's strategy has expanded to include active participation
in commercial real estate and other commercial lending activities in its primary
market area of Walker, Winston, Jefferson, and Shelby Counties. Although the
inherent risks associated with geographic concentrations in the Company's loan
portfolio do not appear to have had a significant effect on the Company's
earnings to date, any dramatic fluctuations in the economic conditions in the
Company's market area could have a material effect on the Company's
profitability.

In recent years, the Company has expanded its operations in the Birmingham,
Alabama, metropolitan area. During fiscal year 1998, the Company established a
new branch in Trussville, Alabama,which is located in the Birmingham market
area. The Company currently intends to further expand in the Birmingham market
as appropriate opportunities become available.

The following is a discussion and analysis of the consolidated financial
condition of the Company and the results of operations as of the dates and for
the years indicated. It is intended to be read in conjunction with the
consolidated financial statements, and the notes thereto, along with various
other financial data disclosures, both current and historical, contained in this
Annual Report.

Management's discussion and analysis includes certain forward-looking statements
addressing, among other things, the Company's prospects for earnings, asset
growth and net interest margin. Forward-looking statements are accompanied by,
and identified with, such terms as "anticipates," "believes," "expects,"
"intends," and similar phrases. Management's expectations for the Company's
future necessarily involve a number of assumptions and estimates. Factors that
could cause actual results to differ from the expectations expressed herein
include: substantial changes in interest rates and changes in the general
economy, as well as changes in the Company's strategies for credit-risk
management, interest-rate risk management and investment activities.
Accordingly, any forward-looking statements included herein do not purport to be
predictions of future events or circumstances and may not be realized.

ASSET LIABILITY MANAGEMENT

The Securities and Exchange Commission issued final rules in January 1997
governing disclosure requirements for financial instruments, including
derivatives. The final rules require a detailed description of the accounting
policies used for derivatives (see Note 1 of Notes to Consolidated Financial
Statements), as well as qualitative and quantitative disclosures regarding
market risk exposures.



                                       4
<PAGE>   5

The Company's primary market risk is its exposure to interest rate changes.
Interest rate risk management strategies are designed to optimize net interest
income while minimizing fluctuations caused by changes in the interest rate
environment. It is through these strategies that the Company seeks to manage the
maturity and repricing characteristics of its balance sheet.

Interest rate risk management is administered through the Company's
Asset/Liability Committee. This Committee reviews interest rate risk, liquidity,
capital positions, and discretionary on- and off-balance sheet activity
including interest rate swap agreements. All decisions are made within
established risk management guidelines and strategies.

The modeling techniques used by the Company simulate net interest income and
impact on fair values under various rate scenarios. Important elements of these
techniques include the mix of floating versus fixed rate assets and liabilities,
and the scheduled, as well as expected, repricing and maturing volumes and rates
of the existing balance sheet. Under a scenario simulating a hypothetical 100
basis point rate increase applied to all fixed rate interest earning assets and
interest-bearing liabilities, the Company would expect a net loss in fair value
of the underlying instruments of $1.8 million. This hypothetical loss is not a
precise indicator of future events. Instead, it is a reasonable estimate of the
results anticipated if the assumptions used in the modeling techniques were to
occur.

FINANCIAL CONDITION

Total deposits increased $15.3 million, to $194.7 million at December 31, 1998.
The increase was primarily in savings accounts and certificates of deposit as
the result of normal growth. Total assets increased to $218.1 million at
December 31, 1998, compared to $201.9 million at December 31, 1997, primarily
due to an increase in interest bearing deposits in other banks, which increased
$25.9 million, from $4.9 million at December 31, 1997 to $30.8 million at
December 31, 1998, and more than offset a $8.7 million decrease in loans
receivable, net from, $137.7 million at December 31, 1997 to $129.0 million at
December 31, 1998. Loan originations increased from $126.1 million at December
31, 1998 to $149.9 million at December 31, 1998. However, due to the increase of
loan repayments of $13.0 million and the lower interest rates available in 1998,
borrowers paid-off adjustable rate loans in favor of long-term fixed rate
mortgages, most of which were sold by the Bank in the secondary market. As a
result of this refinancing activity, real estate loans with variable rates
declined from $50.3 million at December 31, 1997 to $40.5 million at December
31, 1998. See Note 3 of Notes to Consolidated Financial Statements. A
substantial portion of the proceeds from such loan sales and the sale of
securities, as well as the increase in deposits, were invested in
interest-bearing deposits in other banks.

During fiscal year ended December 31, 1996, the Bank repaid approximately $10.0
million in advances from the Federal Home Loan Bank ("FHLB") of Atlanta. There
were no FHLB advances during 1997 and 1998.

The Company's investment portfolio decreased from $44.4 million at December 31,
1997 to $40.4 million at December 31, 1998. The decrease was partially
attributable to sales of securities. The entire portfolio is classified as
"available for sale," causing it to be marked-to-market with the unrealized
gains/losses reflected directly to stockholders' equity. See "--Liquidity" and
Note 2 of Notes to Consolidated Financial Statements

RESULTS OF OPERATIONS

GENERAL. The Company's net earnings are derived from net interest income, which
is the difference between interest income on loans and securities and interest
expense on deposits and borrowings. In addition, net earnings are affected by
the gain and loss on the sale of loans and securities, loan servicing income,
subsidiary earnings, operating expenses, and income taxes. Although changes in
interest rates necessarily lead to changes in net interest margins, the level
and direction of overall interest rates have had a minimal impact on the
Company's operations to date.

RESULTS FOR 1998

For the year ended December 31, 1998, net income was $1.5 million, compared with
net income of $2.1 million in the prior year. Net interest income after the
provision for loan losses for the year ended December 31, 1998, was $6.0
million, compared to $6.6 million in 1997.



                                       5
<PAGE>   6

The decrease in net income for 1998 was primarily attributable to two factors:
losses on the sale and writedown of other real estate owned of $560,000 and a
$240,000 increase in the provision for loan losses. The losses on the sale and
writedown of other real estate owned primarily related to a golf course loan in
Walker County, Alabama , a charge to earnings of $400,000 which was taken in the
third quarter of 1998. The increase in the provision for loan losses in 1998 was
primarily due to an increase in the level of charge-offs, which increased by
$290,000 for the year ended December 31, 1998. Of such charge-offs, $250,000
related to the foreclosure of the golf course loan in the second quarter of
1998.

At December 31, 1998 the Bank's other real estate owned , net totaled $2.2
million, including the Walker County golf course, which was valued at $1,100,000
million, and a development loan on commercial property in Birmingham, Alabama,
which was valued at $620,000. Although the Bank does not currently anticipate
that further charge-offs on these properties will be necessary, there can be no
assurance that additional charge-offs will not be taken. To date, the Bank has
been unable to negotiate a sale on these properties on acceptable terms.

In 1998, the average loan balance outstanding decreased by $2.5 million,
primarily due to a decrease in home mortgage rates and a lack of demand for
adjustable rate mortgages. Due to the lower interest rates available in 1998,
borrowers paid-off adjustable rate loans in favor of long-term fixed rate
mortgages, which were sold by the Bank in the secondary market. As a result of
the decrease in the Bank's loan portfolio, interest on loans declined from $12.5
million for the fiscal year ended December 31, 1997 to $12.2 million for the
fiscal year ended December 31, 1998.

NET INCOME. The Company reported net income of approximately $1.0 million, $2.1
million, and $1.5 million for fiscal years ended December 31, 1996, December 31,
1997, and December 31, 1998, respectively. The increase from the fiscal year
ended December 31, 1996 to the fiscal year ended December 31, 1997 was due
primarily to an increase in the net interest margin and the one-time special
Savings Association Insurance Fund (SAIF) assessment in 1996. The decrease from
the fiscal year ended December 31, 1997 to the fiscal year ended December 31,
1998 was due primarily to two factors: an increase in losses on the sale and
writedown of other real estate owned of $560,000 and a $240,000 increase in the
provision for loan losses.

INTEREST REVENUE. Interest income on loans and securities increased
approximately $1.1 million from the fiscal year ended December 31, 1996 to the
fiscal year ended December 31, 1997. Interest income on loans and securities
decreased by approximately $600,000 from the fiscal year ended December 31, 1997
to the fiscal year ended December 31, 1998. The increase from fiscal year 1996
to fiscal year 1997 was due primarily to an increase in the average yield on
mortgage loans, from approximately 8.7% to 9.1%, compounded by an increase in
the average balance of loans and securities outstanding of approximately $3.7
million. The decrease from fiscal year 1997 to fiscal year 1998 was primarily
due to a decrease in the average balance of loans and securities outstanding of
approximately $5.2 million.

Other interest increased approximately $100,000 from the fiscal year ended
December 31, 1996 to the fiscal year ended December 31, 1997. Other interest
increased approximately $670,000 from the fiscal year ended 1997 to the fiscal
year 1998. The increase from the fiscal year 1996 to fiscal year 1997 was due
primarily to an increase in the average balance of interest-bearing deposits in
other banks of approximately $2.1 million. The increase from fiscal year 1997 to
fiscal year 1998 was due primarily to an increase in the average balance of
interest-bearing deposits in other banks of approximately $12.4 million.

INTEREST EXPENSE. Interest expense on deposits increased approximately $550,000
from the fiscal year ended December 31, 1996 to the fiscal year ended December
31, 1997. Interest expense on deposits increased approximately $350,000 from the
fiscal year ended December 31, 1997 to the fiscal year ended December 31, 1998.
The increase from fiscal year 1996 to fiscal year ended December 31, 1997 was
due primarily to an increase in the average balance outstanding of approximately
$11.0 million. The increase from fiscal year 1997 to fiscal year 1998 was due
primarily to an increase in the average balance outstanding of approximately
$7.0 million.

Interest expense on borrowed funds decreased approximately $90,000 from the
fiscal year ended December 31, 1996 to the fiscal year ended December 31, 1997.
Interest expense on borrowed funds decreased approximately $5,000 from the
fiscal year ended December 31, 1997 to the fiscal year ended December 31, 1998.
The decrease 



                                       6
<PAGE>   7

from fiscal year 1996 to fiscal year 1997 was due primarily to a decrease in the
average balance of borrowed funds of approximately $1.5 million. The decrease
from fiscal year 1997 to fiscal year 1998 was due primarily to a decrease in the
average balance outstanding of approximately $120,000.

PROVISIONS FOR LOAN LOSSES. Provisions for loan losses are based on management's
analysis of the various factors that affect the loan portfolio and management's
desire to maintain the allowance for loan losses at a level considered adequate
to provide losses. The provisions for losses on loans were $265,000, $400,000,
and $637,000 for the fiscal years ended December 31, 1996, 1997, and 1998,
respectively. The increase from fiscal year 1997 to fiscal year 1998 was due
primarily to overall loan portfolio growth and a shift from principally
single-family mortgage lending to a greater emphasis on commercial,
construction, and consumer lending, which entails greater credit risk and
increased charge-offs incurred by the Company. Charge-offs increased by $290,000
for the fiscal year ended December 31, 1998, from $428,000 in 1997 to $718,000
in 1998.

Management reviews the adequacy of the allowance for loan losses on a continuous
basis by assessing the quality of the loan portfolio and adjusting the allowance
when appropriate. Procedures have been established to ensure that potential
problem loans are identified and include a continuous review of the portfolio.

