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SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
   FORM 10-Q (Mark One)  x
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934  OR  o
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 
 Commission File Number: 000-50066 HARRINGTON WEST FINANCIAL GROUP, INC.  Delaware
(State or other jurisdiction of incorporation or organization)
    
    48-1175170
(I.R.S. Employer Identification No.)
 610 Alamo Pintado Road
Solvang, California
(Address of principal executive offices) 93463
(Zip Code) (805) 688-6644
(Registrants telephone number, including area code)    Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. x Yes          o No Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934).o Yes          x No Indicate the number of shares outstanding of each of the issuers classes
of common stock, as of the latest practicable date: 5,278,634 shares of Common Stock, par value $0.01 per share, outstanding
as of August 4, 2004.




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HARRINGTON WEST FINANCIAL GROUP, INC. INDEX PagePart I - Financial InformationItem 1.
    
    Condensed Consolidated Financial Statements
    
    
    2Condensed Consolidated Statements of Financial Condition as of
June 30, 2004 (Unaudited) and December 31, 2003
    
    
    2Condensed Consolidated Statements of Income for the Three and Six
Months Ended June 30, 2004 and 2003 (Unaudited)
    
    
    3Condensed Consolidated Statements of Shareholders Equity and Comprehensive
Income for the Six months ended June 30, 2004 (Unaudited)
and Year Ended December 31, 2003
    
    
    4Condensed Consolidated Statements of Cash Flows for the Six Months
Ended June 30, 2004 and 2003 (Unaudited)
    
    
    6Notes to Unaudited Condensed Consolidated Financial Statements
    
    
    7Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    11Item 3.
    
    Quantitative and Qualitative Disclosures about Market Risk
    
    
    28Item 4.
    
    Controls and Procedures
    
    
    29Part II - Other InformationItem 1.
    
    Legal Proceedings
    
    
    29Item 2.
    
    Changes in Securities and Use of Proceeds
    
    
    29Item 3.
    
    Defaults upon Senior Securities
    
    
    29Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    30Item 5.
    
    Other Information
    
    
    30Item 6.
    
    Exhibits and Reports on Form 8-K
    
    
    30Signatures
    
    
    31Certification of CEO Pursuant to Section 302Certification of CFO Pursuant to Section 302Certification of CEO & CFO Pursuant to Section 906
  - 1 -




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PART 1-FINANCIAL INFORMATION 
 Item 1: Condensed Consolidated Financial Statements HARRINGTON WEST FINANCIAL GROUP, INC. 
 CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (Unaudited)
 (Dollars in thousands, except share data) June 30, 2004
    
    December 31, 2003ASSETSCash and cash equivalents
    
    $
    16,421
    
    
    $
    22,856Trading account assets
    
    
    1,915
    
    
    
    2,111Securities available for sale
    
    
    426,738
    
    
    
    398,691Securities held to maturity
    
    
    163
    
    
    
    222Loans receivable, (net of allowance for loan losses of $4,903
and $4,587 at June 30, 2004 and December 31,
2003, respectively)
    
    
    565,369
    
    
    
    518,496Accrued interest receivable
    
    
    3,121
    
    
    
    2,928Premises and equipment, net
    
    
    7,495
    
    
    
    6,454Due from broker
    
    
    5,457
    
    
    
    Prepaid expenses and other assets
    
    
    2,454
    
    
    
    1,867Investment in FHLB stock, at cost
    
    
    14,085
    
    
    
    13,425Deferred tax asset
    
    
    2,201
    
    
    
    2,651Goodwill
    
    
    3,981
    
    
    
    3,981Core deposit intangible, net
    
    
    1,020
    
    
    
    1,117TOTAL ASSETS
    
    $
    1,050,420
    
    
    $
    974,799LIABILITIES & STOCKHOLDERS EQUITYDeposits:Interest bearing
    
    $
    556,559
    
    
    $
    541,533Non-interest bearing
    
    
    33,230
    
    
    
    29,164Total Deposits
    
    
    589,789
    
    
    
    570,697FHLB advances
    
    
    295,000
    
    
    
    262,500Securities sold under repurchase agreements
    
    
    79,510
    
    
    
    65,728Other debt
    
    
    15,464
    
    
    
    15,464Due to broker
    
    
    12,800
    
    
    
    Accounts payable and accrued expenses
    
    
    8,696
    
    
    
    11,623Income taxes payable
    
    
    190
    
    
    
    711TOTAL LIABILITIES
    
    
    1,001,449
    
    
    
    926,723STOCKHOLDERS EQUITYPreferred stock, $.01 par value: 1,000,000 shares authorized:none issued and outstandingCommon stock, $.01 par value; 9,000,000 shares authorized:5,269,184 and 5,206,141 shares issued and outstanding at of June 30,
2004 and December 31, 2003, respectively
    
    
    53
    
    
    
    43Additional paid-in capital
    
    
    31,129
    
    
    
    30,710Retained earnings
    
    
    20,525
    
    
    
    20,082Accumulated other comprehensive income (loss), net of tax of $(2,008)
and $(2,024) at June 30, 2004 and December 31, 2003, respectively
    
    
    (2,736
    )
    
    
    (2,759
    )Total Stockholders Equity
    
    
    48,971
    
    
    
    48,076TOTAL LIABILITIES & STOCKHOLDERS EQUITY
    
    $
    1,050,420
    
    
    $
    974,799
 The accompanying notes are an integral part of these condensed statements. - 2 -




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HARRINGTON WEST FINANCIAL GROUP, INC. 
 CONDENSED CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
 Dollars in thousands, except share data Three months ended
    
    Six months endedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003INTEREST INCOMEInterest on loans
    
    $
    8,752
    
    
    $
    8,177
    
    
    $
    17,344
    
    
    $
    16,131Interest and dividends on securities
    
    
    3,975
    
    
    
    3,129
    
    
    
    7,630
    
    
    
    6,533Total interest income
    
    
    12,727
    
    
    
    11,306
    
    
    
    24,974
    
    
    
    22,664INTEREST EXPENSEInterest on deposits
    
    
    2,521
    
    
    
    2,647
    
    
    
    5,056
    
    
    
    5,312Interest on FHLB advances and other borrowings
    
    
    2,711
    
    
    
    2,402
    
    
    
    5,384
    
    
    
    4,858Total interest expense
    
    
    5,232
    
    
    
    5,049
    
    
    
    10,440
    
    
    
    10,170NET INTEREST INCOME BEFORE
PROVISION FOR LOAN LOSSES
    
    
    7,495
    
    
    
    6,257
    
    
    
    14,534
    
    
    
    12,494PROVISION FOR LOAN LOSSES
    
    
    230
    
    
    
    250
    
    
    
    320
    
    
    
    610NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES
    
    
    7,265
    
    
    
    6,007
    
    
    
    14,214
    
    
    
    11,884OTHER INCOME (LOSS)Income from trading assets
    
    
    273
    
    
    
    1,294
    
    
    
    611
    
    
    
    1,870Loss on extinguishment of debt
    
    
    (189
    )
    
    
    (892
    )
    
    
    (189
    )
    
    
    (1,423
    )Other income gain (loss)
    
    
    (2
    )
    
    
    (40
    )
    
    
    (12
    )
    
    
    50Banking fee income
    
    
    848
    
    
    
    1,200
    
    
    
    1,608
    
    
    
    2,224Total other income
    
    
    930
    
    
    
    1,562
    
    
    
    2,018
    
    
    
    2,721OTHER EXPENSESSalaries & employee benefits
    
    
    2,704
    
    
    
    2,555
    
    
    
    5,387
    
    
    
    5,024Premises & equipment
    
    
    741
    
    
    
    671
    
    
    
    1,465
    
    
    
    1,324Insurance premiums
    
    
    121
    
    
    
    82
    
    
    
    269
    
    
    
    151Marketing
    
    
    119
    
    
    
    113
    
    
    
    229
    
    
    
    212Computer services
    
    
    168
    
    
    
    166
    
    
    
    323
    
    
    
    326Consulting fees
    
    
    336
    
    
    
    236
    
    
    
    580
    
    
    
    482Office expenses & supplies
    
    
    214
    
    
    
    185
    
    
    
    425
    
    
    
    361Other
    
    
    467
    
    
    
    464
    
    
    
    931
    
    
    
    886Total other expenses
    
    
    4,870
    
    
    
    4,472
    
    
    
    9,609
    
    
    
    8,766INCOME BEFORE INCOME TAXES
    
    
    3,325
    
    
    
    3,097
    
    
    
    6,623
    
    
    
    5,839INCOME TAXES
    
    
    1,345
    
    
    
    1,286
    
    
    
    2,584
    
    
    
    2,424NET INCOME
    
    $
    1,980
    
    
    $
    1,811
    
    
    $
    4,039
    
    
    $
    3,415BASIC EARNINGS PER SHARE
    
    $
    0.38
    
    
    $
    0.35
    
    
    $
    0.77
    
    
    $
    0.66DILUTED EARNINGS PER SHARE
    
    $
    0.35
    
    
    $
    0.33
    
    
    $
    0.72
    
    
    $
    0.63BASIC WEIGHTED AVERAGE SHARES OUTSTANDING
    
    
    5,258,765
    
    
    
    5,193,541
    
    
    
    5,233,966
    
    
    
    5,193,541DILUTED WEIGHTED AVERAGE SHARES OUTSTANDING
    
    
    5,613,093
    
    
    
    5,411,472
    
    
    
    5,576,272
    
    
    
    5,398,831
 The accompanying notes are an integral part of these condensed statements. - 3 -




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HARRINGTON WEST FINANCIAL GROUP, INC. 
 CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITYAND COMPREHENSIVE INCOME (Unaudited)
 (Dollars in thousands, except share data)
 AccumulatedCommon Stock
    
    AdditionalPaid-in
    
    Retained
    
    Comprehensive
    
    OtherComprehensive
    

TotalStockholdersStock
    
    Amt
    
    Capital
    
    Earnings
    
    Income
    
    Income
    
    EquityBalance, January 1,
2003 (1)
(Note 2)
    
    
    4,327,951
    
    
    $
    43
    
    
    $
    30,641
    
    
    $
    13,795
    
    
    
    
    
    
    $
    (2,007
    )
    
    $
    42,472Comprehensive income:Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    7,413
    
    
    $
    7,413
    
    
    
    
    
    
    
    7,413Other comprehensive
income,
net of taxUnrealized gains on
securities
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,245
    )
    
    
    (1,245
    )
    
    
    (1,245
    )Effective portion in
change in
fair value of cash
flow hedges
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    493
    
    
    
    493
    
    
    
    493Total comprehensive
income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    6,661Stock options
    
    
    10,500
    
    
    
    
    
    
    
    69
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    69Dividends on common
stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,126
    )
    
    
    
    
    
    
    
    
    
    
    (1,126
    )Balance, December 31,
2003
    
    
    4,338,451
    
    
    
    43
    
    
    
    30,710
    
    
    
    20,082
    
    
    
    
    
    
    
    (2,759
    )
    
    
    48,076Comprehensive income:Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,039
    
    
    $
    4,039
    
    
    
    
    
    
    
    4,039Other comprehensive
income,
net of taxUnrealized gains on
securities
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,597
    )
    
    
    (1,597
    )
    
    
    (1,597
    )Effective portion in
change in
fair value of cash
flow hedges
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,620
    