Management's evaluation of each loan includes a review of the financial
condition and capacity of the borrower, the value of the collateral, current
economic trends, historical losses, workout and collection arrangements, and
possible concentrations of credit. The loan review process also includes a
collective evaluation of credit quality within the mortgage and installment loan
portfolios. In establishing the allowance, loss percentages are applied to
groups of loans with similar risk characteristics. These loss percentages are
determined by historical experience, portfolio mix, and other economic factors.
Each quarter this review is quantified in a report to management, which uses it
to determine whether an appropriate allowance is being maintained. This report
is then submitted to the Board of Directors and to the appropriate Board
committee quarterly. Total nonaccural loans, which include loans on nonaccrual
status and loans 120 days past due, were approximately $2.0 million and $1.2
million at December 31, 1997 and 1998, respectively.

NONINTEREST INCOME. Noninterest income, which includes fees and charges on
deposit accounts and existing loans, service fee income on loans, income on real
estate operations, and gain (loss) on sale of assets increased approximately
$25,000 from the fiscal year ended December 31, 1996 to the fiscal year ended
December 31, 1997. Other noninterest income decreased approximately $299,000
from the fiscal year ended December 31, 1997 to the fiscal year ended December
31, 1998. The increase from fiscal year 1996 to fiscal year 1997 was due
primarily to an increase on the gain on sale of mortgage loans, an increase in
fees and service charges on deposit accounts. This was offset by a decrease in
service fees income and fees and charges on loans and real estate operations,
net. The decrease from fiscal year 1997 to fiscal year 1998 was due primarily to
an increase on loss on the sale of other real estate owned of approximately
$564,000, a decrease on real estate operations, net of approximately $39,000, a
decrease in service fee income of approximately $23 ,000 as well as other slight
decreases in other noninterest income, and was offset by an increase in the gain
on sale of mortgage loans of approximately $331,000.

NONINTEREST EXPENSE. Noninterest expense decreased approximately $1.0 million
from the fiscal year ended December 31, 1996 to the fiscal year ended December
31, 1997. Noninterest expense increased approximately $150,000 from the fiscal
year ended December 31, 1997 to the fiscal year ended December 31, 1998. The
decrease in noninterest expense from fiscal year 1996 to fiscal year 1997 was
due primarily to a decrease in FDIC insurance premiums. The increase from fiscal
year 1997 to fiscal year 1998 was due to an increase in compensation expense of
approximately $100,000, an increase in occupancy expense of approximately
$14,000, an increase in FDIC premiums of approximately $20,000 and an increase
on other expenses of approximately $56,000, and was offset by a decrease in
marketing and professional expense of approximately $40,000.

LIQUIDITY AND CAPITAL RESOURCES

LIQUIDITY. Liquidity refers to the ability or the financial flexibility to
manage future cash flows to meet the needs of depositors and borrowers and to
provide funds for operations, as well as future acquisitions if they become
available. Maintaining appropriate levels of liquidity allows the Company to
have sufficient funds available for reserve requirements, customer demand for
loans, withdrawal of deposit balances and maturities of deposits and



                                       7
<PAGE>   8

other liabilities. The Company's primary source of liquidity is dividends paid
by the Bank, which actively manages both assets and liabilities to achieve its
desired level of liquidity. Alabama law imposes restrictions on the amount of
dividends that may be declared by the Bank. Further, any dividend payment by the
Bank is subject to the continuing ability of the Bank to maintain compliance
with federal regulatory capital requirements. See "Market Price and Dividend
Information" and Note 12 of Notes to Consolidated Financial Statements.

In the ordinary course of its business, the Company's primary sources of cash
are interest and fee income, in addition to loan repayments and the maturity of
sales of other earning assets including investment securities. The entire
investment portfolio at December 31, 1998, was classified as available for sale,
with a fair value of $40.4 million. See Note 2 of Notes to Consolidated
Financial Statements. At December 31, 1998, liquid assets, consisting primarily
of cash on hand, interest-bearing deposits in other banks and short-term
investments totaled approximately $75.5 million, compared to $52.5 million at
December 31, 1997. This increase of $23.0 million was primarily attributable to
the decrease in the loan portfolio and the increase in deposits during 1998.

The Bank's liability base provides liquidity through deposit growth, the
rollover of maturing deposits and accessibility to external sources of funds,
including borrowings from the FHLB of Atlanta and other sources. At December 31,
1998, the Bank had an approved credit availability of $29.0 million at the FHLB
of Atlanta and no advances outstanding.

CAPITAL RESOURCES. The Company's capital position is reflected in its
stockholders' equity, subject to certain adjustments for regulatory purposes.
Stockholders' equity is a measure of the Company's net worth, soundness and
viability. The capital base of the Company allows it and the Bank to take
advantage of business opportunities, while maintaining a level of resources
deemed appropriate by management to address business risks inherent in daily
operations. Stockholders' equity at December 31, 1998 was approximately $17.6
million.

Risk-based capital regulations adopted by the Board of Governors of the Federal
Reserve Board and the FDIC require bank holding companies and banks,
respectively, to achieve and maintain specified ratios of capital to
risk-weighted assets. The risk-based capital rules are designed to measure Tier
1 Capital and Total Capital in relation to the credit risk of both on- and
off-balance sheet items. Under the guidelines, one of four risk weights is
applied to the different on-balance sheet items. Off-balance sheet items, such
as loan commitments, are also subject to risk-weighting after conversion to
balance sheet equivalent amounts. All bank holding companies and banks must
maintain a minimum total capital to total risk-weighted assets ratio of 8.00%,
at least half of which must be in the form of core, or Tier 1, capital
(consisting of stockholders' equity, less goodwill). At December 31, 1998, the
Company and the Bank satisfied its minimum regulatory capital requirement and
was "well-capitalized" within the meaning of federal regulatory requirements.
See Note 12 of Notes to Consolidated Financial Statements.

IMPACT OF INFLATION

Virtually all of the assets and liabilities of a financial institution are
monetary in nature. As a result, interest rates have a more significant impact
on a financial institution's performance than the effects of general levels of
inflation. Interest rates do not necessarily move in the same direction or with
the same magnitude as the prices of goods and services, since such prices are
affected by inflation. In the current interest rate environment, liquidity and
the maturity structure of the Bank's assets and liabilities are believed to be
critical to the maintenance of desired performance levels. Management considers
the Bank's liquidity sources to be adequate to meet its current and projected
needs.

SAIF RECAPITALIZATION

The FDIC Board of Directors approved a rule that established the special
assessment necessary to recapitalize the SAIF as of March 31, 1995. The
legislation provided that all SAIF member institutions pay a special one time
assessment to recapitalize SAIF, which in the aggregate is sufficient to bring
the reserve ratio in SAIF to 1.25% of insured deposits. Based upon its level of
SAIF deposits as of March 31, 1995, the Bank's special assessment paid and
expensed during the year ended December 31, 1996 was $1,011,000. 



                                       8
<PAGE>   9

YEAR 2000 RISK ASSESSMENT AND ACTION PLAN

The Company is aware of the current concerns throughout the business community
of reliance upon computer software that does not properly recognize the Year
2000 in date formats, often referred to as the "Year 2000 Problem." The Year
2000 Problem is the result of software being written using two digits rather
than four digits to define the applicable year (i.e., "98" rather than "1998").
A failure by a business to properly identify and correct a Year 2000 Problem in
its operations could result in system failures or miscalculations. In turn, this
could result in disruptions of operations, including among other things, a
temporary inability to process transactions, or otherwise engage in routine
business transactions on a day-to-day basis.

Operations of the Company depend upon the successful operation on a daily basis
of its computer software programs. The Company relies upon software purchased
from third-party vendors rather than internally generated software. In its
analysis of the software, and based upon its ongoing discussions with these
vendors, a plan of action has been put in place by the Company to minimize its
risk exposure to the Year 2000 Problem.

As part of the plan, an oversight management committee has been set up to
monitor vendor compliance, and identify systems and equipment crucial to the
Company's operation. These systems are being tested to assure they will be able
to handle the Year 2000 event, thus minimizing risk to the Company.

The Bank has modified its credit risk assessment to include consideration of
incremental risk that may be faced by the inability of customers to address the
Year 2000 Problem. The Company has developed policies and procedures to help
identify potential customers related risks, and to gain a better understanding
of how its customers are managing their own risks associated with the Year 2000
problem.

The Company estimates the Year 2000 cost to be approximately $120,000. The
Company expensed approximately $7,000 during fiscal year ended December 31,
1998. The remaining Year 2000 cost will be expensed by June 30, 1999.

NEW ACCOUNTING PRONOUNCEMENTS

See Note 1 of Notes to Consolidated Financial Statements.



                                       9
<PAGE>   10

                      MARKET PRICE AND DIVIDEND INFORMATION


The common stock of the Company is traded on the American Stock Exchange under
the symbol "PLE". As of December 31,1998, the Company had 1,789,586 shares of
common stock outstanding and 434 stockholders of record. This total does not
reflect the number of persons or entities who hold stock in nominee or "street
name" through various brokerage firms.

Following are the high and low sale prices of the Company's common stock for the
periods indicated:

<TABLE>
<CAPTION>
                                                                                  PRICE RANGE
                                                                                  COMMON STOCK
                                                                           -------------------------
                                                                              HIGH           LOW
                                                                           ----------     ----------

                 <S>                                                       <C>            <C>
                 Fiscal Year Ended December 31, 1997:     
                     First quarter                                         $   11-1/8     $   10-3/4
                     Second quarter                                            11-7/8         10-5/8
                     Third quarter                                             16-5/8         13
                     Fourth quarter                                            18-3/4         16-7/16

                 Fiscal Year Ended December 31, 1998:
                     First quarter                                         $   17-3/4     $   15-5/8
                     Second quarter                                            16-1/2         15-1/4
                     Third quarter                                             13-1/2         11-1/2
                     Fourth quarter                                            12             11-1/2
</TABLE>


Dividends of $.40 ($.10 in each of the four quarters) were declared and paid
during each of fiscal year 1998 and 1997. Under Alabama law, the approval of the
Superintendent of Banks of the State of Alabama is required if the total of all
the dividends declared by the Bank in any calendar year exceeds the Bank's net
income as defined for that year combined with its retained net income for the
preceding two calendar years. Federal law provides that no insured depository
institution may make any capital distribution (including a cash dividend) if the
institution would not satisfy one or more of its minimum capital requirements
after the distribution.



                                       10
<PAGE>   11

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS



To Pinnacle Bancshares, Inc.:

We have audited the accompanying consolidated statements of financial condition
of Pinnacle Bancshares, Inc. (a Delaware corporation) and subsidiary as of
December 31, 1997 and 1998, and the related consolidated statements of
operations, stockholders' equity, and cash flows for each of the years in the
three-year period ended December 31, 1998.

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 condition of Pinnacle
Bancshares, Inc. and subsidiary as of December 31, 1997 and 1998, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1998, in conformity with generally accepted
accounting principles.


                                          ARTHUR ANDERSEN LLP



Birmingham, Alabama
February 12, 1999



                                       11
<PAGE>   12

                            PINNACLE BANCSHARES, INC.