    
    
    1,620
    
    
    
    1,620Total comprehensive
income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    4,062Stock dividend  6 for 5
stock split (Note 2)
    
    
    867,658
    
    
    
    9
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    9Stock options exercised
    
    
    63,075
    
    
    
    1
    
    
    
    419
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    420Dividends on common
stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (3,596
    )
    
    
    
    
    
    
    
    
    
    
    (3,596
    )Balance, June 30, 2004
    
    
    5,269,184
    
    
    $
    53
    
    
    $
    31,129
    
    
    $
    20,525
    
    
    
    
    
    
    ($
    2,736
    )
    
    
    48,971
 (1) Previous year outstanding common stock has not been revised to reflect the
6 for 5 stock split (see Note 2) The accompanying notes are an integral part of these condensed statements. - 4 -




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HARRINGTON WEST FINANCIAL GROUP, INC.CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY ANDCOMPREHENSIVE INCOME (Unaudited)
(Dollars in thousands) Six months endedJune 30,2004
    
    2003DISCLOSURE OF RECLASSIFICATION AMOUNT:Unrealized holding gains arising during period,
net of tax (benefit) expense of $(1,345) and $1,046 for the
six-months ending June 30, 2004 and 2003, respectively
    
    $
    (1,960
    )
    
    $
    1,473Less: Reclassification adjustment for gains included
in net income, net of tax expense of $249 and
$505 for the six months ending June 30, 2004 and 2003,
respectively
    
    
    (363
    )
    
    
    711Net unrealized gain on securities, net of tax (benefit)
expense of $(1,096) and $541 for the six months ending,
June 30, 2004 and 2003, respectively
    
    $
    (1,597
    )
    
    $
    762Unrealized net (loss) gain on cash flow hedges, net of tax
(benefit) expense of $1,169 and $(1,003) for the six months
ending June 30, 2004 and 2003, respectively
    
    $
    1,703
    
    
    $
    (1,410
    )Less: Reclassification adjustment for net gains on cash
flow hedges included in net income, net of tax
expense (benefit) of $57 and $0 for the six months ending
June 30, 2004 and 2003, respectively.
    
    
    83
    
    
    
    Net unrealized loss on cash flow hedges, net of tax (benefit)
expense of $1,112 and $(1,003) for the six months ending
June 30, 2004 and 2003, respectively
    
    $
    1,620
    
    
    $
    (1,410
    )
 The accompanying notes are an integral part of these condensed statements. - 5 -




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HARRINGTON WEST FINANCIAL GROUP, INC. 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
 (Dollars in thousands) Six months ended
    
    Six months endedJune 30,
    
    June 30,2004
    
    2003CASH FLOWS FROM OPERATING ACTIVITIES:Net income
    
    $
    4,039
    
    
    $
    3,415Adjustments to reconcile net income
to net cash provided by operating activities:Accretion of deferred loan fees and costs
    
    
    354
    
    
    
    (1,054
    )Depreciation and amortization
    
    
    522
    
    
    
    532Amortization of premiums and discounts on loans
receivable and securities
    
    
    1,263
    
    
    
    2,616Provision for loan losses
    
    
    320
    
    
    
    610Gain on sale of investment securities
    
    
    (613
    )
    
    
    (1,238
    )Activity in securities held for trading
    
    
    194
    
    
    
    (194
    )FHLB stock dividend
    
    
    (260
    )
    
    
    (291
    )(Increase) decrease in accrued interest receivable
    
    
    (194
    )
    
    
    551Increase (decrease) in income taxes payable
    
    
    (521
    )
    
    
    436(Decrease) increase in deferred income taxes
    
    
    450
    
    
    
    (165
    )(Increase) decrease in prepaid expenses and other assets
    
    
    (6,044
    )
    
    
    177Increase (decrease) in accounts payable
    
    
    8,867
    
    
    
    706Net cash provided by operating activities
    
    
    8,377
    
    
    
    6,101CASH FLOWS FROM INVESTING ACTIVITIES:Net increase in loans receivable
    
    
    (47,530
    )
    
    
    (49,014
    )Proceeds from sales of securities available for sale
    
    
    19,069
    
    
    
    26,385Principal paydowns on securities available for sale
    
    
    52,707
    
    
    
    89,862Principal paydowns on securities held to maturity
    
    
    60
    
    
    
    49Purchases of securities available for sale
    
    
    (102,084
    )
    
    
    (94,650
    )Purchase of premises and equipment
    
    
    (1,477
    )
    
    
    (1,393
    )Purchase of FHLB Stock
    
    
    (400
    )
    
    
    (1,456
    )Net cash used in investing activities
    
    
    (79,655
    )
    
    
    (30,217
    )CASH FLOWS FROM FINANCING ACTIVITIES:Net increase in deposits
    
    
    19,101
    
    
    
    13,913Increase in securities sold under agreements to repurchase
    
    
    13,782
    
    
    
    15,559(Decrease) increase in FHLB advances
    
    
    32,500
    
    
    
    (11,000
    )Advances on note payable
    
    
    
    
    
    
    700Exercise of stock options on common stock
    
    
    420
    
    
    
    Dividends paid on common stock
    
    
    (960
    )
    
    
    (346
    )Net cash provided by financing activities
    
    
    64,843
    
    
    
    18,826NET DECREASE IN CASH AND CASH EQUIVALENTS
    
    
    (6,435
    )
    
    
    (5,290
    )CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD
    
    
    22,856
    
    
    
    19,212CASH AND CASH EQUIVALENTS, END OF PERIOD
    
    $
    16,421
    
    
    $
    13,922SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION -Cash paid during the period for:Interest
    
    $
    8,415
    
    
    $
    9,236Income Taxes
    
    $
    2,827
    
    
    $
    448
 The accompanying notes are an integral part of these condensed statements. - 6 -




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HARRINGTON WEST FINANCIAL GROUP, INC. 
 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Business of the CompanyHarrington West Financial Group, Inc. (the Company)
is a diversified, community-based financial institution holding company
incorporated on August 29, 1995 to acquire and hold all of the outstanding
common stock of Los Padres Bank, FSB (the Bank), a federally chartered
savings bank, which operates 13 banking facilities serving individuals and
small to medium-sized businesses. Ten banking facilities are operated on the
California Central Coast, one banking facility is located in Scottsdale
Arizona, and two banking facilities in the Kansas City metropolitan area, which
are operated as a division under the Harrington Bank brand. On May 3, 2004, a
thirteenth banking facility opened in Ventura, California. The Company has a
definitive purchase agreement to acquire an existing 3,500 square-foot office
building near the Scottsdale, Arizona airport to be converted to a full service
banking operation. The Company also owns Harrington Wealth Management Company,
a trust and investment management company with $124.1 million in assets under
management or custody, and 51% of Los Padres Mortgage Company, LLC. In June 2002, the Bank entered into a joint venture agreement with Market
Resources, Inc., the owner of numerous RE/MAX brokerage agencies in the Phoenix
and Scottsdale, Arizona, metropolitan areas. Under the agreement, the Bank
established Los Padres Mortgage, LLC as a 51%-owned mortgage-banking
subsidiary. Los Padres Mortgage, LLC brokers single-family residential and
commercial real estate loans primarily to third party investors to generate fee
income. The Bank also has the opportunity to purchase select single-family and
commercial real estate loans from Los Padres Mortgage, LLC for its portfolio.
Los Padres Mortgage, LLC began operations in September 2002. Basis of PresentationThe unaudited consolidated financial statements are
condensed and do not contain all information required by accounting principles
generally accepted in the United States of America (generally accepted
accounting principles) to be included in a full set of financial statements.
The condensed consolidated financial statements include the Company and the
accounts of its wholly owned subsidiaries. All intercompany balances and transactions have been eliminated. Certain
reclassifications have been made to make information comparable between years.
The information furnished reflects all adjustments, which in the opinion of
management are necessary for a fair statement of the financial position and the
results of the operations of the Company. All such adjustments are of a normal
and recurring nature. The preparation of financial statements that are in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. The unaudited condensed consolidated interim financial statements of the
Company and subsidiaries presented herein should be read in conjunction with
the consolidated financial statements of the Company for the year ended
December 31, 2003, included in the Annual Report on Form 10-K. Allowance for Loan Losses- Allowance for loan losses is increased by charges
to income and decreased by charge-offs (net of recoveries). The allowance is maintained at a level believed by management to be sufficient
to absorb estimated probable credit losses. Managements determination of the
adequacy of the allowance is based on periodic evaluations of the credit
portfolio and other relevant factors. This evaluation is inherently - 7 -




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subjective, as it requires material estimates, including, among others, the
amounts and timing of expected future cash flows on impaired loans, estimated
losses on consumer loans and residential mortgages, and general amounts for
historical loss experience, economic conditions, uncertainties in estimating
losses and inherent risks in the various credit portfolios, all of which may be
susceptible to significant change. In determining the adequacy of the allowance for loan losses, the Company makes
specific allocations to impaired loans in accordance with Statement of
Financial Accounting Standards (SFAS) No. 114, Accounting by Creditors for
Impairment of a Loan. Loans are identified as impaired when it is deemed
probable that the borrower will be unable to meet the scheduled principal and
interest payments under the terms of the loan agreement. Impairment is based
on the present value of expected future cash flows discounted at the loans
effective interest rate, except that as a practical expedient, a creditor may
measure impairment based on a loans observable market price or the fair value
of the collateral if the loan is collateral dependent. Allocations to non-homogenous loan pools are developed by loan type and risk
factor and are based on historical loss trends and managements judgment
concerning those trends and other relevant factors. These factors may include,
among others, trends in criticized assets, regional and national economic
conditions, changes in lending policies and procedures, trends in local real
estate values and changes in volumes and terms of the loan portfolio. Homogenous (consumer and residential mortgage) loan allocations are made at a
total portfolio level based on historical loss experience adjusted for
portfolio activity and economic conditions. Management believes the level of the allowance as of June 30, 2004 is adequate
to absorb losses inherent in the loan portfolio. On March 31, 2004, the FASB ratified EITF Issue No. 03-1, The Meaning of
Other-Than-Temporary Impairment and its Application to Certain Investments,
(EITF 03-1) which provides guidance o recognizing other-than temporary
impairments on certain investments. The issue is effective for
other-than-temporary impairment evaluations for investments accounted for under
SFAS No. 115, Accounting for Certain Investments in Debt and Equity
Securities, as well as non-marketable equity securities accounted for under
the cost method for reporting periods beginning after June 15, 2004. The
Company is evaluating the impact of adopting ETIF 03-1 and has not yet
completed this analysis. The Company applies APB Opinion No. 25 and related interpretations in
accounting for its stock option plan. Accordingly, no compensation cost has
been recognized for its stock option plan. The Company uses the fair value
method of accounting for compensation cost in connection with employee stock
options. The fair value method requires issuers to record compensation expense
over the period the options are expected to be outstanding prior to exercise,
expiration, or cancellation. The amount of compensation expense to be
recognized for this term is the fair value of the options at the time of the
grant as determined by an option-pricing model. The option-pricing model
computes fair value for the options based on the length of their term, the
volatility of the stock price in past periods, and other factors. Under this
method, the issuer recognizes compensation expense regardless of whether the
employee exercises the options. The fair values of options granted under the Companys incentive stock option
plan were estimated on the date of grant using the Black-Scholes option-pricing
model. Had the Company recognized compensation expense over the expected life
of the options based on the fair value method as discussed above, the Companys
pro forma net income and earnings per share for the three and six-month periods
ended June 30, 2004 and June 30, 2003 would have been as follows: - 8 -