                 CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

                           DECEMBER 31, 1997 AND 1998

<TABLE>
<CAPTION>
                                                                               1997                   1998
                                                                           ------------           ------------

<S>                                                                        <C>                    <C> 
ASSETS:
    Cash on hand and in banks                                              $  2,747,482           $  3,960,991
    Interest-bearing deposits in other banks                                  4,873,353             30,845,417
    Securities available for sale                                            44,423,262             40,414,788
    Accrued interest on securities and deposits                                 491,104                431,499
    Loans receivable, net of allowance for loan losses
       of ($1,234,309 and $1,200,586, respectively)                         137,676,037            128,961,641
    Loans held for sale, at lower of cost or market                           1,857,042              2,985,698
    Other real estate owned, net                                              2,140,003              2,174,956
    Premises and equipment, net                                               5,785,279              6,648,317
    Excess cost over net assets acquired                                        469,951                429,086
    Accrued interest on loans                                                 1,079,219                954,709
    Prepaid and other assets                                                    406,296                278,412
                                                                           ------------           ------------ 
              Total assets                                                 $201,949,028           $218,085,514
                                                                           ============           ============


LIABILITIES AND STOCKHOLDERS' EQUITY:
    Deposits                                                               $179,377,212           $194,687,494
    Borrowed funds Deposits                                                   3,640,000              3,520,000
    Official checks outstanding                                                 836,383              1,140,849
    Advance payments by borrowers for taxes and insurance                       104,812                 60,725
    Other liabilities                                                         1,209,493              1,064,339
                                                                           ------------           ------------ 
                                                                            185,167,900            200,473,407
                                                                           ------------           ------------ 

COMMITMENTS AND CONTINGENCIES (NOTE 4 AND 14)

STOCKHOLDERS' EQUITY:
    Preferred stock, par value $.01 per share, no shares issued,
       100,000 authorized                                                             0                      0
    Common stock, par $.01 per share, 1,786,586 and 1,789,586
       outstanding, 2,400,000 and 10,000,000 authorized                          17,865                 17,895
    Additional paid-in capital                                                8,083,332              8,109,740
    Retained earnings                                                         8,665,499              9,453,693
    Accumulated other comprehensive income, net of tax                           14,432                 30,779
                                                                           ------------           ------------ 
    Total stockholders' equity                                               16,781,128             17,612,107
                                                                           ------------           ------------ 
              Total liabilities and stockholders' equity                   $201,949,028           $218,085,514
                                                                           ============           ============
</TABLE>


          See accompanying notes to consolidated financial statements.



                                       12
<PAGE>   13

                            PINNACLE BANCSHARES, INC.

                      CONSOLIDATED STATEMENTS OF OPERATIONS

                               FOR THE YEARS ENDED

                        DECEMBER 31, 1996, 1997, AND 1998

<TABLE>
<CAPTION>
                                                                   1996              1997               1998
                                                               ------------      ------------       ------------

<S>                                                            <C>               <C>                <C> 
INTEREST REVENUES:
    Interest on loans                                          $ 11,058,030      $ 12,546,254       $ 12,217,381
    Interest and dividends on securities                          3,400,564         2,991,456          2,717,566
    Other interest                                                  221,265           319,952            986,139
                                                               ------------      ------------       ------------
                                                                 14,679,859        15,857,662         15,921,086
INTEREST EXPENSE:
    Interest on deposits                                          8,145,842         8,695,821          9,049,314
    Interest on borrowed funds                                      296,720           207,317            201,961
                                                               ------------      ------------       ------------
                                                                  8,442,562         8,903,138          9,251,275
                                                               ------------      ------------       ------------
NET INTEREST INCOME BEFORE PROVISION FOR LOAN LOSSES              6,237,297         6,954,524          6,669,811
PROVISION FOR LOAN LOSSES                                           265,000           400,000            637,000
                                                               ------------      ------------       ------------

NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES               5,972,297         6,554,524          6,032,811
                                                               ------------      ------------       ------------
NONINTEREST INCOME:
    Fees and service charges on deposit accounts                    385,775           407,042            401,765
    Service fee income, net                                         260,148           236,590            213,614
    Fees and charges on loans                                       270,731           233,901            237,891
    Real estate operations, net                                     149,763           110,256             71,731
    Net gain (loss) on sale or write down of:
       Loans held for sale                                          255,718           359,575            690,311
       Real estate owned                                             11,911             7,975           (555,553)
       Securities available for sale                                   (234)            1,276                 --
    Other income                                                      1,078             3,227                696
                                                               ------------      ------------       ------------
                                                                  1,334,890         1,359,842          1,060,455
                                                               ------------      ------------       ------------
    NONINTEREST EXPENSE:
    Compensation and benefits                                     2,243,311         2,570,730          2,671,066
    Occupancy                                                     1,024,807         1,015,553          1,029,451
    FDIC insurance premiums                                       1,472,231            90,126            109,870
    Marketing and professional                                      241,838           182,938            143,007
    Legal                                                            41,967            42,064             42,098
    Other                                                           685,194           761,876            817,598
                                                               ------------      ------------       ------------
                                                                  5,709,348         4,663,287          4,813,090
                                                               ------------      ------------       ------------
EARNINGS BEFORE INCOME TAX                                        1,597,839         3,251,079          2,280,176

INCOME TAX EXPENSE                                                  613,370         1,188,210            778,055
                                                               ------------      ------------       ------------
NET INCOME                                                     $    984,469      $  2,062,869       $  1,502,121
                                                               ============      ============       ============ 
BASIC EARNINGS PER SHARE
DILUTED EARNINGS PER SHARE                                     $       0.55      $       1.16       $       0.84
CASH DIVIDENDS PER SHARE                                       $       0.55      $       1.15       $       0.83
WEIGHTED AVERAGE SHARES OUTSTANDING                            $       0.36      $       0.40       $       0.40
WEIGHTED AVERAGE DILUTED SHARES                                   1,779,648         1,780,675          1,780,116
                                                                  1,779,648         1,795,100          1,804,779
                                                               ============      ============       ============
</TABLE>


          See accompanying notes to consolidated financial statements.



                                       13
<PAGE>   14

                            PINNACLE BANCSHARES, INC.

                 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

              FOR THE YEARS ENDED DECEMBER 31, 1996, 1997, AND 1998

<TABLE>
<CAPTION>
                                                                                                                               
                                                                                                   
                                                                          Common Stock            Additional                  
                                                                    -------------------------      Paid-in         Retained   
                                                                     Shares         Amount         Capital         Earnings  
                                                                    ---------    ------------    ------------    ------------

<S>                                                                 <C>          <C>             <C>             <C> 
BALANCE, December 31, 1995                                          1,864,000    $     18,640    $  8,366,717    $  6,972,387  
 Comprehensive Income:
    Net earnings for the year ended December 31, 1996                       0               0               0         984,469    
    Change in unrealized gain (loss) on securities available
          for sale, net                                                     0               0               0               0    
       Comprehensive Income                                           
    Cash dividends ($.36 per share)                                         0               0               0        (641,674)
                                                                    ---------------------------------------------------------   
BALANCE, December 31, 1996                                          1,864,000          18,640       8,366,717       7,315,182    
    Comprehensive Income:
    Net earnings for the year ended December 31, 1997                       0               0               0       2,062,869    
      Change in unrealized gain (loss) on securities available
          for sale, net                                                
        Comprehensive Income                                        
    Cash dividends ($.40 per share)                                         0               0               0        (712,552)   
    Exercise of stock options                                           6,940              69          61,088               0    
    Retirement of treasury stock upon formation of
       Holding Company                                                (84,354)           (844)       (344,473)              0    
                                                                    ---------------------------------------------------------   
BALANCE, December 31, 1997                                          1,786,586          17,865       8,083,332       8,665,499    
    Comprehensive Income:
    Net earnings for the year ended December 31, 1998                       0               0               0       1,502,121    
    Change in unrealized gain (loss) on securities available
         for sale, net                                                      0               0               0               0    
       Comprehensive Income                                         
    Cash dividends ($.40 per share)                                         0               0               0        (713,927)   
    Exercise of stock options                                           3,000              30          26,408               0 
                                                                    ---------------------------------------------------------      
BALANCE, December 31, 1998                                          1,789,586    $     17,895    $  8,109,740    $  9,453,693
                                                                    =========================================================
</TABLE>
<TABLE>
<CAPTION>
   
                                                                                  Accumulated              
                                                                                     Other          Total
                                                                   Treasury      Comprehensive   Stockholders'
                                                                     Stock          Income          Equity
                                                                 ------------    ------------    ------------

<S>                                                              <C>             <C>             <C> 
BALANCE, December 31, 1995                                       $   (345,317)   $    115,889    $ 15,128,316   
 Comprehensive Income:                                                                                          
    Net earnings for the year ended December 31, 1996                       0               0         984,469   
    Change in unrealized gain (loss) on securities available                                                    
          for sale, net                                                     0        (186,411)       (186,411)  
       Comprehensive Income                                                                           798,058          
    Cash dividends ($.36 per share)                                         0               0        (641,674) 
                                                                 --------------------------------------------
BALANCE, December 31, 1996                                           (345,317)        (70,522)     15,284,700   
    Comprehensive Income:                                                                                       
    Net earnings for the year ended December 31, 1997                       0               0       2,062,869   
      Change in unrealized gain (loss) on securities available                                                  
          for sale, net                                                                84,954          84,954        
        Comprehensive Income                                                                        2,147,823                   
    Cash dividends ($.40 per share)                                         0               0        (712,552)  
    Exercise of stock options                                               0               0          61,157   
    Retirement of treasury stock upon formation of                                                              
       Holding Company                                                345,317               0               0   
                                                                 --------------------------------------------
BALANCE, December 31, 1997                                                  0          14,432      16,781,128   
    Comprehensive Income:                                                                                       
    Net earnings for the year ended December 31, 1998                       0               0       1,502,121   
    Change in unrealized gain (loss) on securities available                                                    
         for sale, net                                                      0          16,347          16,347   
       Comprehensive Income                                                                         1,518,468            
    Cash dividends ($.40 per share)                                         0               0        (713,927)  
    Exercise of stock options                                               0               0          26,438  
                                                                 -------------------------------------------- 
BALANCE, December 31, 1998                                       $          0    $     30,779    $ 17,612,107
                                                                 ============================================
</TABLE>

                                                                 
          See accompanying notes to consolidated financial statements.



                                       14
<PAGE>   15

                            PINNACLE BANCSHARES, INC.