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##### Table of Contents



Three months endedPro Forma Results
    
    June 30, 2004
    
    June 30, 2003Net income:As reported
    
    $
    1,980
    
    
    $
    1,811Pro forma
    
    $
    1,943
    
    
    $
    1,791Earnings per share
 - basic:As reported
    
    $
    0.38
    
    
    $
    0.35Pro forma
    
    $
    0.37
    
    
    $
    0.35Earnings per share
 - diluted:As reported
    
    $
    0.35
    
    
    $
    0.33Pro forma
    
    $
    0.35
    
    
    $
    0.33
 Six months endedPro Forma Results
    
    June 30, 2004
    
    June 30, 2003Net income:As reported
    
    $
    4,039
    
    
    $
    3,415Pro forma
    
    $
    3,964
    
    
    $
    3,376Earnings per share
 - basic:As reported
    
    $
    0.77
    
    
    $
    0.66Pro forma
    
    $
    0.76
    
    
    $
    0.65Earnings per share
 - diluted:As reported
    
    $
    0.72
    
    
    $
    0.63Pro forma
    
    $
    0.71
    
    
    $
    0.62
 For purposes of this computation, the significant assumptions used for the
six-month periods ending June 30, 2004 and June 30, 2003, computed on a
weighted average basis, were: 2004
    
    2003Risk free interest rate:
    
    
    4.06
    %
    
    
    3.94
    %Expected life (years):
    
    
    9
    
    
    
    9Expected volatility 9 years
    
    
    32.67
    %
    
    
    29.03
    %
 2. SIX - FOR - FIVE STOCK SPLIT On February 11, 2004, the Company announced that its Board of Directors
approved a six-for-five stock split in the form of a 20% stock dividend. The
fractional shares distributed in connection with this stock dividend were paid
in cash based on the closing market price on the record date. The additional
shares were distributed to shareholders of record as of February 25, 2004 on
March 11, 2004. The effect of the stock split has been recognized and
reflected in all share and per share amounts for all periods presented. - 9 -




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3. EARNINGS PER SHARE The following tables represent the calculation of earnings per share (EPS)
for the periods presented. Three months ended June 30, 2004
    
    Six months ended June 30, 2004Per-Income
    
    Shares
    
    Per-Share
    
    Income
    
    Shares
    
    Share(Numerator)
    
    (Denominator)
    
    Amount
    
    (Numerator)
    
    (Denominator)
    
    AmountBasic EPS
    
    $
    1,980
    
    
    
    5,258,765
    
    
    $
    .38
    
    
    $
    4,039
    
    
    
    5,233,966
    
    
    $
    .77Effect of dilutive
stock options
    
    
    
    
    
    
    354,328
    
    
    
    (.03
    )
    
    
    
    
    
    
    342,306
    
    
    
    (.05
    )Diluted EPS
    
    $
    1,980
    
    
    
    5,613,093
    
    
    $
    .35
    
    
    $
    4,039
    
    
    
    5,576,272
    
    
    $
    .72
 Three months ended June 30, 2003
    
    
    
    
    
    Six months ended June 30, 2003Per-Income
    
    Shares
    
    Per-Share
    
    Income
    
    Shares
    
    Share(Numerator)
    
    (Denominator)
    
    Amount
    
    (Numerator)
    
    (Denominator)
    
    AmountBasic EPS
    
    $
    1,811
    
    
    
    5,193,541
    
    
    $
    .35
    
    
    $
    3,415
    
    
    
    5,193,541
    
    
    $
    .66Effect of dilutive
stock options
    
    
    
    
    
    
    217,931
    
    
    
    (.02
    )
    
    
    
    
    
    
    205,290
    
    
    
    (.03
    )Diluted EPS
    
    $
    1,811
    
    
    
    5,411,472
    
    
    $
    .33
    
    
    $
    3,415
    
    
    
    5,398,831
    
    
    $
    63
 - 10 -




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Item 2: Managements Discussion and Analysis Cautionary Statement Regarding Forward-Looking Statements. This Form 10-Q contains and incorporates by reference forward-looking
statements about our financial condition, results of operations and business.
These statements may include statements regarding projected performance for
future periods. You can find many of these statements by looking for words
such as believes, expects, anticipates, estimates, intends, will,
plans or similar words or expressions. These forward-looking statements
involve substantial risks and uncertainties. Some of the factors that may
cause actual results to differ materially from those contemplated by such
forward-looking statements include, but are not limited to, the following:  
    
    we may experience higher defaults on our loan portfolio than we expect;
    
    changes in managements estimate of the adequacy of the allowance for loan losses;
    
    changes in managements valuation of our mortgage-backed and
related securities portfolio and interest rate contracts;
    
    increases in competitive pressure among financial
institutions;
    
    general economic conditions, either nationally or locally in
areas in which we conduct or will conduct our operations, or
conditions in financial markets may be less favorable than we
currently anticipate;
    
    our net income from operations may be lower than we expect;
    
    we may lose more business or customers than we expect, or our
operating costs may be higher than we expect;
    
    changes in the interest rate environment and yield spreads
and their impact on customer behavior, our interest margins, and
market values;
    
    the impact of repricing and competitors pricing initiatives
on loan and deposit products;
    
    our ability to adapt successfully to technological changes to
meet customers needs and developments in the market place;
    
    our ability to access cost-effective funding;
    
    our ability to successfully complete our strategy to continue
to grow our business in California, Kansas and Arizona;
    
    our returns from our securities portfolio may be lower than
we expect; or
    
    legislative or regulatory changes or changes in accounting
principles, policies or guidelines may adversely affect our ability
to conduct our business. Because these forward-looking statements are subject to risks and
uncertainties, our actual results may differ materially from those expressed or
implied by these statements. You are cautioned not to place undue reliance on
our forward-looking statements, which speak only as of the date of this Form
10-Q. Forward-looking statements are not guarantees of performance. - 11 -




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They involve risks, uncertainties and assumptions. The future results and
stockholder values of our common stock may differ materially from those
expressed in these forward-looking statements. Many of the factors that will
determine these results and values are beyond our ability to control or
predict. We do not undertake any obligation to release publicly any revisions to
any forward-looking statements to reflect events or circumstances after the
date of this Form 10-Q or to reflect the occurrence of unanticipated events. General The Company is a diversified, community-based, financial institution
holding company headquartered in Solvang, California with its executive offices
in Overland Park, Kansas. The Company conducts operations primarily through
Los Padres Bank, FSB, a federally chartered savings bank, and its division
located in the Kansas City metropolitan area, Harrington Bank. Los Padres Bank
has two subsidiaries, Harrington Wealth Management Company and Los Padres
Mortgage Company, LLC. Harrington Wealth Management Company is a wholly owned
subsidiary with offices in Richmond, Indiana, Solvang, California and Mission,
Kansas. Los Padres Mortgage Company, LLC is a 51% owned mortgage-banking
subsidiary located in the Phoenix/Scottsdale metropolitan area. The Company is focused on providing its diversified products and
personalized service approach in three distinct markets: (i) the central coast
of California, (ii) the Kansas City metropolitan area and (iii) the
Phoenix/Scottsdale metropolitan area, based on Managements knowledge of the
market, the favorable demographics and economies of each, and the banking
relationship growth potential. The Company has ten offices on the central
coast of California, two offices in the Kansas City metropolitan area, and a
community banking office in the Phoenix/Scottsdale, Arizona metropolitan area.
In addition, and as noted in the summary of accounting policies, the Company
has a definitive purchase agreement to acquire an existing 3,500 square-foot
office building near the Scottsdale, Arizona airport to be converted to a full
service banking operation. In addition, in the third quarter of 2002, the
Company established Los Padres Mortgage Company, LLC, a mortgage banking
company engaged in a joint venture with the largest RE/MAX franchise in Arizona
to broker single-family residential and commercial real estate loans in the
Phoenix/Scottsdale metropolitan area. The Company opened its tenth Los Padres
Bank office on the central coast of California in Ventura on May 3, 2004.Each
of the Companys markets has its own local independent management team
operating under the Los Padres Bank or Harrington Bank names. The Companys
loan underwriting, corporate administration, and treasury functions are
centralized to create operating efficiencies. Los Padres Bank and Harrington Bank provide an array of financial products
and services for businesses and retail customers by attracting deposits from
individuals and businesses and using these deposits, together with borrowed
funds, to originate single-family and multi-family residential, commercial real
estate, commercial business, and consumer loans. The Company also maintains a portfolio of predominantly highly liquid
mortgage-backed and related securities as a means of managing its excess
liquidity and enhancing its profitability. The Company utilizes various
interest rate contracts as a means of managing its interest rate risk. The
Company also operates Harrington Wealth Management Company, which provides
trust and investment management services to individuals and small institutional
clients by employing a customized asset allocation approach and investing
predominantly in low fee, indexed mutual funds and exchange traded indexed
funds. Critical Accounting Policies General.The following discussion and analysis of financial condition and
results of operations is based upon our consolidated financial statements, and
the notes thereto, which have been prepared in accordance with accounting
principles generally accepted in the United States - 12 -




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##### Table of Contents



of America. The preparation of these consolidated financial statements
requires us to make a number of estimates and assumptions that affect the
reported amounts and disclosures in the consolidated financial statements. On
an ongoing basis, we evaluate our estimates and assumptions based upon
historical experience and various other factors and circumstances. We believe
that our estimates and assumptions are reasonable in the circumstances;
however, actual results may differ significantly from these estimates and
assumptions, which could have a material impact on the carrying value of assets
and liabilities at the balance sheet dates and our results of operations for
the reporting periods. The financial information contained in our consolidated financial
statements is, to a significant extent, based on approximate measures of the
financial effects of transactions and events that have already occurred. A
variety of factors could affect the ultimate value that is obtained either when
recognizing income or expense, recovering an asset or relieving a liability.
We use historical loss factors to determine the inherent loss that may be
present in our loan portfolio. Actual losses could differ significantly from
the historical factors that we use. We also calculate the fair value of our
interest rate contracts and securities based on market prices and the expected
useful lives of our depreciable assets. We enter into interest rate contracts
that are classified as trading account assets or to accommodate our own risk
management purposes. The interest rate contracts are generally interest swaps,
although we could enter into other types of interest rate contracts. We value
these contracts at fair value, using readily available, and market quoted
prices. We have not historically entered into derivative contracts, which
relate to credit, equity, commodity, energy or weather-related indices.
Generally accepted accounting principles themselves may change from one
previously acceptable method to another method. Although the economics of our
transactions would be the same, the timing of events that would impact our
transactions could change. As of June 30, 2004, we have not created any
special purpose entities to securitize assets or to obtain off-balance sheet
funding. Although we have sold loans in past years, those loans have been sold
to third parties without recourse, subject to customary representations and
warranties. Allowance for loan losses. The allowance for loan losses is an estimate
of the losses that may be sustained in our loan portfolio. The allowance is
based on two principles of accounting: (i) Statement of Financial Accounting
Standards, or SFAS, No. 5, Accounting for Contingencies,which requires that
losses be accrued when they are probable of occurring and estimable; and (ii)
SFAS No. 114, Accounting by Creditors for Impairment of a Loanand SFAS No.
118, Accounting by Creditors for Impairment of a Loan-Income Recognition and
Disclosures,which requires that losses be accrued based on the differences
between the value of collateral, present value of future cash flows or values
that are observable in the secondary market and the loan balance. Our
allowance for loan losses has four components: (i) an allocated allowance for
specifically identified problem loans, (ii) a formula allowance for
non-homogenous loans, (iii) an allocated allowance for large groups of smaller
balance homogenous loans and (iv) an unallocated allowance, which contains
amounts that are based on managements evaluation of conditions that are not
directly measured in the determination of the specific allowances.Each of
these components is determined based upon estimates that can and do change when
the actual events occur. The formula allowance uses a model based on
historical losses as an indicator of future losses and as a result could differ
from the losses incurred in the future; however, since this history is updated
with the most recent loss information, the differences that might otherwise
occur may be mitigated. The specific allowance uses various techniques to
arrive at an estimate of loss. Historical loss information, discounted cash
flows, fair market value of collateral and secondary market information are all
used to estimate those losses. The use of these values is inherently
subjective and our actual losses could be greater or less than the estimates.
The unallocated allowance captures losses that - 13 -