                 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
              FOR THE YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998

<TABLE>
<CAPTION>
                                                                                       1996             1997             1998
                                                                                   -------------    -------------    -------------

<S>                                                                                <C>              <C>              <C> 
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
    Net earnings                                                                   $     984,469    $   2,062,869    $   1,502,121
    Adjustment to reconcile net earnings to net cash flows provided by (used in)
       operating activities:
       Depreciation                                                                      502,890          437,453          470,427
       Provision for losses on loans                                                     285,000          400,000          637,000
       Provision (benefits) for deferred taxes                                            19,585          (13,098)        (366,910)
    Net (gain) loss on sale and writedown of:
       Loans held for sale                                                              (255,718)        (359,575)        (690,311)
       Securities available for sale                                                         234           (1,276)               0
       Real estate owned                                                                 (11,911)          (7,975)         555,533
    Amortization, net                                                                    (80,890)        (375,488)        (367,383)
    Proceeds from sale of loans                                                       31,030,932       32,690,234       60,270,699
    Loans originated for sale                                                        (33,068,003)     (32,745,301)     (59,708,591)
    Decrease (increase) in accrued interest receivable                                    48,793          (50,194)         184,115
    Decrease (increase) in prepaid and other assets                                     (134,675)        (136,900)         168,749
    Increase (decrease) in other liabilities                                             254,912          (71,548)         168,975
                                                                                   -------------    -------------    -------------
              Net cash provided by (used in) operating activities                       (424,382)       1,829,201        2,824,424
                                                                                   -------------    -------------    -------------
CASH FLOWS PROVIDED BY (USED IN) INVESTING ACTIVITIES:
    Principal collected on loans and securities                                       75,190,309       87,426,406      100,013,446
    Loans originated for portfolio                                                   (78,505,069)     (93,374,369)     (89,578,900)
    Loans purchased for portfolio                                                     (1,796,692)               0                0
    Net change in interest bearing deposits at other banks                             3,280,302       (1,004,689)     (25,972,064)
    Purchase of securities available for sale                                        (21,034,609)      (8,030,964)     (25,000,000)
    Proceeds from sale of securities                                                  14,002,109        1,194,724                0
    Proceeds from callable securities                                                          0                0        8,212,289
    Proceeds from maturing securities                                                 10,966,612        8,010,000       16,000,000
    Purchase of premises and equipment                                                (1,709,831)      (1,045,742)      (1,333,465)
    Proceeds from sale of premises and equipment                                          41,440                0                0
    Proceeds from sale of real estate                                                    819,736          534,124        1,240,520
                                                                                   -------------    -------------    -------------
                 Net cash provided by (used in) investing activities                   1,254,307       (6,290,510)     (16,418,174)
                                                                                   -------------    -------------    -------------
CASH FLOWS USED IN FINANCING ACTIVITIES:
    Net (increase) decrease in passbook, NOW, and money market deposit accounts         (167,735)         642,744        4,913,674
    Proceeds from sales of time deposits                                              28,342,280       35,186,606       39,317,362
    Payments from maturing time deposits                                             (18,203,399)     (29,859,239)     (28,920,754)
    Proceeds from borrowed funds                                                       6,250,000                0                0
    Payments on borrowed funds                                                       (16,350,000)        (110,000)        (120,000)
    Increase (decrease) in official checks and advance payments by borrowers
        for taxes and insurance                                                          307,992         (879,321)         304,466
    Proceeds from stock options exercised                                                      0           61,157           26,438
    Payments of dividends                                                               (641,674)        (712,552)        (713,927)
                                                                                   -------------    -------------    -------------
                 Net cash provided by (used in) financing activities                    (462,536)       4,329,395       14,807,259
                                                                                   -------------    -------------    -------------
NET INCREASE (DECREASE) IN CASH                                                          367,389         (131,914)       1,213,509

CASH AT BEGINNING OF PERIOD                                                            2,512,007        2,879,396        2,747,482
                                                                                   -------------    -------------    -------------
CASH AT END OF PERIOD                                                              $   2,879,396    $   2,747,482    $   3,960,991
                                                                                   =============    =============    =============
SUPPLEMENTAL DISCLOSURES:
    Cash payments for interest on deposits and borrowed funds                      $   8,427,805    $   8,878,245    $   9,281,566
    Cash payments for income taxes                                                       547,393        1,327,844          837,207
    Other real estate owned transferred to mortgage loans, net                                 0                0          934,107
    Real estate acquired through foreclosure                                             849,594        1,296,928        2,765,113
</TABLE>


           See accompanying notes to consolidated financial statements



                                       15
<PAGE>   16

                            PINNACLE BANCSHARES, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                           DECEMBER 31, 1997 AND 1998



1.       SUMMARY OF  SIGNIFICANT ACCOUNTING POLICIES

         Following is a description of the more significant accounting policies
         followed by Pinnacle Bancshares, Inc. (the "Company") and Pinnacle Bank
         (the "Bank") in presenting the consolidated financial statements.

         ORIGINATION AND NATURE OF OPERATIONS

         On January 29, 1997, the stockholders of the Bank held a special
         meeting whereby they approved an Agreement and Plan of Reorganization
         and Conversion dated October 9, 1996. Pursuant to such Agreement, on
         January 31, 1997, the Bank converted from a federal stock savings bank
         to an Alabama-chartered commercial bank and the corporate structure of
         the Bank was reorganized into the holding company form of ownership.
         The Bank became a subsidiary of the newly formed bank holding company,
         Pinnacle Bancshares, Inc.

         The Bank is primarily in the business of obtaining funds in the form of
         various savings deposit products and investing those funds in mortgage
         loans, consumer, and commercial loans. The Bank operates in five
         offices in the central and northwest portion of Alabama, and originates
         its loans in this market area.

         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 and disclosures of contingent assets and liabilities at the
         date of the financial statements and the reported amounts of revenue
         and expenses during the reporting period. Actual results may differ
         from those estimates. The primary estimates that are reflected in the
         financial statements are the valuation allowances for loan losses and
         real estate owned.

         CONSOLIDATION

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

         SECURITIES

         Securities are classified as available for sale and are carried at fair
         value. The unrealized difference between amortized cost and fair value
         on securities available for sale is excluded from earnings and is
         reported net of deferred taxes as a separate component of stockholders'
         equity, other comprehensive income. The available for sale category
         includes securities that Management intends to use as part of its
         asset/liability management strategy or that may be sold in response to
         changes in interest rates, changes in prepayment risk, liquidity needs,
         or for other purposes. Included in securities available for sale is
         stock in the Federal Home Loan Bank, which is carried at cost.

         Amortization of premiums and accretion of discounts are computed using
         the level yield method. The adjusted cost of the specific security sold
         is used to compute gain or loss on the sale of securities.



                                       16
<PAGE>   17

         MARKET RISK MANAGEMENT

         Market risk is a risk of loss arising from adverse changes in market
         prices and rates. The Company's market risk is comprised primarily of
         interest rate risk created by its lending and deposit taking
         activities. Management addresses this risk through an active
         Asset/Liability Management process and through management of loan and
         investment portfolio maturities and repricing.

         LOANS RECEIVABLE

         Loans receivable are stated at their unpaid principal balance, less the
         undisbursed portion of loans, unearned interest income, net of deferred
         loan fees, and an allowance for loan losses. Unearned interest on
         consumer loans is amortized to income by use of a method which
         approximates level yield over the lives of the related loans. Loans
         that are 120 days contractually past due generally are placed on
         nonaccrual status, and uncollected accrued interest is reversed. Income
         is subsequently recognized only to the extent that cash payments are
         received until, in management's judgment, the borrower's ability to
         make interest and principal payments has been demonstrated, in which
         case the loan is returned to accrual status.

         ALLOWANCE FOR LOAN LOSSES

         The allowance for loan losses is maintained at a level which management
         considers to be adequate to absorb losses inherent in the loan
         portfolio. Management's estimation of the amount of the allowance is
         based on a continuing evaluation of the loan portfolio and includes
         such factors as economic conditions, analysis of individual loans,
         overall portfolio characteristics, and delinquencies. Changes in the
         allowances can result from changes in economic events or changes in the
         creditworthiness of the borrowers. The effect of these changes is
         reflected when known.

         LOANS HELD FOR SALE

         Loans held for sale are carried at the lower of aggregate amortized
         cost or fair value as such loans are not intended to be held to
         maturity. Net unrealized losses measured in the aggregate are
         recognized in a valuation allowance by charges to income. There were no
         unrealized losses at December 31, 1997 or 1998.

         LOAN ORIGINATION FEES, LOAN COMMITMENT FEES AND PREMIUMS AND DISCOUNTS

         Loan fees, net of certain direct costs of loan originations, are
         treated as an adjustment to the yield of the related loans over the
         contractual term of the loan adjusted for prepayments as they occur.
         Loan commitment fees are recognized into income upon expiration of the
         commitment period or sale of the loan, unless the commitment results in
         the loans being funded and maintained in the loan portfolio.

         LOAN SALES

         Gains or losses on loan sales are recognized at the time of sale and
         determined by the difference between net sales proceeds and the
         carrying value of the loan sold.

         OTHER REAL ESTATE OWNED

         Other real estate owned acquired through foreclosure is carried at the
         fair value of the foreclosed property, less estimated costs of
         disposition at the date of foreclosure. Any excess of the recorded
         investment over fair value, less estimated cost of disposition of the
         property is charged to the allowance for loan losses at the time of
         foreclosure. Subsequent to foreclosure, real estate owned is evaluated
         on an individual basis for changes in fair value. Declines in fair
         value of the asset, less cost of disposition below its carrying amount
         require an increase in the valuation allowance account. Future
         increases in fair value of the asset, less cost of disposition, may
         cause a reduction the valuation allowance account, but not below zero.
         Increases or decreases in the valuation allowance account are charged
         or credited to income. Cost relating to the



                                       17
<PAGE>   18

         development and improvement of property are capitalized, whereas costs
         relating to the holding of property are expensed.

         The recognition of gains and losses on the sale of real estate is
         dependent upon whether the nature and terms of the sale and future
         involvement of the Bank in the property meet certain requirements. If
         the transaction does not meet these requirements, income recognition is
         deferred and recognized under an alternative method in accordance with
         Statement of Financial Accounting Standards ("SFAS") No. 66, Accounting
         for Sales of Real Estate.

         PREMISES AND EQUIPMENT

         Land is carried at cost. Premises and equipment are stated at cost less
         depreciation accumulated on a straight-line basis over the estimated
         service lives of the related assets (30 to 50 years for buildings, 10
         to 15 years for leasehold improvements and 3 to 10 years for
         equipment).

         EXCESS COST OVER NET ASSETS ACQUIRED

         The excess of cost over fair value of net assets acquired (goodwill)
         arose from a merger which was accounted for under the purchase method
         of accounting and is being amortized over its estimated useful life of
         20 years.

         EARNINGS PER SHARE

         Basic Earnings per share ("EPS) is computed by dividing net income by
         the weighted average number of shares outstanding during the period.
         Diluted EPS is computed in the same manner, except the number of
         weighted average shares outstanding is adjusted for the number of
         additional common shares that would have been outstanding if the
         potential common shares had been issued.

         The following table represents the earnings per share calculations for
         the years ended December 31, 1996, 1997 and 1998:

<TABLE>
<CAPTION>
                                                                       NET                          PER SHARE
                  FOR THE YEARS ENDED                                INCOME           SHARES          AMOUNT
              ----------------------------                        -----------        ---------        ------

              <S>                                                 <C>                <C>            <C> 
              December 31, 1996
                  Basic earnings per share                        $   984,469        1,779,648        $ 0.55  
                  Dilutive securities                                      --               --            -- 
                                                                  -----------        ---------        ------ 
                  Diluted earnings per share                      $   984,469        1,779,648        $ 0.55
                                                                  ===========        =========        ======  
                                                                                                              
              December 31, 1997                                                                               
                  Basic earnings per share                        $ 2,062,869        1,780,675        $ 1.16  
                  Dilutive securities                                      --           14,425          0.01
                                                                  -----------        ---------        ------  
                  Diluted earnings per share                      $ 2,062,869        1,795,100        $ 1.15
                                                                  ===========        =========        ======  
                                                                                                              
              December 31, 1998                                                                               
                  Basic earnings per share                        $ 1,502,121        1,780,116        $ 0.84  
                  Dilutive securities                                      --           24,663          0.01 
                                                                  -----------        ---------        ------ 
                  Diluted earnings per share                      $ 1,502,121        1,804,779        $ 0.83
                                                                  ===========        =========        ======
</TABLE>
  


                                       18
<PAGE>   19

         NEW ACCOUNTING PRONOUNCEMENTS

         In June 1997, the FASB issued SFAS No. 131, Disclosures about Segments
         of an Enterprise and Related Information. This Statement establishes
         standards for the way that public business enterprise report
         information about certain operating segments in annual financial
         statements and require that those enterprises report selected
         information about certain operating segments in interim financial
         reports to stockholders. This Statement was effective for fiscal year
         1998. The Corporation's principal activities did not constitute
         separate reportable segments of its business as defined in SFAS No.
         131, but encompassed traditional banking activities which offered
         similar products and services within the same primary geographic area
         and regulatory and economic environment. Therefore the Statement had no
         impact on the financial presentation of the Company.

         In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
         Instruments and Hedging Activities. This Statement establishes
         accounting and reporting standards for derivative instruments embedded
         in other contracts (collectively referred to as derivatives) and for
         hedging activities. It requires that an entity recognize all
         derivatives as either assets or liabilities in the statement of
         financial position and measure those instruments at fair value. This
         Statement is effective as of the beginning of fiscal years ending after
         June 15, 1999. Management is in the process of assessing the impact of
         this Statement on the presentation of the Company's financial condition
         and results of operation.

         In October 1998, the FASB issued SFAS No. 134, Accounting for
         Mortgage-Backed Securities Retained After the Securitization of
         Mortgage Loans Held for Sale by a Mortgage Banking Enterprise. This
         Statement, an amendment to SFAS No. 65, requires that after the
         securitization of mortgage loans held for sale, an entity engaged in
         mortgage banking activities classify the resulting mortgage-backed
         securities or other retained interests based on its ability to sell or
         hold those investments. The Company adopted the provisions of this
         Statement on January 1, 1999; however, based on the Company's current
         operating activities, management does not believe that adoption of this
         Statement will have a material impact on the presentation of the
         Company's financial condition or results of operation.


2.       SECURITIES

         The amortized cost, unrealized gross gains and losses, and approximate
         fair value of securities available for sale at December 31, 1997 and
         1998 are as follows:

<TABLE>
<CAPTION>
                                                                                  December 31, 1997
                                                             ------------------------------------------------------------
                                                              Amortized       Unrealized     Unrealized          Fair
                                                                 Cost         Gross Gain     Gross Loss          Value
                                                             -----------      ----------     ----------       -----------

     <S>                                                     <C>              <C>            <C>              <C>  
     U.S. Treasury Securities                                $12,011,022       $ 28,794      $    (837)       $12,038,979
     Securities of U.S. Government Agencies                    9,018,762         23,011        (24,972)         9,016,801
     Federal Home Loan Bank Stock                              1,519,800              0              0          1,519,800
     Other Securities                                            206,941              0              0            206,941
     Mortgage Backed-Securities                               21,645,142        283,659       (288,060)        21,640,741
                                                             -----------       --------      ---------        -----------
              Total                                          $44,401,667       $335,464      $(313,869)       $44,423,262
                                                             ===========       ========      =========        ===========
</TABLE>
<TABLE>
<CAPTION>

                                                                                  December 31, 1998
                                                             ------------------------------------------------------------
                                                              Amortized       Unrealized     Unrealized          Fair
                                                                 Cost         Gross Gain     Gross Loss          Value
                                                             -----------      ----------     ----------       -----------

     <S>                                                     <C>              <C>            <C>              <C>  
     U.S. Treasury Securities                                $ 4,009,635       $ 17,168      $       0        $ 4,026,803
     Securities of U.S. Government Agencies                   18,006,838         22,826        (33,859)        17,995,805
     Federal Home Loan Bank Stock                              1,472,600              0              0          1,472,600
     Other Securities                                             41,853              0              0             41,853
     Mortgage Backed-Securities                               16,837,227        200,019       (159,519)        16,877,727
                                                             -----------       --------      ---------        -----------
              Total                                          $40,368,153       $240,013      $(193,378)       $40,414,788
                                                             ===========       ========      =========        ===========
</TABLE>
   


                                       19
<PAGE>   20

         At December 31, 1998, the amortized cost of the Bank's securities
         available for sale maturing in one year or less was $6,488,954, with
         fair values of $6,490,549; maturing one year through five years was
         $17,000,119 with fair values of $17,004,748; maturing five years
         through ten years was $3,600,381 with fair values of $3,676,611 after
         ten years was $13,278,699 with fair values of $13,242,880.

         Securities carried at approximately $23,681,000 at December 31,1998
         were pledged to secure deposits.


3.       LOANS RECEIVABLE

         Loans receivable, net, are summarized as follows:

<TABLE>
<CAPTION>
                                                                                  DECEMBER 31,         DECEMBER 31,
                                                                                      1997                 1998
                                                                                  ------------         ------------

         <S>                                                                      <C>                  <C>  
         Real estate mortgage loans with variable rates                           $ 50,322,445         $ 40,515,083
         Real estate mortgage loans with fixed rates                                43,994,958           46,441,117
         Real estate construction loans                                             30,746,055           32,262,624
         Commercial loans                                                           14,298,567           12,247,791
         Consumer loans                                                              8,844,588           10,069,415
                                                                                  ------------         ------------
                                                                                   148,206,613          141,536,030
         Allowance for loan losses                                                  (1,234,309)          (1,200,586)
         Loans in process                                                           (9,082,657)         (11,143,030)
         Other unearned credits                                                       (213,610)            (230,773)
                                                                                  ------------         ------------
                                                                                  $137,676,037         $128,961,641
                                                                                  ============         ============
</TABLE>

         During fiscal years 1997 and 1998 certain executive officers and
         directors of the Bank and its subsidiaries were loan customers of the
         Bank. Total loans outstanding to these persons at December 31, 1997 and
         1998 amounted to $424,663 and $426,811 respectively. The change from
         December 31, 1997 to December 31, 1998 reflects payments amounting to
         $281,710 and advances of $283,858 made during the year.

         The Bank has a credit concentration in residential real estate mortgage
         loans. Approximately $93,000,000 and $86,000,000 at December 31, 1997
         and 1998, respectively, of the Bank's total loan portfolio represented
         first or second mortgage residential real estate loans. Substantially
         all of the Bank's loan customers are located in the Bank's primary
         lending areas of Walker, Winston, Jefferson, and Shelby Counties in
         Alabama. Although the Bank has generally conservative underwriting
         standards, including a policy calling for low loan to collateral
         values, the ability of its borrowers to meet their mortgage obligations
         is dependent upon local economic conditions.

         A reconciliation of the allowance for losses on loans is as follows:

<TABLE>
<CAPTION>


                                                                                  For the Years Ended
                                                                     ---------------------------------------------
                                                                        1996              1997             1998
                                                                     ----------        ----------       ----------

              <S>                                                    <C>               <C>              <C> 
              Balance at beginning of year                           $1,212,193        $1,197,854       $1,234,309
              
                  Provisions for losses                                 265,000           400,000          637,000
                  Less loans charged-off, net of recoveries
                                                                       (279,339)         (363,545)        (670,723)
                                                                     ----------        ----------       ----------
              Balance at end of period                               $1,197,854        $1,234,309       $1,200,586
                                                                     ==========        ==========       ==========
</TABLE>
  


                                       20
<PAGE>   21

         The Bank was servicing first mortgage loans for others totaling
         $89,824,472 and $79,435,750 at December 31, 1997 and 1998, 
         respectively.

         At December 31, 1998, the Bank had outstanding loan commitments of
         $19,896,323, including $11,143,030 in undisbursed construction loans in
         process; $7,332,433 in unused lines and letters of credit and credit
         cards; $1,420,860 in commitments to originate mortgage loans consisting
         primarily of 30-day commitments. Commitments to originate conventional
         mortgage loans consisted of fixed-rate mortgages for which interest
         rates had not been established of $1,420,860, all having terms ranging
         from 15 to 30 years.

         The recorded investment in impaired loans at December 31, 1997 and
         December 31, 1998 was approximately $840,000 and $521,000,
         respectively. There were $60,000 and $75,000 in specific reserves on
         these loans at December 31, 1997 and 1998, respectively. The average
         recorded investment in impaired loans during the year ended December
         31, 1997 and 1998 was approximately $820,000 and $681,000,
         respectively. Interest income on impaired loans was not material for
         either period.


4.       PREMISES AND EQUIPMENT

         Premises and equipment at December 31, 1997 and 1998 are summarized as
         follows:

<TABLE>
<CAPTION>
                                                                                1997            1998
                                                                             ----------      -----------

              <S>                                                            <C>             <C> 
              Land                                                           $  826,241      $   883,230
              Buildings and leasehold improvements                            5,348,017        6,073,018
              Furniture, fixtures, and equipment                              3,134,374        3,661,202
              Automobiles                                                        88,788          101,158
                                                                             ----------      -----------
                                                                              9,397,420       10,718,608
              Less accumulated depreciation                                   3,612,141        4,070,291
                                                                             ----------      -----------
                                                                             $5,785,279      $ 6,648,317
                                                                             ==========      ===========
</TABLE>

         The Bank had noncancelable operating leases for the main and branch
         office sites. Office building and equipment expenses for the fiscal
         years ended December 31, 1996, 1997, and 1998, respectively, include
         rental expense under these leases of $97,516, $91,920, and $77,282,
         respectively. Future rental payments subject to periodic renegotiations
         required under these leases are as follows:

<TABLE>
<CAPTION>
                                AT DECEMBER 31, 1998                                    Amount
                               ----------------------                                  --------

                               <S>                                                     <C> 
                               1999                                                    $ 54,084
                               2000                                                      54,083
                               2001                                                      49,284
                               2002                                                      49,284
                               2003                                                      39,900
                               Later years                                              289,500
                                                                                       --------
                                        Total                                          $536,135
                                                                                       ========
</TABLE>


         The Bank had a lease agreement for the building in which the main
         office branch is located that generated income of $101,860, $93,277 and
         $92,946 for the fiscal years ended December 31, 1996, 1997, and 1998,
         respectively. During 1995 the Bank entered into a lease from a related
         party for a building that formerly housed administrative offices. This
         lease generated income of $41,966, $50,000, and $50,000 for the fiscal
         years ended December 31, 1996, 1997, and 1998, respectively. This lease
         for $50,000 per year expires December 31, 2001.