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##### Table of Contents



are attributable to various economic events, industry or geographic
sectors whose impact on the portfolio have occurred but have yet to be
recognized in either the formula or specific allowances. Financial Condition The Companys total assets increased to $1.050.4 million at June 30, 2004,
as compared to $974.8 million at December 31, 2003, an increase of $75.6
million or 7.8%. The increase was partially attributable to growth in net
loans to $565.4 million as of June 30, 2004, compared to $518.5 million at
December 31, 2003, an increase of $46.9 million or 9.0%. The Companys primary
focus with respect to its lending operations has historically been the direct
origination of single-family and multi-family residential, commercial real
estate, business, and consumer loans. Although the Company continues to
emphasize single-family residential loan products that meet its customers
needs, the Company now generally brokers such loans on behalf of third party
investors in order to generate fee income. As part of its strategic plan to
diversify its loan portfolio, the Company has been increasing its emphasis on
loans secured by commercial real estate, multi-family residential, consumer and
commercial and industrial loans. Single-family residential loan balances
increased to $98.2 million at June 30, 2004, compared to $93.7 million at
December 31, 2003, an increase of $4.5 million, while non-single-family loans
as a group increased to $473.5 million at June 30, 2004, compared to $430.4
million at December 31, 2003, an increase of $43.1 million. - 14 -




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##### Table of Contents



The following table sets forth the composition of our loan portfolio by type of
loan at the dates indicated. June 30, 2004
    
    December 31, 2003Change(Dollars in thousands)
    
    Amount
    
    Percent
    
    Amount
    
    Percent
    
    AmountReal Estate Loans:Single-family
    
    $
    98,259
    
    
    
    17.2
    %
    
    $
    93,725
    
    
    
    17.9
    %
    
    $
    4,534Multi-family
    
    
    86,664
    
    
    
    15.2
    
    
    
    82,090
    
    
    
    15.7
    
    
    
    4,574Commercial
    
    
    263,954
    
    
    
    46.1
    
    
    
    234,606
    
    
    
    44.6
    
    
    
    29,348Construction (1)
    
    
    20,020
    
    
    
    3.5
    
    
    
    30,835
    
    
    
    5.9
    
    
    
    (10,815
    )Land acquisition and
development
    
    
    12,675
    
    
    
    2.2
    
    
    
    8,312
    
    
    
    1.6
    
    
    
    4,363Commercial and industrial loans
    
    
    67,978
    
    
    
    11.9
    
    
    
    56,942
    
    
    
    10.9
    
    
    
    11,036Consumer loans
    
    
    21,104
    
    
    
    3.7
    
    
    
    16,613
    
    
    
    3.2
    
    
    
    4,491Other loans (2)
    
    
    1,030
    
    
    
    0.2
    
    
    
    1,035
    
    
    
    0.2
    
    
    
    (5
    )Total loans receivable
    
    
    571,684
    
    
    
    100
    %
    
    
    524,158
    
    
    
    100
    %
    
    
    47,526Less:Allowance for loan loss
    
    
    (4,903
    )
    
    
    
    
    
    
    (4,587
    )
    
    
    
    
    
    
    (316
    )Net deferred loan fees
    
    
    (1,518
    )
    
    
    
    
    
    
    (1,394
    )
    
    
    
    
    
    
    (124
    )Net premiums
    
    
    106
    
    
    
    
    
    
    
    319
    
    
    
    
    
    
    
    (213
    )(6,315
    )
    
    
    
    
    
    
    (5,662
    )
    
    
    
    
    
    
    (653
    )Loans receivable, net
    
    $
    565,369
    
    
    
    
    
    
    $
    518,496
    
    
    
    
    
    
    $
    46,873
  (1)
    
    Includes loans secured by residential, land and commercial
properties. At June 30, 2004, we had $10.8 million of construction
loans secured by residential properties, $3.3 million for land
development and $5.9 million secured by commercial properties(2)
    
    Includes loans collateralized by deposits and consumer line of
credit loans. Securities classified as available for sale increased to $426.7 million at
June 30, 2004, as compared to $398.7 million at December 31, 2003, an increase
of $28.0 million or 7.0%. The Company manages the securities portfolio in
order to enhance net interest income and net market value, as opportunities
dictate, and deploys excess capital in investment assets until such time as the
Company can reinvest into loans or other community banking assets that generate
higher risk-adjusted returns. The amortized historical cost, market values and gross unrealized gains
and losses of securities are as follows: Gross
    
    GrossAmortized
    
    Unrealized
    
    Unrealized
    
    Fair(Dollars in thousands)
    
    Cost
    
    Gains
    
    Losses
    
    ValueSecurities Available for Sale:June 30, 2004Mortgage-backed securities  pass through
    
    $
    134,638
    
    
    $
    351
    
    
    ($
    1,446
    )
    
    $
    133,543Collateralized mortgage obligations
    
    
    57,998
    
    
    
    1
    
    
    
    (708
    )
    
    
    57,291Commercial mortgage-backed securities
    
    
    50,633
    
    
    
    188
    
    
    
    (123
    )
    
    
    50,698Asset-backed securities
    
    
    183,659
    
    
    
    1,096
    
    
    
    (1,062
    )
    
    
    183,693Corporate debt securities
    
    
    1,530
    
    
    
    
    
    
    
    (17
    )
    
    
    1,513$
    428,458
    
    
    $
    1,636
    
    
    ($
    3,356
    )
    
    $
    426,738
 - 15 -




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Gross
    
    GrossAmortized
    
    Unrealized
    
    Unrealized
    
    Fair(Dollars in thousands)
    
    Cost
    
    Gains
    
    Losses
    
    ValueSecurities Available for Sale:December 31, 2003Mortgage-backed securities  pass through
    
    $
    129,766
    
    
    $
    915
    
    
    ($
    307
    )
    
    $
    130,374Collateralized mortgage obligations
    
    
    48,704
    
    
    
    
    
    
    
    (123
    )
    
    
    48,581Commercial mortgage-backed securities
    
    
    59,927
    
    
    
    1,022
    
    
    
    (33
    )
    
    
    60,916Asset-backed securities
    
    
    157,821
    
    
    
    404
    
    
    
    (973
    )
    
    
    157,252Corporate debt securities
    
    
    1,489
    
    
    
    79
    
    
    
    
    
    
    
    1,568$
    397,707
    
    
    $
    2,420
    
    
    ($
    1,436
    )
    
    $
    398,691
 The fair values of securities can change due to credit concerns, i.e.
whether the issuer will in fact be able to pay the obligation when due,
prepayment speeds, and due to changes in interest rates. All of the available
for sale securities held by the Company are carried at their fair value.
Adjustments to the carrying amount for changes in fair value for securities
classified as available-for-sale are not recorded in the Companys income
statement. Instead, the after-tax effect of the change is shown in other
comprehensive income. Consequently, as shown in the tables above, there are
unrealized gains and losses related to the available for sale securities held
by the Company. The following table discloses security balances by categories that are at
an unrealized loss at June 30, 2004 with the corresponding duration of the
loss. Included in the table are 86 securities that have been in an unrealized
loss position for less than a year and 8 securities that have been in an
unrealized loss position for more than one year. Although the securities have
varying levels of credit risk, the Company has concluded that none of these
securities is other than temporarily impaired and the full recovery of
principal and interest is expected if held to maturity. The Company has the
ability and intent to hold these securities until recovery. Less than 12 Months
    
    12 Months or More
    
    TotalFair
    
    Unrealized
    
    Fair
    
    Unrealized
    
    Fair
    
    Unrealized(Dollars in thousands)June 30, 2004
    
    Value
    
    Losses
    
    Value
    
    Losses
    
    Value
    
    LossesMortgage-backed
securities  pass
through
    
    $
    102,194
    
    
    ($
    1,402
    )
    
    $
    6,059
    
    
    $
    (44
    )
    
    $
    108,253
    
    
    ($
    1,446
    )Collateralized mortgage
obligations
    
    
    56,698
    
    
    
    (708
    )
    
    
    
    
    
    
    
    
    
    
    56,698
    
    
    
    (708
    )Commercial
mortgage-backed
securities
    
    
    29,632
    
    
    
    (89
    )
    
    
    809
    
    
    
    (34
    )
    
    
    30,441
    
    
    
    (123
    )Asset-backed securities
    
    
    24,803
    
    
    
    (162
    )
    
    
    6,021
    
    
    
    (900
    )
    
    
    30,824
    
    
    
    (1,062
    )Corporate debt securities
    
    
    1,513
    
    
    
    (17
    )
    
    
    
    
    
    
    
    
    
    
    1,513
    
    
    
    (17
    )$
    214,840
    
    
    ($
    2,378
    )
    
    $
    12,889
    
    
    ($
    978
    )
    
    $
    227,729
    
    
    ($
    3,356
    )
 - 16 -




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Less than 12 Months
    
    12 Months or More
    
    TotalDecember 31, 2003
    
    Fair
    
    Unrealized
    
    Fair
    
    Unrealized
    
    Fair
    
    Unrealized(Dollars in thousands)
    
    Value
    
    Losses
    
    Value
    
    Losses
    
    Value
    
    LossesMortgage-backed
securities  pass
through
    
    $
    49,450
    
    
    ($
    307
    )
    
    
    
    
    
    
    
    
    
    $
    49,450
    
    
    ($
    307
    )Collateralized mortgage
obligations
    
    
    48,581
    
    
    
    (123
    )
    
    
    
    
    
    
    
    
    
    
    48,581
    
    
    
    (123
    )Commercial
mortgage-backed
securities
    
    
    2,766
    
    
    
    (33
    )
    
    
    
    
    
    
    
    
    
    
    2,766
    
    
    
    (33
    )Asset-backed securities
    
    
    29,092
    
    
    
    (973
    )
    
    
    
    
    
    
    
    
    
    
    29,092
    
    
    
    (973
    )Corporate debt securities
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    129,889
    
    
    ($
    1,436
    )
    
    
    
    
    
    
    
    
    
    $
    129,889
    
    
    ($
    1,436
    )
 As of June 30, 2004, there were eight securities in an unrealized loss
position for greater than twelve months: three mortgage backed securities, one
commercial mortgage-backed security, and four asset-backed securities. Of the
four asset backed securities in an unrealized loss position for a period
greater than twelve months, one was mortgage related and three were
non-mortgage related. As to the one mortgage-related asset backed security,
management believes that the unrealized loss associated with this investment is
attributable to changes in interest rates and spreads, and accordingly, the
unrealized losses are not other-than-temporary impairments. The 3
non-mortgage related asset-backed positions all relate to the same security,
DVI 2002 A-3A, having a fair value and unrealized loss of $4.3 million and $899
thousand, respectively, at June 30, 2004. This security is collateralized by a
pool of loans and leases on medical equipment and medical business
loans, is of
the senior tranches of the securities issued with priority cash flow
rights, and
is rated B1 by Moodys and CCC by Fitch, as of June 30, 2004. Management
believes that the $899 thousand of unrealized loss on this security is
attributable to uncertainty surrounding the bankruptcy of the servicer, DVI,
Inc. (DVI) and therefore the ability of the loans to be adequately monitored
and serviced, as well as uncertainty about the future delinquency and default
rates on the underlying loans. On February 24, 2004, an agreement was
finalized to transfer the servicing of DVI securities to U.S. Bank, NA. Since
December 2003, U.S. Bank personnel have been assisting DVI with the servicing
of these securities and underlying loans. As of the six-months ending June 30,
2004, and as a result of our senior tranche position, 17% of our outstanding
principal has been returned, and the average life of the security is estimated
to be approximately two years. Management performs a stress test of the
delinquencies on the underlying loans and the recovery rates of defaulted
loans, and under these assumptions that are more conservative than current
experience, Management projects that all interest and principal can be
recovered on this security if held to maturity. The Due from broker account increased to $5.5 million at June 30, 2004,
as compared to $0.0 at December 31, 2003, as a result of the sale of securities
classified as available for sale, which were sold in the quarter but not
settled until after quarter-end. In accordance with trade date accounting, the
securities were not included in available for sale assets with a corresponding
asset in the due from broker account. Total deposits increased to $589.8 million as of June 30, 2004, as
compared to $570.7 million as of December 31, 2003, an increase of $19.1
million or 3.3%. The increase in deposits was attributable to the recently
opened Overland Park and Ventura community banking offices in Kansas and
California, opening in December 2003 and April 2004, respectively, with growth
of $18.5 million and $9.2 million, respectively, during the six months ended
June 30, 2004, while deposits in most other markets slightly decreased due to
the Companys emphasis on reducing the cost of higher rate sensitive deposits. - 17 -




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##### Table of Contents



Advances from the Federal Home Loan Bank (FHLB) of San Francisco
increased to $295.0 million at June 30, 2004, compared to $262.5 million at
December 31, 2003, a $32.5 million or 12.4% increase. During the quarter, the
Company used FHLB advances and the growth of deposits in order to support the
increase in new loan fundings. For additional information concerning
limitations on FHLB advances, see Liquidity and Capital Resources. The Due to broker account increased to $12.8 million at June 30, 2004,
as compared to $0.0 at December 31, 2003, as a result of the purchase of
securities classified as available for sale, which were purchased in the
quarter but not settled until after quarter-end. In accordance with trade date
accounting, the securities were included in available for sale assets with a
corresponding liability in the due to broker account. On April 20, 2004, the Company engaged in a $14.0 million, three year
fixed rate term repurchase agreement at rate of 2.5% to further reduce interest
rate risk. Stockholders equity increased to $49.0 million at June 30, 2004, as
compared to $48.1 million at December 31, 2003, an increase of $895 thousand or
1.9%. The $895 thousand increase in stockholders equity was positively
influenced by $4.0 million of net income recognized during the six-month
period, a $1.6 million increase in the value of the effective portion of the
interest rate swaps used as cash flow hedges to modify the interest rate
sensitivity of the Banks short-term FHLB advances and $420 thousand of
incentive stock options exercised. A $1.6 million decrease in the unrealized
gains on securities available for sale and $3.6 million in dividends paid on
the Companys common stock offset these increases. With respect to the pay
fixed rate, receive 3-month LIBOR swaps referred to above, the increase in
value was attributable to the general increase in interest rates during the
quarter. Results of Operations The Company reported net income of $2.0 million for the three months ended
June 30, 2004, as compared to $1.8 million for the three months ended June 30,
2003, an increase of $169 thousand or 9.3%. The Company reported net income of
$4.0 million for the six months ended June 30, 2004, as compared to $3.4
million for the six months ended June 30, 2003, an increase of $624 thousand or
18.3%. The increase in net income was primarily driven by an increase in net
interest income and a decline in the provision for loan losses, and was
partially offset by an increase in non-interest expense and a decrease in other
income. The Companys overall tax rate was reduced in the first quarter of
2004 due to the apportionment of taxable income to states with lower income tax
rates. On a diluted earnings per share basis, the Company earned $.35 per
share for the three months ended June 30, 2004, compared to $.33 per share for
the three months ended June 30, 2003. On a diluted earnings per share basis,
the Company earned $.72 per share for the six months ended June 30, 2004,
compared to $.63 per share for the six months ended June 30, 2003. Return on
average equity was 16.1% and 16.7% in the June quarter and year-to-date periods
compared to 16.3% and 15.6% in the same periods in 2003, respectively. The Companys net interest income after provision for loan losses
increased by $1.3 million or 20.9% to $7.3 million in the three months ended
June 30, 2004 over the prior comparable period in 2003. The Companys net
interest income after provision for loan losses increased by $2.3 million or
19.6% to $14.2 million during the six months ended June 30, 2004 over the prior
comparable period in 2003. The increase in the Companys net interest income
during both periods reflected the continued growth in its interest-earning
assets and its increased focus on higher spread-earning loans, primarily
commercial and industrial, commercial real estate, and multi-family residential
real estate loans. The net interest margin remained relatively constant at
3.05% during the three months ended June 30, 2004, when compared to 3.04% in
the same period of 2003. The net interest margin decreased by 6 basis points
to 3.0% during the six months ended June 30, 2004, when compared to the same
period in 2003. The slight decline in the net interest margin is due to the
$93 million in average growth in lower margin investment securities and lower
market rates, with the total yield on investment securities decreasing by 27
basis points from the six-month period ending June 2004 quarter compared to the
June 2003 quarter. The investment growth - 18 -




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##### Table of Contents



was complimented by $62 million in average loan growth, with the total
yield on loans declining by 34 basis points with the lower market rates. Over
the same period, the cost of interest-bearing liabilities decreased by 34 basis
points. - 19 -




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##### Table of Contents



The following tables sets forth, for the periods presented, information
regarding (i) the total dollar amount of interest income from interest-earning
assets and the resultant average yields; (ii) the total dollar amount of
interest expense on interest-bearing liabilities and the resultant average
rate; (iii) net interest income before provision for loan losses; (iv) interest
rate spread; and (v) net interest margin. No tax equivalent adjustments were
made during the periods presented. Information is based on average daily
balances during the presented periods. Three months ended June 30,2004
    
    2003Average
    
    
    
    
    
    
    
    
    
    AverageAverage
    
    
    
    
    
    Yield/
    
    Average
    
    
    
    
    
    Yield/Balance
    
    Interest
    
    Cost
    
    Balance
    
    Interest
    
    Cost(Dollars in thousands)Interest-earning assets:Loans receivable (1)
    
    $
    542,073
    
    
    $
    8,752
    
    
    
    6.46
    %
    
    $
    482,347
    
    
    $
    8,177
    
    
    
    6.78
    %FHLB stock
    
    
    14,022
    
    
    
    140
    
    
    
    4.01
    %
    
    
    13,221
    
    
    
    158
    
    
    
    4.80
    %Securities and trading account assets (2)
    
    
    416,360
    
    
    
    3,824
    
    
    
    3.67
    %
    
    
    311,481
    
    
    
    2,913
    
    
    
    3.74
    %Cash and cash equivalents (3)
    
    
    11,611
    
    
    
    11
    
    
    
    .39
    %
    
    
    18,129
    
    
    
    58
    
    
    
    1.29
    %Total interest-earning assets
    
    
    984,066
    
    
    
    12,727
    
    
    
    5.17
    %
    
    
    825,178
    
    
    
    11,306
    
    
    
    5.48
    %Noninterest-earning assets
    
    
    25,959
    
    
    
    
    
    
    
    
    
    
    
    22,890Total assets
    
    $
    1,010,025
    
    
    
    
    
    
    
    
    
    
    $
    848,068Interest-bearing liabilities:Deposits:NOW and money market accounts
    
    
    115,118
    
    
    
    239
    
    
    
    .84
    %
    
    
    126,828
    
    
    
    362
    
    
    
    1.14
    %Passbook accounts and certificates of deposit
    
    
    439,945
    
    
    
    2,282
    
    
    
    2.09
    %
    
    
    380,646
    
    
    
    2,285
    
    
    
    2.41
    %Total deposits
    
    
    555,063
    
    
    
    2,521
    
    
    
    1.83
    %
    
    
    507,474
    
    
    
    2,647
    
    
    
    2.09
    %FHLB advances (4)
    
    
    271,900
    
    
    
    2,046
    
    
    
    2.98
    %
    
    
    242,120
    
    
    
    2,215
    
    
    
    3.62
    %Reverse Repurchase Agreements
    
    
    76,685
    
    
    
    500
    
    
    
    2.58
    %
    
    
    10,128
    
    
    
    73
    
    
    
    2.86
    %Other borrowings (5)
    
    
    15,000
    
    
    
    165
    
    
    
    4.36
    %
    
    
    12,711
    
    
    
    114
    
    
    
    3.55
    %Total interest-bearing liabilities
    
    
    918,648
    
    
    
    5,232
    
    
    
    2.27
    %
    
    
    772,433
    
    
    
    5,049
    
    
    
    2.61
    %Non-interest-bearing deposits
    
    
    29,194
    
    
    
    
    
    
    
    
    
    
    
    20,388Non-interest-bearing liabilities
    
    
    13,065
    
    
    
    
    
    
    
    
    
    
    
    10,834Total liabilities
    
    
    960,907
    
    
    
    
    
    
    
    
    
    
    
    803,655Stockholders equity
    
    
    49,118
    
    
    
    
    
    
    
    
    
    
    
    44,413Total liabilities and stockholders equity
    
    $
    1,010,025
    
    
    
    
    
    
    
    
    
    
    $
    848,068Net interest-earning assets (liabilities)
    
    $
    65,418
    
    
    
    
    
    
    
    
    
    
    $
    52,745Net interest income/interest rate spread
    
    
    
    
    
    $
    7,495
    
    
    
    2.90
    %
    
    
    
    
    
    $
    6,257
    
    
    
    2.87
    %Net interest margin
    
    
    
    
    
    
    
    
    
    
    3.05
    %
    
    
    
    
    
    
    
    
    
    
    3.04
    %Ratio of average interest-earnings assets to
average interest-bearing liabilities
    
    
    
    
    
    
    
    
    
    
    107.12
    %
    
    
    
    
    
    
    
    
    