                                       21
<PAGE>   22

5.       DEPOSITS

         Deposits at December 31, 1997 and 1998 are summarized as follows:

<TABLE>
<CAPTION>
                                                                                      1997                1998
                                                                                  ------------        ------------

              <S>                                                                 <C>                 <C>   
              Passbook accounts                                                   $ 15,713,749        $ 15,700,157
              NOW accounts                                                          12,082,057          14,180,056
              Money Market deposit accounts                                          9,935,210          10,314,237
              Noninterest-bearing accounts                                           6,025,439           8,475,679
                                                                                  ------------        ------------
                                                                                    43,756,455          48,670,129

              Time deposits
                  Fixed rate certificates less than $100,000                        94,255,401          99,923,087
                  Fixed rate certificates greater than $100,000                     41,022,007          45,775,840
                                                                                  ------------        ------------
                                                                                   135,277,408         145,698,927
                                                                                  ------------        ------------
                  Accrued interest                                                     343,349             318,438
                                                                                  ------------        ------------
                                                                                  $179,377,212        $194,687,494
                                                                                  ============        ============
</TABLE>

         The amounts and scheduled maturities of time deposits at December 31,
         1998 are as follows:

<TABLE>
                                        <S>                                  <C>
                                        1998                                 $ 99,642,021
                                        2000                                   30,811,877
                                        2001                                   10,549,036
                                        2002                                    2,365,369
                                        2003 and thereafter                     2,330,624
                                                                             ------------
                                                                             $145,698,927
                                                                             ============
</TABLE>


         Interest expense on deposits is summarized as follows:

<TABLE>
<CAPTION>
                                                                            FOR THE YEARS ENDED DECEMBER 31,
                                                                  ---------------------------------------------------
                                                                     1996                1997                 1998
                                                                  ----------          ----------           ----------

              <S>                                                 <C>                 <C>                  <C> 
              Passbook                                            $  482,309          $  449,759           $  432,038
              NOW accounts                                           284,047             305,074              325,870
              Money Market deposit accounts                          321,396             417,427              377,751
              Time deposits                                        7,058,090           7,523,561            7,913,655
                                                                  ----------          ----------           ----------
                                                                  $8,145,842          $8,695,821           $9,049,314
                                                                  ==========          ==========           ==========
</TABLE>


6.       BORROWED FUNDS

         Borrowed funds are summarized as follows:

<TABLE>
<CAPTION>
                                                                                    1997          1998
                                                                                 ----------    ----------

              <S>                                                                <C>           <C> 
              Warrants payable, maturing March 1, 2013 with a
                  weighted-average interest rate of 5.77% at                                 
                  December 31, 1997 and 5.79% at December 31, 1998               $3,640,000    $3,520,000
                                                                                 ==========    ==========
</TABLE>



                                       22
<PAGE>   23

         The Bank has an approved credit availability of $29,000,000 at the
         Federal Home Loan Bank of Atlanta. At December 31, 1997 and 1998, the
         Bank had no advances on this line of credit. The Bank periodically
         borrowed funds on a short-term basis from the Federal Home Loan Bank of
         Atlanta. There were no Federal Home Loan Bank advances outstanding
         during fiscal years 1997 and 1998.

7.       FORECLOSED REAL ESTATE

         Activity in the allowance for losses on foreclosed real estate in as
         follows:

<TABLE>
                  <S>                                               <C> 
                  Balance at December 31, 1997                      $         0
                  Provision charged to income                           536,000
                  Charge-offs, net of recoveries                              0
                                                                    -----------
                  Balance at December 31, 1998                      $   536,000
                                                                    ===========
</TABLE>

8.       INCOME TAX EXPENSE (BENEFIT)

         Income tax expense, included in the consolidated statements of
         operations is comprised of the following:

<TABLE>
<CAPTION>
                                                                FEDERAL               STATE                TOTAL       
                                                              -----------          -----------          -----------    
                                                                                                                       
             <S>                                              <C>                  <C>                  <C>            
             Year ended December 31, 1996:                                                                             
                 Current                                      $   515,148          $    78,637          $   593,785    
                 Deferred                                          19,585                    0               19,585    
                                                              -----------          -----------          -----------    
                                                              $   534,733          $    78,637          $   613,370    
                                                              ===========          ===========          ===========    
                                                                                                                       
             Year ended December 31, 1997:                                                                             
                 Current                                      $ 1,065,889          $   135,419          $ 1,201,308    
                 Deferred                                         (11,656)              (1,442)             (13,098)   
                                                              -----------          -----------          -----------    
                                                              $ 1,054,233          $   133,977          $ 1,188,210    
                                                              ===========          ===========          ===========    
                                                                                                                       
             Year ended December 31, 1998:                                                                             
                 Current                                      $ 1,035,469          $   111,496          $ 1,146,965    
                 Deferred                                        (312,643)             (54,267)            (366,910)   
                                                              -----------          -----------          -----------    
                                                              $   722,826          $    57,229          $   780,055    
                                                              ===========          ===========          ===========    
</TABLE>                                                      
             
         Total income tax expense differs from the amount determined by
         multiplying income before income taxes by the statutory rate of 34%, as
         follows:

<TABLE>
<CAPTION>
                                                                               For the Years Ended
                                                                                   December 31,
                                                              ----------------------------------------------------
                                                                 1996                 1997                 1998
                                                              ----------           ----------           ---------- 

             <S>                                              <C>                  <C>                  <C>  
             Tax expense at federal income tax rate           $  543,265           $1,105,367           $  775,260    
             Increase (decrease) resulting from:                                                                    
                 Amortization of excess cost over net                                                               
                    assets acquired                               13,894               13,894               13,894    
                                                                                                                    
                 Other                                            56,211               68,949               (9,099)  
                                                              ----------           ----------           ---------- 
                                                              $  613,370           $1,188,210           $  780,055 
                                                              ==========           ==========           ==========
                                                                                                                    
             Effective income tax rate                                38%                  37%                  34%
                                                              ==========           ==========           ==========
</TABLE>



                                       23
<PAGE>   24

         Temporary differences between the consolidated financial statement
         carrying amounts and tax bases of assets and liabilities that give rise
         to significant portions of the deferred tax liability relate to the
         following:

<TABLE>
<CAPTION>
                                                                               December 31,      December 31,
                                                                                   1997              1998
                                                                               -----------       ----------- 

              <S>                                                              <C>               <C> 
              Book loan loss allowance                                         $   469,037       $   456,223   
              Other real estate reserves                                                 0           203,680   
              Termination of employee contracts                                     68,942            28,730   
              Litigation settlement                                                109,332            90,095   
              Loan fees                                                             35,573            21,343
                                                                               -----------       -----------      
                            Deferred tax assets                                    682,884           800,071 
                                                                               -----------       -----------      
              Premises and equipment, principally due to difference in                                         
                  depreciation                                                                                 
                                                                                  (473,337)         (480,573)  
              Tax bad debt reserve                                                (175,936)          (32,671)  
              FHLB stock dividends                                                (228,682)         (221,580)  
              Unrealized gain on securities available for sale                      (7,163)          (15,856)  
              Other, net                                                          (135,790)          (29,198)
                                                                               -----------       -----------     
                            Deferred tax liability                              (1,020,908)         (779,878) 
                                                                               -----------       -----------     
              Net deferred tax asset (liability)                               $  (338,024)      $    20,193 
                                                                               ===========       ===========
</TABLE>
  

9.       COMPENSATION AND BENEFITS

         The Bank has a noncontributory profit sharing plan and a contributory
         401(k) plan. The Company's contributions to these plans were
         approximately $30,000, $14,000 and $30,000 for the years ended December
         31, 1996 , December 31, 1997 and December 31, 1998.

         The Bank has an employment agreement with a key officer. Under the
         terms of this agreement, the officer will receive annual compensation
         in an amount fixed by the contract, and may receive annual bonuses at
         the discretion of the Board of Directors. The agreement provides for
         severance payments in the event employment is terminated following a
         change in control. These payments would be equal to 2.99 times the
         average annual compensation paid to this officer during the five years
         immediately prior to a change in control. These sums would be paid
         promptly after any change in control which is defined in the
         agreements, among other things, as anytime during the period of
         employment when change of control is deemed to have occurred.


10.      LONG-TERM INCENTIVE COMPENSATION PLAN

         During 1997, the Bank's shareholders' approved the adoption of the
         Pinnacle Bank 1996 Stock Option and Incentive Plan ("Option Plan"). The
         Option Plan provides for a number of forms of stock-based compensation
         for key employees of the Company. Under the Option Plan, eligible
         employees may be awarded incentive and nonqualified stock options,
         stock appreciation rights, and restricted stock. The Option Plan
         provides for the issuance of up to 170,000 shares of the Company's
         common stock. In addition, each option expires no later than ten years
         after the grant date. The exercise price of each option is determined
         by the stock option committee but, in the case of incentive stock
         options, the price shall not be less than the fair market value on the
         grant date.

         SFAS No. 123, Accounting for Stock-Based Compensation, is effective
         for the Company's December 31, 1998 financial statements. SFAS No. 123
         allows companies to continue to record compensation cost under
         Accounting Principles Board Opinion ("APB") No. 25; and as a result,
         adoption of SFAS No. 123 did not affect the financial condition or
         results of operations of the Company. SFAS No. 123 does, however,
         require certain pro forma disclosures reflecting what compensation cost
         would have been if the fair value 



                                       24
<PAGE>   25

         based method of recording compensation expense for stock-based
         compensation had been adopted. Had compensation cost been determined,
         consistent with SFAS No. 123, the Company's net income would have
         reflected the following pro forma amounts:

<TABLE>
<CAPTION>
                                                                    FISCAL YEAR        FISCAL YEAR
                                                                       Ended              Ended     
                                                                    December 31,       December 31,     
                                                                        1997               1998         
                                                                    -----------        ----------- 

           <S>                                                      <C>                <C> 
           Net income--as reported                                  $ 2,062,869        $ 1,502,121
           Net income--pro forma                                      1,871,814          1,502,121

           Basic earnings per share--as reported                    $      1.16        $      0.84
           Basic earnings per share--pro forma                             1.05               0.84

           Diluted earnings per share--as reported                         1.15        $      0.83
           Diluted earnings per share--pro forma                           1.04               0.83
</TABLE>


         A summary of the status of the Company's stock option plan at December
         31, 1997 and 1998 and the changes during the years then ended is as
         follows:

<TABLE>
<CAPTION>
                                                               1997                          1998
                                                     ------------------------       ------------------------
                                                                     Exercise                       Exercise
                                                     Shares           Price         Shares           Price
                                                     ------          --------       ------          --------

           <S>                                       <C>             <C>            <C>             <C>   
           Outstanding at beginning of year               0          $      0       60,060          $   8.81  
                                                                                                              
           Granted                                   67,000              8.81            0                 0  
           Exercised                                 (6,940)             8.81       (3,000)             8.81 
                                                     ------          --------       ------          -------- 
           Outstanding at end of year                60,060          $   8.81       57,060          $   8.81  
                                                     ======          ========       ======          ========
                                                                                                 
           Exercisable at end of year                60,060          $   8.81       57,060          $   8.81
                                                     ======          ========       ======          ========  
                                                                                                              
           Fair value of options granted               5.93                             NA                    
                                                     ======                         ======
</TABLE>


         The fair value of each option was estimated on the date of grant using
         the Black-Scholes option pricing model with the following weighted
         average assumptions: a risk free interest rate based on zero coupon
         governmental issues at grant date with the maturity equal to the
         expected term of the option (6.36% for 1997), no expected forfeiture
         rate as options are immediately vested at date of grant, an expected
         stock volatility of 18% and an expected annual dividend yield of $.40
         per share


11.      SPLIT IN STOCK

         On September 24, 1997, the Company announced that its Board of
         Directors declared a two-for-one split effect in the form of a 100%
         stock dividend payable to shareholders of record on October 15, 1997.