    
    106.83
    %
  1)
    
    Includes non-accrual loans. Interest income includes fees
earned on loans originated.2)
    
    Consists of securities classified as available for sale, held
to maturity and trading account assets.3)
    
    Consists of cash and due from banks and federal funds sold.4)
    
    Interest on FHLB advances is net of hedging costs. The
Company uses pay-fixed, receive floating LIBOR swaps to hedge the
short term repricing characteristics of the floating FHLB advances.5)
    
    Consists of other debt and a note payable under a revolving
line of credit. - 20 -




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##### Table of Contents



Six months ended June 30,2004
    
    2003Average
    
    
    
    
    
    
    
    
    
    AverageAverage
    
    
    
    
    
    Yield/
    
    Average
    
    
    
    
    
    Yield/Balance
    
    Interest
    
    Cost
    
    Balance
    
    Interest
    
    Cost(Dollars in thousands)Interest-earning assets:Loans receivable (1)
    
    $
    533,537
    
    
    $
    17,344
    
    
    
    6.50
    %
    
    $
    471,705
    
    
    $
    16,131
    
    
    
    6.84
    %FHLB stock
    
    
    13,796
    
    
    
    264
    
    
    
    3.83
    %
    
    
    12,795
    
    
    
    318
    
    
    
    4.97
    %Securities and trading account assets (2)
    
    
    409,435
    
    
    
    7,343
    
    
    
    3.59
    %
    
    
    316,016
    
    
    
    6,103
    
    
    
    3.86
    %Cash and cash equivalents (3)
    
    
    12,751
    
    
    
    23
    
    
    
    .36
    %
    
    
    16,830
    
    
    
    112
    
    
    
    1.33
    %Total interest-earning assets
    
    
    969,519
    
    
    
    24,974
    
    
    
    5.15
    %
    
    
    817,346
    
    
    
    22,664
    
    
    
    5.55
    %Noninterest-earning assets
    
    
    24,659
    
    
    
    
    
    
    
    
    
    
    
    23,166Total assets
    
    $
    994,178
    
    
    
    
    
    
    
    
    
    
    $
    840,512Interest-bearing liabilities:Deposits:NOW and money market accounts
    
    
    118,612
    
    
    
    518
    
    
    
    .87
    %
    
    
    129,925
    
    
    
    741
    
    
    
    1.14
    %Passbook accounts and certificates of deposit
    
    
    433,837
    
    
    
    4,538
    
    
    
    2.09
    %
    
    
    377,785
    
    
    
    4,571
    
    
    
    2.42
    %Total deposits
    
    
    552,449
    
    
    
    5,056
    
    
    
    1.83
    %
    
    
    507,710
    
    
    
    5,312
    
    
    
    2.09
    %FHLB advances (4)
    
    
    265,841
    
    
    
    4,124
    
    
    
    3.10
    %
    
    
    241,492
    
    
    
    4,564
    
    
    
    3.78
    %Reverse Repurchase Agreements
    
    
    71,153
    
    
    
    930
    
    
    
    2.62
    %
    
    
    5,518
    
    
    
    74
    
    
    
    2.73
    %Other borrowings (5)
    
    
    15,000
    
    
    
    330
    
    
    
    4.40
    %
    
    
    12,044
    
    
    
    220
    
    
    
    3.65
    %Total interest-bearing liabilities
    
    
    904,443
    
    
    
    10,440
    
    
    
    2.31
    %
    
    
    766,764
    
    
    
    10,170
    
    
    
    2.65
    %Non-interest-bearing deposits
    
    
    28,363
    
    
    
    
    
    
    
    
    
    
    
    18,923Non-interest-bearing liabilities
    
    
    12,848
    
    
    
    
    
    
    
    
    
    
    
    11,143Total liabilities
    
    
    945,654
    
    
    
    
    
    
    
    
    
    
    
    796,830Stockholders equity
    
    
    48,524
    
    
    
    
    
    
    
    
    
    
    
    43,682Total liabilities and stockholders equity
    
    $
    994,178
    
    
    
    
    
    
    
    
    
    
    $
    840,512Net interest-earning assets (liabilities)
    
    $
    65,076
    
    
    
    
    
    
    
    
    
    
    $
    50,582Net interest income/interest rate spread
    
    
    
    
    
    $
    14,534
    
    
    
    2.84
    %
    
    
    
    
    
    $
    12,494
    
    
    
    2.90
    %Net interest margin
    
    
    
    
    
    
    
    
    
    
    3.00
    %
    
    
    
    
    
    
    
    
    
    
    3.06
    %Ratio of average interest-earnings assets to
average interest-bearing liabilities
    
    
    
    
    
    
    
    
    
    
    107.20
    %
    
    
    
    
    
    
    
    
    
    
    106.60
    %
  1)
    
    Includes non-accrual loans. Interest income includes fees
earned on loans originated.2)
    
    Consists of securities classified as available for sale, held
to maturity and trading account assets.3)
    
    Consists of cash and due from banks and federal funds sold.4)
    
    Interest on FHLB advances is net of hedging costs. The
Company uses pay-fixed, receive floating LIBOR swaps to hedge the
short term repricing characteristics of the floating FHLB advances.5)
    
    Consists of other debt and a note payable under a revolving
line of credit. - 21 -




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##### Table of Contents



The following tables sets forth the effects of changing rates and volumes
on net interest income. Information is provided with respect to (i) effects on
interest income attributable to changes in rates (changes in rate multiplied by
prior volume); (ii) effects on interest income attributable to changes in
volume (changes in volume multiplied by prior rate); (iii) changes in
rate/volume (change in rate multiplied by change in volume). Three Months EndedJune 30, 2004 vs. June
30, 2003Increase (decrease) due to
    
    Total NetRate/
    
    IncreaseRate
    
    Volume
    
    Volume
    
    (Decrease)(In Thousands)Interest-earning assets:Loans receivable
    
    ($
    1,552
    )
    
    $
    4,049
    
    
    ($
    1,922
    )
    
    $
    575FHLB stock
    
    
    (105
    )
    
    
    38
    
    
    
    49
    
    
    
    (18
    )Securities and trading account assets (1)
    
    
    (211
    )
    
    
    3,924
    
    
    
    (2,802
    )
    
    
    911Cash and cash equivalents (2)
    
    
    (163
    )
    
    
    (84
    )
    
    
    200
    
    
    
    (47
    )TotalTotal net change in income on interest-
earning assets
    
    
    (2,031
    )
    
    
    7,927
    
    
    
    (4,475
    )
    
    
    1,421Interest-bearing liabilities:DepositsNOW and money market accounts
    
    
    (391
    )
    
    
    (134
    )
    
    
    402
    
    
    
    (123
    )Passbook accounts and certificates
of deposit
    
    
    (1,224
    )
    
    
    1,428
    
    
    
    (207
    )
    
    
    (3
    )Total deposits
    
    
    (1,615
    )
    
    
    1,294
    
    
    
    195
    
    
    
    (126
    )FHLB advances (3)
    
    
    (1,557
    )
    
    
    1,078
    
    
    
    310
    
    
    
    (169
    )Reverse Repurchase Agreements
    
    
    (28
    )
    
    
    1,903
    
    
    
    (1,448
    )
    
    
    427Other borrowings (4)
    
    
    103
    
    
    
    81
    
    
    
    (133
    )
    
    
    51Total net change in expense on interest-
bearing liabilities
    
    
    (3,097
    )
    
    
    4,356
    
    
    
    (1,076
    )
    
    
    183Change in net interest income
    
    $
    1,066
    
    
    $
    3,571
    
    
    ($
    3,399
    )
    
    $
    1,238
  1)
    
    Includes non-accrual loans. Interest income includes
fees earned on loans originated.2)
    
    Consists of securities classified as available for
sale, held to maturity and trading account assets.3)
    
    Consists of cash and due from banks and federal funds
sold.4)
    
    Interest on FHLB advances is net of hedging costs. The
Company uses pay-fixed, receive floating LIBOR swaps to hedge the
short term repricing characteristics of the floating FHLB
advances.5)
    
    Consists of other debt and a note payable under a
revolving line of credit. - 22 -




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##### Table of Contents



Six Months EndedJune 30, 2004 vs. June
30, 2003Increase (decrease) due to
    
    Total NetRate/
    
    IncreaseRate
    
    Volume
    
    Volume
    
    (Decrease)(In Thousands)Interest-earning assets:Loans receivable
    
    ($
    1,593
    )
    
    $
    4,229
    
    
    ($
    1,423
    )
    
    $
    1,213FHLB stock
    
    
    (146
    )
    
    
    50
    
    
    
    42
    
    
    
    (54
    )Securities and trading account assets (1)
    
    
    (871
    )
    
    
    3,608
    
    
    
    (1,497
    )
    
    
    1,240Cash and cash equivalents (2)
    
    
    (164
    )
    
    
    (54
    )
    
    
    129
    
    
    
    (89
    )Total net change in income on interest-
earning assets
    
    
    (2,774
    )
    
    
    7,833
    
    
    
    (2,749
    )
    
    
    2,310Interest-bearing liabilities:DepositsNOW and money market accounts
    
    
    (347
    )
    
    
    (129
    )
    
    
    253
    
    
    
    (223
    )Passbook accounts and certificates
of deposit
    
    
    (1,238
    )
    
    
    1,356
    
    
    
    (151
    )
    
    
    (33
    )Total deposits
    
    
    (1,585
    )
    
    
    1,227
    
    
    
    102
    
    
    
    (256
    )FHLB advances (3)
    
    
    (1,635
    )
    
    
    920
    
    
    
    275
    
    
    
    (440
    )Reverse Repurchase Agreements
    
    
    (7
    )
    
    
    1,794
    
    
    
    (931
    )
    
    
    856Other borrowings (4)
    
    
    92
    
    
    
    108
    
    
    
    (90
    )
    
    
    110Total net change in expense on interest-
bearing liabilities
    
    
    (3,135
    )
    
    
    4,049
    
    
    
    (644
    )
    
    
    270Change in net interest income
    
    $
    361
    
    
    $
    3,784
    
    
    ($
    2,105
    )
    
    $
    2,040
  1)
    
    Includes non-accrual loans. Interest income includes
fees earned on loans originated.2)
    
    Consists of securities classified as available for
sale, held to maturity and trading account assets.3)
    
    Consists of cash and due from banks and federal funds
sold.4)
    
    Interest on FHLB advances is net of hedging costs. The
Company uses pay-fixed, receive floating LIBOR swaps to hedge the
short term repricing characteristics of the floating FHLB
advances.5)
    
    Consists of other debt and a note payable under a
revolving line of credit. The Company reported interest income of $12.7 million for the three months
ended June 30, 2004, compared to $11.3 million for the three months ended June
30, 2003, an increase of $1.4 million or 12.6%. The Company reported total
interest income of $25.0 million for the six months ended June 30, 2004,
compared to $22.7 million for the six months ended June 30, 2003, an increase
of $2.3 million or 10.2%. The primary reason for the increase during the
periods was the increase in the volume of interest-earning assets in the
periods, which was partially offset by a decrease in the average rate on
interest-earning assets. The Company reported total interest expense of $5.2 million for the three
months ended June 30, 2004, compared to $5.0 million for the three months ended
June 30, 2003, an increase of $183 thousand or 3.6%. For the six months ended
June 30, 2004, the Company reported total interest expense of $10.4 million,
compared to $10.2 million for the six months ended June 30, 2003, an increase
of $270 thousand or 2.7%. The increase in interest expense during both periods
was attributable to an increase in the volume of interest-bearing liabilities
net of a decrease in the average rate on interest-bearing liabilities as a
result of the downward repricing of interest bearing-liabilities during the
respective periods. The Company recorded its provision for loan losses of $230 thousand during
the three months ended June 30, 2004, compared to $250 thousand for the three
months ended June 30, 2003, a decrease of $20 thousand. Provision for loan
losses of $320 thousand during the six months ended June 30, 2004, compared to
$610 thousand for the six months ended June 30, 2003, a decrease of $290
thousand, despite the $46.9 million in loan growth since December 31, 2003.
The provision reflects the reserves required based upon, among other things,
the Companys analysis of the composition, credit quality and growth of - 23 -




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its commercial real estate and commercial and industrial loan portfolios.
At June 30, 2004, the Company had $5 thousand of non-performing assets, as
compared to $12 thousand of total loans as of December 31, 2003. The Companys total other income, which includes gain and losses on
securities and extinguishment of debt, loans, deposits, borrowings, and trading
assets, plus banking fee income amounted to $930 thousand for the quarter
ending June 30, 2004 compared to $1.6 million during the same quarter last
year, a decrease of $632 thousand or 40.5%. The Companys total other income
amounted to $2.0 million for the six month period ending June 30, 2004 compared
to $2.7 million during the same period last year, a decrease of $703 thousand
or 25.8%. The decrease in other income was primarily attributable to a
decrease in mortgage brokerage and prepayment penalty fees as refinancings
slowed markedly and lower net gains on assets and liabilities. The Company attempts to manage its investment securities and the related
borrowings and hedges thereof on a duration-matched basis. As such, net gains
and losses on these investments are primarily the result of the changes in
interest rate spreads between the securities and the hedged borrowings and the
related effect on net market values. That is, as spreads tighten, net
mark-to-market gains are generated and as spreads widen, net mark-to-market
losses occur on these instruments. During the June 2004 quarter, the Company
had $82 thousand in net gains on trading assets, the sale of securities, other
gains and losses and the extinguishment of related borrowings compared to net
gain on these instruments of $362 thousand in the June 2003 quarter. For the
six-months ended June 30, 2004, the net gains on trading assets, the sale of
securities, other gains and losses, and the extinguishment of related
borrowings was $410 thousand compared to $497 thousand in the same period in
2003. The decrease in net gains in the first six months of 2004 over 2003 of
$87 thousand can be attributed largely to the higher spread narrowing of
investment grade, commercial mortgage backed securities to comparable duration
LIBOR swap rates in the first six-months of 2003 over 2004. Banking fee income amounted to $848 thousand for the quarter ending June
30, 2004 compared to $1.2 million during the same quarter last year, a decrease
of $352 thousand or 29.3%. Banking fee income amounted to $1.6 million for the
six-month period ending June 30, 2004 compared to $2.2 million during the same
period last year, a decrease of $616 thousand or 27.7%. Loan fees decreased
due to the slowdown of refinancing activity, which decreased mortgage brokerage
fees by $543 thousand or 46.7% and prepayment penalty fees decreased by $168
thousand or 35.1% when comparing the June 2004 six-month period to the June
2003 six-month period. Fees on deposits and trust fees from the Companys
subsidiary, Harrington Wealth Management Company, were the main source of the
growth in banking fee income. Deposit and other retail banking fee income
contributed $384 thousand for the six months ending June 2004, an increase of
$30 thousand or 8.5% as compared to the six-months ending June 30 2003.
Harrington Wealth Managements trust fee income contributed $295 thousand for
the six-months ending June 2004, an increase of $65 thousand or 28.3%, compared
to the same period last year. The Companys total other expenses were $4.9 million during the three
months ended June 30, 2004, as compared to $4.5 million for the three months
ended June 30, 2003, an increase of $398 thousand or 8.9%. The Companys total
other expenses were $9.6 million during the six months ended June 30, 2004, as
compared to $8.8 million for the six months ended June 30, 2003, an increase of
$843 thousand or 9.6%. The increase in expenses was largely due to the
expenses associated with the initial start-up expenses for the Companys new
banking operations in Overland Park, Kansas and Ventura, California and higher
costs for workers compensation insurance for the California operations and
other insurance coverages, as well as an increase in general corporate expenses
associated with the Company being a public company and the growth in banking
operations. Net income was favorably impacted in the June 2004 quarter and
year-to-date periods by a reduction in the Companys effective tax rate due to
the taxable income being earned and apportioned to - 24 -




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states with lower tax rates. The effective tax rate was 40.5% and 39.0%
in the June 2004 quarter and year-to-date periods, respectively, compared to
41.5% for both the June quarter and year-to-date in 2003. Liquidity and Capital Resources Liquidity.The liquidity of Los Padres Bank, as measured by the ratio of
cash, cash equivalents (not committed, pledged or required to liquidate
specific liabilities), investments and qualifying mortgage-backed securities to
the sum of total deposits plus borrowings payable within one year, was 34.2% at
June 30, 2004. At June 30, 2004, Los Padres Banks liquid assets totaled
approximately $189.7 million. The Companys liquidity, represented by cash and cash equivalents, is a
product of its operating, investing and financing activities. The Companys
primary sources of internal liquidity consist of deposits, prepayments and
maturities of outstanding loans and mortgage-backed and related securities,
maturities of short-term investments, sales of mortgage-backed and related
securities and funds provided from operations. The Companys external sources
of liquidity consist of borrowings, primarily advances from the FHLB of San
Francisco, securities sold under agreements to repurchase and a revolving line
of credit loan facility, which it maintains with two banks. At June 30, 2004,
the Company had $295.0 million in FHLB advances and had $72.3 million of
additional borrowing capacity with the FHLB of San Francisco based on a 35% of
total Bank asset limitation. Borrowing capacity from the FHLB is further
limited to $52.3 million based on excess collateral pledged at the FHLB as of
June 30, 2004. The Company has a revolving line of credit with a maximum borrowing
capacity of $15.0 million with a maturity of September 30, 2007. We anticipate
that we will utilize this line of credit as growth opportunities develop and to
provide working capital. At June 30, 2004 and December 31, 2003, the Company
had not utilized its revolving line of credit. Liquidity management is both a daily and long-term function of business
management. Excess liquidity is generally used to pay down short-term
borrowings. On a longer-term basis, the Company maintains a strategy of
investing in various mortgage-backed and related securities and loans. At June
30, 2004, the total approved loan commitments outstanding amounted to $36.9
million. Certificates of deposit scheduled to mature in one year or less at
June 30, 2004 totaled $44.1 million, and FHLB borrowings and repurchase
agreements scheduled to mature within the same period amounted to $276.0
million. Management believes the Company has adequate resources to fund all of
its commitments and the Company could either adjust the rate of certificates of
deposit in order to retain deposits in changing interest rate environments or
replace such deposits with advances from the FHLB of San Francisco, or other
borrowings, if it proved cost-effective to do so. A substantial source of the Companys cash flow from which it services its
debt and capital trust securities, pays its obligations, and pays dividends to
its shareholders is the receipt of dividends from Los Padres Bank. The
availability of dividends from Los Padres Bank is limited by various statutes
and regulations. In order to make such dividend payment, Los Padres Bank is
required to provide 30 days advance notice to the Office of Thrift Supervision
(OTS), during which time the OTS may object to such dividend payment. It is
possible, depending upon the financial condition of Los Padres Bank and other
factors, the OTS could object to the payment of dividends by Los Padres Bank on
the basis that the payment of such dividends is an unsafe or unsound practice.
The OTS, on July, 7, 2004, approved the payment of $6 million in dividends from
Los Padres Bank to the Company over the next four quarters. Capital Resources.Federally insured savings institutions such as Los
Padres Bank are required to maintain minimum levels of regulatory capital.
Under applicable regulations, an institution is well capitalized if it has a
total risk-based capital ratio of at least 10.0%, a Tier 1 risk-based capital
ratio of at least 6.0% and a leverage ratio of at least 5.0%, with no written
agreement, order, capital directive, prompt corrective action directive or
other individual requirement by the OTS to maintain a specific capital measure.
An institution is adequately capitalized if it has a total risk-based capital
ratio of at least - 25 -




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8.0% and a Tier 1 risk-based capital ratio of at least 4.0% and a leverage
ratio of at least 4.0% (or 3.0% if it has a composite rating of 1). The
regulation also establishes three categories for institutions with lower
ratios: undercapitalized, significantly undercapitalized and critically
undercapitalized. At June 30, 2004, Los Padres Bank met the capital
requirements of a well capitalized institution under applicable OTS
regulations. At June 30, 2004, the Banks Tier 1 (Core) Capital Ratio was
6.11%, Total Risk-Based Capital Ratio was 10.43%, Tier 1 Risk-Based Capital
Ratio was 9.68% and Tangible Equity Ratio was 6.11%. Asset and Liability Management In general, thrift financial institutions are negatively affected by an
increase in interest rates to the extent that interest-bearing liabilities
mature or reprice more rapidly than interest-earning assets. The lending
activities of savings institutions have historically emphasized the origination
of long-term, fixed-rate loans secured by single-family residences, and the
primary source of funds of such institutions has been deposits, which largely
mature or are subject to repricing within a shorter period of time. This
factor has historically caused the income and market value of portfolio equity
(MVPE) of savings institutions to be more volatile than other financial
institutions. MVPE is defined as the net present value of the cash flows from an
institutions existing assets, liabilities and off-balance sheet instruments.
The MVPE is estimated by valuing our assets, liabilities and off-balance sheet
instruments under various interest rate scenarios. The extent to which assets
gain or lose value in relation to the gains or losses of liabilities determines
the appreciation or depreciation in equity on a market value basis. MVPE
analysis is intended to evaluate the impact of immediate and sustained interest
rate shifts of the current yield curve upon the market value of the current
balance sheet. While having liabilities that reprice more frequently than
assets is generally beneficial to net interest income and MVPE in times of
declining interest rates, such an asset/liability mismatch is generally
detrimental during periods of rising interest rates. The Companys management believes that its asset and liability management
strategy, as discussed below, provides it with a competitive advantage over
other financial institutions. The Company believes that its ability to hedge
its interest rate exposure through the use of various interest rate contracts
provides it with the flexibility to acquire loans structured to meet its
customers preferences and investments that provide attractive net
risk-adjusted spreads, regardless of whether the customers loan or our
investment is fixed-rate or adjustable-rate or short-term or long-term.
Similarly, the Company can choose a cost-effective source of funds and
subsequently engage in an interest rate swap or other hedging transaction so
that the interest rate sensitivities of its interest-earning assets and
interest-bearing liabilities are more closely matched. The Companys asset and liability management strategy is formulated and
monitored by the board of directors of Los Padres Bank. The Boards written
policies and procedures are implemented by the Asset and Liability Committee of
Los Padres Bank (ALCO), which is comprised of Los Padres Banks chief
executive officer, president, chief financial officer, senior controller,
director of financial reporting and four non-employee directors of Los Padres
Bank. The ALCO meets at least eight times a year to review the sensitivity of
Los Padres Banks assets and liabilities to interest rate changes, investment
opportunities, the performance of the investment portfolios, and prior purchase
and sale activity of securities. The ALCO also provides guidance to management
on reducing interest rate risk and on investment strategy and retail pricing
and funding decisions with respect to Los Padres Banks overall asset and
liability composition. The ALCO reviews Los Padres Banks liquidity, cash flow
needs, interest rate sensitivity of investments, deposits and borrowings, core
deposit activity, current market conditions and interest rates on both a local
and national level in connection with fulfilling its responsibilities. The ALCO regularly reviews interest rate risk with respect to the impact
of alternative interest rate scenarios on net interest income and on Los Padres
Banks MVPE. The Asset and Liability - 26 -