12.      STOCKHOLDERS' EQUITY

         Dividends are paid by the Company from its assets which are mainly
         provided by dividends from the Bank. However, certain restrictions
         exist regarding the ability of the Bank to transfer funds to the
         Company in the



                                       25
<PAGE>   26

         form of cash dividends, loans, or advances. As of January 1, 1999
         approximately $1,346,000 of the Bank's retained earnings was available
         for distribution without prior regulatory approval.

         The Company and the Bank are subject to various regulatory capital
         requirements that prescribe quantitative measures of the Company's and
         Bank's assets, liabilities, and certain off-balance sheet items. The
         regulators have also imposed qualitative guidelines for capital amounts
         and classifications such as risk weightings, capital components, and
         other details. The quantitative measures to ensure capital adequacy
         require that the Company and Bank maintain amounts and ratios, as set
         forth in the schedule below, of total and Tier I capital (as defined in
         the regulations) to risk-weighted assets (as defined) and of Tier I
         capital to average total assets (as defined). Failure to meet minimum
         capital requirements can initiate certain actions by regulators that,
         if undertaken, could have a direct material effect on the Company's
         financial statements. Management believes, as of December 31, 1998,
         that the Company and Bank meets all capital adequacy requirements
         imposed by its regulators.

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

         Actual capital amounts as well as required and well capitalized Tier I,
         total, and Tier I leverage ratios as of December 31 for the Company and
         the Bank are as follows:

<TABLE>
<CAPTION>
                                                                                                       Under Prompt 
                                                                                For Capital             Corrective
                                                           Actual            Adequacy Purposes      Action Provisions
                                                      -----------------     -------------------    --------------------
                                                      Amount      Ratio      Amount       Ratio     Amount        Ratio
                                                      -------     -----     --------      -----    --------       -----
                                                                       (Dollar Amounts in Thousands)

       <S>                                            <C>         <C>       <C>           <C>      <C>            <C>
       As of December 31, 1997:
           Total Capital (to Risk Weighted 
              Assets):
              Consolidated                            $17,010      13.2%    >$10,274      >8.0%         N/A
                                                                            -             -         

              Pinnacle Bank                            16,068      12.5     >$10,274      >8.0     >$12,843       >10.0%
                                                                            -             -        -              -

           Tier I capital (to Risk Weighted
              Assets):
              Consolidated                             16,211      12.6       >5,137      >4.0          N/A
                                                                              -           -                    

              Pinnacle Bank                            14,834      11.6       >5,137      >4.0       >7,706        >6.0
                                                                              -           -          -             -
                                 
           Tier I Capital (to Average Assets):
              Consolidated                             16,211       8.1       >8,027      >4.0          N/A
                                                                              -           -                

              Pinnacle Bank                            14,834       7.4       >8,027      >4.0      >10,034        >5.0
                                                                              -           -         -              -
     
       As of December 31, 1998:
           Total Capital (to Risk Weighted 
              Assets):
              Consolidated                             18,311      14.7       >9,936      >8.0          N/A
                                                                              -           -             

              Pinnacle Bank                            17,490      14.1       >9,936      >8.0      >12,421       >10.0
                                                                              -           -          -            -

           Tier I capital (to Risk Weighted
              Assets):
              Consolidated                             17,110      13.8       >4,968       >4.0         N/A
                                                                              -            -      

              Pinnacle Bank                            16,289      13.1       >4,968       >4.0      >7,452        >6.0
                                                                              -            -          -            -  

           Tier I Capital (to Average Assets):
              Consolidated                             17,110       7.8       >8,735       >4.0         N/A
                                                                              -            -       

              Pinnacle Bank                            16,289       7.5       >8,735       >4.0     >10,919        >5.0
                                                                              -            -        -              -
</TABLE>
   


                                       26
<PAGE>   27

         COMPREHENSIVE INCOME

         In June 1997, the FASB issued SFAS No. 130, Reporting Comprehensive
         Income. Comprehensive income is the change in equity during a period
         from transactions and other events and circumstances from nonowner
         sources. It includes all changes in equity during a period except those
         resulting from investments by owners and distributions to owners.

         In addition to net income, the Company has identified changes related
         to other nonowner transactions in the consolidated statement of changes
         in stockholders' equity and comprehensive income. For the Company,
         changes in other nonowner transactions consist entirely of changes in
         unrealized gains and losses on securities available for sale.

         In the calculation of comprehensive income, certain reclassification
         adjustments are made to avoid double counting items that are displayed
         as part of net income and other comprehensive income in that period or
         earlier periods. The following table reflects the reclassification
         amounts and the related tax effects for the three years ended 
         December 31:

<TABLE>
<CAPTION>
                                                                                       1996
                                                                  -----------------------------------------------
                                                                   Before                                 After
                                                                     Tax                Tax                Tax     
                                                                   Amount             Effect             Amount
                                                                  ---------          ---------          ---------

       <S>                                                        <C>                <C>                <C> 
       Unrealized gains (losses) arising during the year          $(282,796)         $ (96,151)         $(186,645)  
       Less reclassification for adjustments for gains                                                              
            (losses) included in net earnings                          (355)              (121)              (234)  
                                                                  ---------          ---------          ---------
       Net change in unrealized gain/(loss) on securities         $(282,441)         $ (96,030)         $(186,411) 
                                                                  =========          =========          ========= 
       
<CAPTION>

                                                                                       1997
                                                                  -----------------------------------------------
                                                                   Before                                 After
                                                                     Tax                Tax                Tax       
                                                                   Amount             Effect             Amount
                                                                  --------           --------           --------

       <S>                                                        <C>                <C>                <C> 
       Unrealized gains (losses) arising during the year          $130,651           $ 44,421           $ 86,230    
       Less reclassification for adjustments for gains                                                            
            (losses) included in net earnings                        1,933                657              1,276  
                                                                  --------           --------           --------
       Net change in unrealized gain/(loss) on securities         $128,718           $ 43,764           $ 84,954  
                                                                  ========           ========           ========

<CAPTION>

                                                                                      1998
                                                                  ----------------------------------------------
                                                                   Before                                After           
                                                                     Tax               Tax                Tax
                                                                   Amount            Effect             Amount
                                                                  -------            -------            -------

       <S>                                                        <C>                <C>                <C>   
       Unrealized gains (losses )arising during the year          $25,040            $ 8,693            $16,347   
       Less reclassification for adjustments for gains                                                          
            (losses) included in net earnings                           0                  0                  0 
                                                                  -------            -------            -------
       Net change in unrealized gain/(loss) on securities         $25,040            $ 8,693            $16,347
                                                                  =======            =======            =======
</TABLE>
 

 13.     FAIR VALUES OF FINANCIAL INSTRUMENTS

         SFAS No. 107, Disclosure About Fair Value of Financial Instruments
         requires disclosure of fair value information about financial
         instruments, whether or not recognized in the balance sheet, for which
         it is practicable to estimate that value. Financial instruments are
         defined as cash, evidence of ownership in an entity, contracts that
         convey either a right to receive cash or other financial instruments or
         an obligation to deliver cash or other financial instruments, or
         contracts that convey the right or obligation to exchange financial
         instruments on potentially favorable or unfavorable terms. The Company
         has a variety of



                                       27
<PAGE>   28

         financial instruments which include items recorded on the consolidated
         statement of financial condition and items which, by their nature, are
         not recorded on the consolidated statements of financial condition.

         Quoted market prices, if available, are utilized as an estimate of the
         fair value of financial instruments. In cases where quoted market
         prices are not available, fair values have been estimated using present
         value or other valuation techniques. These methods are highly sensitive
         to the assumptions used by management, such as those concerning
         appropriate discount rates and estimates of future cash flows.
         Different assumptions could significantly affect the estimated fair
         value amounts presented above. In that regard, the derived fair value
         estimates cannot be substantiated by comparison to independent markets
         and, in many cases, could not be realized in the immediate settlement
         of the instrument. Further, assets that are not financial instruments
         are not included in the following table. Accordingly, the aggregate
         estimated fair value amounts presented do not represent the underlying
         value of the Company.

         This summarizes the Company's disclosure of fair value of financial
         instruments made in accordance with the requirements of SFAS No. 107:

<TABLE>
<CAPTION>
                                              AT DECEMBER 31, 1997          AT DECEMBER 31, 1998
                                            ------------------------      ------------------------
                                            CARRYING      ESTIMATED       CARRYING      ESTIMATED
                                             AMOUNT       FAIR VALUE       AMOUNT       FAIR VALUE
                                            --------      ----------      --------      ----------
                                                                (In Thousands)  

        <S>                                 <C>           <C>             <C>           <C> 
        ASSETS:
            Cash on hand and in banks       $  2,747       $  2,747       $  3,961       $  3,961   
            Interest-bearing deposits          4,873          4,873         30,845         30,845   
            Securities                        44,423         44,423         40,415         40,415   
            Loans receivable, net            137,676        137,610        128,962        129,008   
            Loan held for sale                 1,857          1,857          2,986          2,986   
            Accrued interest                   1,570          1,570          1,386          1,386   
                                                                                                    
                                                                                                    
        LIABILITIES:                                                                                
            Deposits                        $179,377       $180,729       $194,687       $194,008   
            Other borrowed funds               3,640          3,640          3,520          3,520 
</TABLE>
  
        
         The following methods and assumptions were used by the Company in
         estimating the fair values provided above:

         CASH ON HAND AND IN BANKS AND INTEREST-BEARING DEPOSITS. The carrying
         value of highly liquid instruments, such as cash on hand and in banks
         and interest-bearing deposits are considered to approximate their fair
         values.

         SECURITIES AND LOANS HELD FOR SALE. Substantially all of the Company's
         securities and loans held for sale, primarily to third-party investors,
         have a readily determinable fair value. Fair values for these
         securities are based on quoted market prices, where available. If not
         available, fair values are based on market prices of comparable
         instruments. The carrying value of accrued interest on these
         instruments approximates fair value.

         LOANS RECEIVABLE, NET. For loans with rates that are repriced in
         coordination with movements in market rates and with no significant
         change or credit risk, fair value estimates are based on carrying
         values. The fair value for certain mortgage loans are based on quoted
         market prices of similar loans sold in conjunction with securitization
         transactions, adjusted for differences in loan characteristics. The
         fair values for other loans are estimated by discounting future cash
         flows using current rates at which loans with similar terms would be
         made to borrowers of similar credit ratings. The carrying amount of
         accrued interest on loans approximates its fair values.



                                       28
<PAGE>   29

         DEPOSITS. The fair value of deposits with no stated maturity, such as
         interest and noninterest-bearing deposits, NOW accounts, savings
         accounts, and money market accounts, is by definition, equal to the
         amount payable on demand at the reporting date (i.e., their carrying
         amounts). Fair values for certificates of deposit are estimated using a
         discounted cash flow analysis that applies rates currently offered for
         certificates of deposits with similar remaining maturities. The
         carrying amount of accrued interest payable on deposits approximates
         its fair value.

         The economic value attributed to the long-term relationship with
         depositors who provide low-cost funds to the Company is considered to
         be a separate intangible asset and is excluded from the presentation.

         OTHER BORROWED FUNDS. The fair value of other borrowed funds is
         estimated using discounted cash flow analyses, based on the current
         rates offered for similar borrowing arrangements. The carrying amount
         of accrued interest payable on other borrowed funds approximates its
         fair value.