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##### Table of Contents



Committee also reviews analyses concerning the impact of changing market
volatility, prepayment forecast error, and changes in option-adjusted spreads
and non-parallel yield curve shifts. In the absence of hedging activities, the Companys MVPE would decline as
a result of a general increase in market rates of interest. This decline would
be due to the market values of the Companys assets being more sensitive to
interest rate fluctuations than are the market values of its liabilities due to
its investment in and origination of generally longer-term assets which are
funded with shorter-term liabilities. Consequently, the elasticity (i.e.,the
change in the market value of an asset or liability as a result of a change in
interest rates) of the Companys assets is greater than the elasticity of its
liabilities. Accordingly, the primary goal of the Companys asset and liability
management policy is to effectively increase the elasticity of its liabilities
and/or effectively contract the elasticity of its assets so that the respective
elasticities are matched as closely as possible. This elasticity adjustment
can be accomplished internally, by restructuring the balance sheet, or
externally by adjusting the elasticities of assets and/or liabilities through
the use of interest rate contracts. The Companys strategy is to hedge, either
internally through the use of longer-term certificates of deposit or less
sensitive transaction deposits and FHLB advances, or externally through the use
of various interest rate contracts. External hedging generally involves the use of interest rate swaps, caps,
floors, options and futures. The notional amount of interest rate contracts
represents the underlying amount on which periodic cash flows are calculated
and exchanged between counterparties. However, this notional amount does not
necessarily represent the principal amount of securities that would effectively
be hedged by that interest rate contract. In selecting the type and amount of interest rate contract to utilize, the
Company compares the elasticity of a particular contract to that of the
securities to be hedged. An interest rate contract with the appropriate
offsetting elasticity could have a notional amount much greater than the face
amount of the securities being hedged. The Company adopted SFAS No. 133, Accounting for Derivative Instruments
and Hedging Activities,on January 1, 2001. SFAS No. 133 requires that an
entity recognize all interest rate contracts as either assets or liabilities in
the statement of financial condition and measure those instruments at fair
value. If certain conditions are met, an interest rate contract may be
specifically designated as a fair value hedge, a cash flow hedge, or a hedge of
foreign currency exposure. The accounting for changes in the fair value of an
interest rate contract (that is, gains and losses) depends on the intended use
of the interest rate contract and the resulting designation. To qualify for
hedge accounting, the Company must show that, at the inception of the interest
rate contracts, and on an ongoing basis, the changes in the fair value of the
interest rate contracts are expected to be highly effective in offsetting
related changes in the cash flows of the hedged liabilities. The Company has
entered into various interest rate swaps for the purpose of hedging certain of
its short-term liabilities. These interest rate swaps qualify for hedge
accounting. Accordingly, the effective portion of the accumulated change in
the fair value of the cash flow hedges is recorded in a separate component of
stockholders equity, net of tax, while the ineffective portion is recognized
in earnings immediately. The Company has also entered into various total return swaps where cash
flows are based on the level and changes in the yield spread on investment
grade commercial mortgage backed security indexes relative to similar duration
LIBOR swap rates. These swaps do not qualify for hedge accounting treatment
and are included in the trading account assets and are reported at fair value
with realized and unrealized gains and losses on these instruments recognized
in income (loss) from trading account assets. At June 30, 2004, the Company had
$145 million of these swaps, and a 10 basis point spread change is expected to
have a $696 thousand pre-tax mark-to-market value effect. - 27 -




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Item 3: Quantitative and Qualitative Disclosures about Market Risk The OTS requires each thrift institution to calculate the estimated change
in the institutions MVPE assuming an instantaneous, parallel shift in the
Treasury yield curve of 100 to 300 basis points either up or down in 100 basis
point increments. The OTS permits institutions to perform this MVPE analysis
using their own internal model based upon reasonable assumptions. In estimating the market value of mortgage loans and mortgage-backed
securities, the Company utilizes various prepayment assumptions, which vary, in
accordance with historical experience, based upon the term, interest rate,
prepayment penalties, if applicable, and other factors with respect to the
underlying loans. At June 30, 2004, these prepayment assumptions varied from
7.5% to 34.0% for fixed-rate mortgages and mortgage-backed securities and
varied from 2.0% to 47.9% for adjustable-rate mortgages and mortgage-backed
securities. The following table sets forth at June 30, 2004 the estimated sensitivity
of Los Padres Banks MVPE to parallel yield curve shifts using the Companys
internal market value calculation. The table demonstrates the sensitivity of
the Companys assets and liabilities both before and after the inclusion of its
interest rate contracts. Change In Interest Rates (In Basis Points)(1)-300
    
    -200
    
    -100
    
    -
    
    +100
    
    +200
    
    +300(Dollars in Thousands)Market value gain (loss) in assets
    
    $
    40,298
    
    
    $
    30,691
    
    
    $
    17,086
    
    
    
    
    
    
    ($
    19,839
    )
    
    ($
    41,652
    )
    
    ($
    64,652
    )Market value gain (loss) of liabilities
    
    
    (24,106
    )
    
    
    (17,469
    )
    
    
    (9,006
    )
    
    
    
    
    
    
    9,209
    
    
    
    18,479
    
    
    
    27,647Market value gain (loss) of net assets
before interest rate contracts
    
    
    16,192
    
    
    
    13,222
    
    
    
    8,080
    
    
    
    
    
    
    
    (10,630
    )
    
    
    (23,173
    )
    
    
    (37,005
    )Market value gain (loss) of interest
rate contracts before tax
    
    
    (18,617
    )
    
    
    (11,953
    )
    
    
    (5,757
    )
    
    
    
    
    
    
    5,405
    
    
    
    10,514
    
    
    
    15,343Total change in MVPE (2)
    
    ($
    2,425
    )
    
    $
    1,269
    
    
    $
    2,323
    
    
    
    
    
    
    ($
    5,225
    )
    
    ($
    12,659
    )
    
    ($
    21,662
    )Change in MVPE as a percent of:MVPE(2)
    
    
    -2.84
    %
    
    
    1.49
    %
    
    
    2.72
    %
    
    
    
    
    
    
    -6.12
    %
    
    
    -14.84
    %
    
    
    -25.39
    %MVPE post shock ratio (3)
    
    
    -0.51
    %
    
    
    0.10
    %
    
    
    0.09
    %
    
    
    
    
    
    
    -0.35
    %
    
    
    -0.92
    %
    
    
    -1.67
    %
   (1)
    
    Assumes an instantaneous parallel change in interest rates at all
maturities.(2)
    
    Based on the Companys pre-tax tangible MVPE of $85.3 million at June 30,
2004.(3)
    
    Pre-tax tangible MVPE as a percentage of tangible assets. The table set forth above does not purport to show the impact of interest
rate changes on the Companys equity under generally accepted accounting
principles. Market value changes only impact the Companys income statement or
the balance sheet to the extent the affected instruments are marked to market,
and over the life of the instruments as an impact on recorded yields. - 28 -




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Item 4: Controls and Procedures As of the end of the period covered by this report, the Company carried
out an evaluation, under the supervision and with the participation of the
Companys management, including the Companys Chief Executive Officer and the
Companys Chief Financial Officer, of the effectiveness of the design and
operation of the Companys disclosure controls and procedures pursuant to Rule
13a-15(b) under the Securities Exchange Act of 1934 (the Exchange Act).
Based upon that evaluation, the Companys Chief Executive Officer and the
Companys Chief Financial Officer concluded that the Companys disclosure
controls and procedures are effective in timely alerting them to material
information relating to the Company (including its consolidated subsidiaries)
required to be included in the Companys periodic SEC filings. There have been
no significant changes in the Companys internal controls over financial
reporting that have materially affected, or are reasonably likely to materially
affect, the Companys internal control over financial reporting. Disclosure controls and procedures are Company controls and other
procedures that are designed to ensure that information required to be
disclosed by the Company in the reports that it files or submits under the
Exchange Act is recorded, processed, summarized and reported within the time
periods specified in the SECs rules and forms. Disclosure controls and
procedures include, without limitation, controls and procedures designed to
ensure that information required to be disclosed by the Company in the reports
that it files or submits under the Exchange Act is accumulated and communicated
to the Companys management, including its Chief Executive Officer and Chief
Financial Officer, as appropriate, to allow timely decisions regarding required
disclosure. 
 PART II   OTHER INFORMATION 
 Item 1:Legal Proceedings The Company is involved in various legal proceedings occurring in
the ordinary course of business, which, in the aggregate, are
believed by management to be immaterial to the financial condition
and results of operations of the Company. 
 Item 2:Changes in Securities and Use of Proceeds None. 
 Item 3:Defaults Upon Senior Securities Not applicable. - 29 -




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Item 4:The following items were submitted to the security holders for approval
at the annual meeting held on May 25, 2004: Election of the following two persons for a term of three years to
the Board of Directors of the Company. The results of the vote were as follows: NAME
    
    FOR
    
    WITHHELDDr. Stanley J. Kon
    
    
    4,474,671
    
    
    
    27,397Paul O. Halme
    
    
    4,474,671
    
    
    
    27,394
 Ratification of independent auditors FOR
    
    AGAINST
    
    ABSTAIN4,473,049
    
    
    8,140
    
    
    
    20,876
 
 Item 5:Other Information Not applicable. 
 Item 6:Exhibits and Reports on Form 8-K a) Exhibits EXHIBIT NO.

    DESCRIPTION31.1

    Section 302 Certification by Chief Executive Officer filed herewith.31.2

    Section 302 Certification by Chief Financial Officer filed herewith.32

    Section 906 Certification by Chief Executive Officer and Chief Financial Officer furnished herewith.
 b) Reports on Form 8-K The Company filed a Current Report on Form 8-K with the SEC on April 19,
2004 under items 7 and 12 announcing a press release of its earnings for the
year and quarter ended March 31, 2004. The Company filed a Current Report on Form 8-K with the SEC on June 4,
2004 under items 5 and 7 announcing the resignation of Sean Callow, CFO. The Company filed a Current Report on Form 8-K with the SEC on June 16,
2004 under items 5 and 7 announcing a special cash dividend to holders of
record on June 28, 2004. - 30 -




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SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized. HARRINGTON WEST FINANCIAL GROUP, INC.Date: August 12, 2004
    
    By:
    
    /s/ CRAIG J. CERNYCraig J. Cerny, Chief Executive Officer(Principal Executive Officer)By:
    
    /s/ WILLIAM W. PHILLIPSWilliam W. Phillips,President, Chief Operating Officer andChief Financial Officer(Principal Financial and Accounting Officer)
 - 31 -