         OFF-BALANCE SHEET ITEMS. The Company's off-balance sheet instruments
         consist of commitments to extend credit, primarily one-to-four-family
         mortgages; unfunded commitments of credit, primarily unfunded
         construction loans; and standby letters of credit. The carrying amount
         of unamortized fees related to these items is not material and, because
         of the absence of any known credit risk, and the estimated fair value
         of these unamortized fees approximates the carrying value.


14.      CONTINGENCIES

         LITIGATION. On October 27, 1993, a suit was initiated in the Circuit
         Court for Walker County, Alabama, by one customer who alleged that the
         Bank improperly charged his account for insufficient funds. The
         plaintiff also alleged that he represented a class composed of both
         current and past customers of the Bank. The Bank has denied the
         material allegations of the plaintiff's complaint. There has been no
         substantive change in the status of this lawsuit since June 30, 1995.
         In addition to the litigation noted above, the Bank is from time to
         time subject to routine litigations incidental to its business. Such
         litigation may include alleged compensatory and punitive damages. In
         recent years in the State of Alabama, many complaints have been filed
         which challenge fees charged and customer obligations associated with
         traditional bank services. Additionally, punitive damage awards have
         been sought in amounts that bear little or no relation to actual
         damages. In some of these cases, juries have awarded large punitive
         awards to the plaintiffs.

         Although it is not possible to determine with any certainty at this
         point in time the potential exposure related to damages in connection
         with any pending or threatened litigation against the Bank, it is the
         opinion of management, based upon consultation with legal counsel, that
         the ultimate resolutions of all pending litigation against the Bank
         will not have a materially adverse effect on the Bank's financial
         position or result of operations.

         FDIC ASSESSMENT. The deposits of the Bank were insured by the Savings
         Association Insurance Fund ("SAIF") prior to the conversion to a
         commercial bank. The deposits of the Bank are currently insured by the
         Bank Insurance Fund ("BIF").

         The FDIC Board of Directors approved a rule that established the
         special assessment necessary to recapitalize the SAIF as of March 31,
         1995. The legislation provided that all SAIF member institutions pay a
         special one time assessment to recapitalize SAIF, which in the
         aggregate is sufficient to bring the reserve ratio in SAIF to 1.25% of
         insured deposits. Based upon its level of SAIF deposits as of March 31,
         1995, the Bank's special assessment paid and expensed during the -year
         ended December 31, 1996 was $1,011,000.



                                       29
<PAGE>   30

15.      CONDENSED PARENT COMPANY FINANCIAL STATEMENTS

                             STATEMENTS OF CONDITION

                           DECEMBER 31, 1997 AND 1998

                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                                   1997         1998
                                                                   ----         ----

<S>                                                             <C>          <C>
ASSETS:                                                               
    Cash on hand in Banks                                       $       1    $       1
    Interest-bearing deposits in other banks                        1,394          914
    Investment in subsidiaries                                     15,404       16,732
                                                                ---------    ---------
                                                                   16,799    $  17,647
                                                                =========    =========

OTHER LIABILITIES                                               $      18    $      35
SHAREHOLDERS' EQUITY                                               16,781       17,612
                                                                ---------    ---------
                                                                $  16,799    $  17,647
                                                                =========    =========
</TABLE>
 

                            STATEMENTS OF OPERATIONS

                 FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1998

                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                                 1997          1998
                                                                 ----          ----

<S>                                                            <C>           <C> 
INCOME: 
    Dividend income, Pinnacle Bank                             $ 2,000       $   179
    Interest income                                                 64            50
              Total income                                       2,064       

EXPENSES                                                            36            38


INCOME BEFORE EQUITY IN UNDISTRIBUTED
    INCOME OF SUBSIDIARY                                         2,028           191
EQUITY IN UNDISTRIBUTED INCOME OF SUBSIDIARY                        35         1,311
                                                               -------       -------
              Net income                                       $ 2,063       $ 1,502
                                                               =======       =======
</TABLE>



                                       30
<PAGE>   31

                            STATEMENTS OF CASH FLOWS

                           DECEMBER 31, 1997 AND 1998

                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                                                                       1997        1998
                                                                                                       ----        ----

<S>                                                                                                  <C>         <C> 
CASH FLOWS FROM OPERATING ACTIVITIES:                                                                              
    Net income                                                                                       $ 2,063     $ 1,502
    Adjustments to reconcile net income to net cash provided by operating activities:
       Undistributed income of subsidiaries                                                              (35)     (1,311)
       Increase in other liabilities                                                                      18          17
                                                                                                     -------     -------
              Net cash provided by operating activities                                                2,046         208
                                                                                                     -------     -------
CASH FLOWS FROM FINANCING ACTIVITIES:
    Proceeds from stock options exercised                                                                 61          26
    Cash dividends paid                                                                                 (712)       (714)
                                                                                                     -------     -------
              Net cash used in financing activities                                                     (651)       (688)
                                                                                                     -------     -------
INCREASE IN CASH AND CASH EQUIVALENTS

CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR                                                             0       1,395
                                                                                                     -------     -------
CASH AND CASH EQUIVALENTS AT END OF YEAR                                                             $(1,395)    $   915
                                                                                                     =======     =======
</TABLE>



                                       31
<PAGE>   32

SELECTED QUARTERLY INFORMATION (UNAUDITED)

A summary of unaudited results of operations for each quarter of the years ended
December 31, 1997, and December 31, 1998 follows:

<TABLE>
<CAPTION>
                                                     FIRST            SECOND             THIRD             FOURTH
                                                    QUARTER           QUARTER           QUARTER            QUARTER
                                                  -----------       -----------       -----------        -----------

<S>                                               <C>               <C>               <C>                <C>  
YEAR ENDED DECEMBER 31, 1997:
    Interest revenue                              $ 3,850,571       $ 3,963,278       $ 4,001,525        $ 4,105,712
    Net interest income after provision for
       loan losses                                  1,691,271         1,667,138         1,683,628          1,536,249
    Noninterest income                                317,993           359,834           326,894            334,997
    Noninterest expense                             1,108,139         1,189,501         1,128,784          1,159,777
    Net income                                        502,329           524,897           553,169            445,283
    Basic and diluted earnings per share                  .28               .30               .31                .27
    Diluted earnings per share                            .28               .30               .31                .26

YEAR ENDED DECEMBER 31, 1998:
    Interest revenue                              $ 3,933,246       $ 3,940,113       $ 4,014,797        $ 4,032,797
    Net interest income after provision for
       loan losses                                  1,558,599         1,526,925         1,306,347          1,640,940
    Noninterest income                                399,464           404,464            (5,512)           262,039
    Noninterest expense                             1,187,566         1,163,511         1,207,869          1,254,144
    Net income                                        503,093           501,158            77,976            419,894
    Basic earnings per share                              .28               .28               .04                .24
    Diluted earnings per share                            .28               .28               .04                .23
</TABLE>



                                       32
<PAGE>   33

                              CORPORATE INFORMATION
                     DIRECTORS -- PINNACLE BANCSHARES, INC.
                                AND PINNACLE BANK

                                 Greg Batchelor
                 President, Dependable True Value Hardware, Inc.

                                   O. H. Brown
                   CPA - Lapidus, Tuck, Raymond & Fowler, P.C.

                                 James W. Cannon
              Senior Vice President - Operations, Burton Golf, Inc.

                               Melvin R. Kacharos
                                     Retired

                                  Sam W. Murphy
                Chairman of the Board & Chief Executive Officer,
                            Murphy Manufacturing,Inc.

                              Robert B. Nolen, Jr.
                                    President
                            Pinnacle Bancshares, Inc.
                                  Pinnacle Bank

                                  Max W. Perdue
                                     Retired

                                  Al H. Simmons
                              Chairman of the Board
                            Pinnacle Bancshares, Inc.
                                  Pinnacle Bank

                              J. T. "Jabo" Waggoner
                                 Vice President,
                        Public Affairs HealthSouth Corp.

                      OFFICERS -- PINNACLE BANCSHARES, INC.

                              Robert B. Nolen, Jr.
                             President and Treasurer

                                 Mary Jo Gunter
                                 Vice President

                                Thomas L. Sherer
                                    Secretary



                                       33
<PAGE>   34

                            OFFICERS - PINNACLE BANK

                              Robert B. Nolen, Jr.
                                    President

                                Thomas L. Sherer
                                    Secretary

                                 Mary Jo Gunter
                      Senior Vice President Banking Service

                                   John Kirby
                     Senior Vice President Birmingham Region



                                  C. Ray Fowler
                  Vice President - Internal Audit & Compliance

                                Marilyn K. Gober
                         Vice President - Retail Banking

                                  Marie Guthrie
                                   Controller

                            William O. Hairston, Jr.
                 Vice President - Lending & Business Development

                                  Jaye Ottinger
                        Vice President - Mortgage Lending

                                 Carl Schoettlin
                            Vice President - Lending

                                  Carmen Sparks
                         Vice President - Loan Servicing

                                  Brenda Steele
                        Vice President - Deposit Accounts

                                   Pam Elliott
                          Haleyville Regional President

                               Edward A. Davidson
                          Birmingham Regional President

                                   Linda Woods
                              Office Manager - Mall

                                 Bonnie Sanford
                            Office Manager - Sumiton



                                       34
<PAGE>   35

                                     OFFICES
               Main Office, 1811 2nd Avenue/Jasper (205/221-4111)
             Mall Office, 204 Highway 78 East/Jasper (205/221-1322)
          Sumiton Office, Bryan Road and U.S. 78/Sumiton (205/648-6091)
          Haleyville Office, 1012 20th Street/Haleyville (205/486-2225)
          Birmingham South, 2013 Canyon Road/Birmingham (205/822-2265)
        Trussville Office, 2064 Gadsden Highway/Trussville (205/661-9625)
                        
                                 TRANSFER AGENT
                              The Bank of New York.
                               New York, New York

                                 GENERAL COUNSEL
                     Maddox, MacLaurin, Nicholson & Thornley
                                 Jasper, Alabama

                                 SPECIAL COUNSEL
                                   Kutak Rock
                                Washington, D.C.

                                    AUDITORS
                               Arthur Andersen LLP
                               Birmingham, Alabama

                             ADDITIONAL INFORMATION
                  Analysts, stockholders and any other parties
                 interested in obtaining additional information
                          may contact Marie Guthrie at
            Post Office Box 1388, Jasper AL 35502-1388 (205/221-4111)

                                 ANNUAL MEETING
      The 1999 Annual Meeting of Stockholders of Pinnacle Bancshares, Inc.
                       will be held at CHS Activity Center
                     204 19th Street East, Jasper, Alabama
                          at 11:00 a.m. on May 26, 1999





                                   FORM 10-KSB
      A COPY OF THE PINNACLE BANCSHARES, INC. ANNUAL REPORT ON FORM 10-KSB
           FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998, AS FILED WITH
             THE SECURITIES AND EXCHANGE COMMISSION IS AVAILABLE TO
               STOCKHOLDERS OF RECORD FOR THE 1999 ANNUAL MEETING
                     WITHOUT CHARGE UPON WRITTEN REQUEST TO
                                  MARIE GUTHRIE
                            PINNACLE BANCSHARES, INC.
                              POST OFFICE BOX 1388
                           JASPER, ALABAMA 35502-1388



                                       35