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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549




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FORM 10-Q

(Mark One)

|  |  |                                                                                         
|- |  | ----------------------------------------------------------------------------------------
|x |  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 
|  |  | FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003                                       
|  |  |                                                                                         
|o |  | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934

Commission file number 000-49928



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TEXAS UNITED BANCSHARES, INC.

(Exact name of registrant as specified in its charter)


|                                |  |                                     
|------------------------------- |  | ------------------------------------
|Texas                           |  | 75-2768656                          
|(State or other jurisdiction of |  | (I.R.S. Employer Identification No.)
|Incorporation or organization)  |  |                                     

202 W. COLORADO
LA GRANGE, TEXAS 78945
(Address of principal executive offices including zip code)

(979) 968-8451
(Registrants telephone number, including area code)



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

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes o No x.

As of October 31, 2003, the number of outstanding shares of Common Stock,
par value $1.00 per share was 4,002,097.



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TABLE OF CONTENTS



|                                                |                                                                                               |  |  |  |  |  |  | 
|----------------------------------------------- | --------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I FINANCIAL INFORMATION                   
|                                                | Item 1. Condensed Consolidated Financial Statements                                          
|                                                | Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
|PART II OTHER INFORMATION                      
|                                                | Item 1. Legal Proceedings                                                                    
|                                                | Item 2. Changes in Securities and Use of Proceeds                                            
|                                                | Item 3. Defaults Upon Senior Securities                                                      
|                                                | Item 4. Submission of Matters to a Vote of Security Holders                                  
|                                                | Item 5. Other Information                                                                    
|                                                | Item 6A. Exhibits                                                                            
|                                                | Item 6B. Reports on Form 8-K                                                                 
|SIGNATURES                                     
|Exhibit Index                                  
|Certification of CEO pursuant to Rule 13a-14(a)
|Certification of CFO pursuant to Rule 13a-14(a)
|Certification of CEO pursuant to Section 906   
|Certification of CFO pursuant to Section 906   




PART I

FINANCIAL INFORMATION




Item 1.Condensed Consolidated Financial Statements.

TEXAS UNITED BANCSHARES, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

(In thousands, except share data)

|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |         |         |         | 
|------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------- | ------------------------------------------ | ------- | -------------- | ------- | ------------ | ------- | ------- | ------- | 
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         | September, 30, |         | December 31,
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         | 2003           |         | 2002        
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |             
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         | (Unaudited)    |         |              |         |        
|ASSETS                                                                          |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|Cash and cash equivalents:                                                      |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                | Cash and due from banks                                                                                                                                                                                               |                                 | $                                          | 15,037  |                |         | $            | 20,574  |        
|                                                                                | Federal funds sold and other temporary investments                                                                                                                                                                    |                                 |                                            |        |                |         |              |        |        
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                |                                                                                                                                                                                                                       | Total cash and cash equivalents |                                            |         | 15,037         |         |              |         | 20,574  |        
|Investment securities available-for-sale, at fair value                         |                                                                                                                                                                                                                       |                                 | 190,616                                    |         |                |         | 132,140      |        
|Loans, net                                                                      |                                                                                                                                                                                                                       |                                 | 367,323                                    |         |                |         | 349,345      |        
|Loans held for sale                                                             |                                                                                                                                                                                                                       |                                 | 2,219                                      |         |                |         | 33,674       |        
|Premises and equipment, net                                                     |                                                                                                                                                                                                                       |                                 | 24,081                                     |         |                |         | 23,363       |        
|Accrued interest receivable                                                     |                                                                                                                                                                                                                       |                                 | 2,945                                      |         |                |         | 3,006        |        
|Goodwill                                                                        |                                                                                                                                                                                                                       |                                 | 9,432                                      |         |                |         | 9,432        |        
|Deposit premiums                                                                |                                                                                                                                                                                                                       |                                 | 423                                        |         |                |         | 512          |        
|Mortgage servicing rights                                                       |                                                                                                                                                                                                                       |                                 | 4,404                                      |         |                |         | 2,877        |        
|Other assets                                                                    |                                                                                                                                                                                                                       |                                 | 13,662                                     |         |                |         | 12,139       |        
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                |                                                                                                                                                                                                                       | Total assets                    |                                            | $       | 630,142        |         |              | $       | 587,062 |        
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|LIABILITIES AND SHAREHOLDERS EQUITY                                            |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|Deposits:                                                                       |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                | Noninterest-bearing                                                                                                                                                                                                   |                                 | $                                          | 97,615  |                |         | $            | 82,294  |        
|                                                                                | Interest-bearing                                                                                                                                                                                                      |                                 |                                            | 406,091 |                |         |              | 370,625 |        
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                |                                                                                                                                                                                                                       | Total deposits                  |                                            |         | 503,706        |         |              |         | 452,919 |        
|Federal funds purchased                                                         |                                                                                                                                                                                                                       |                                 | 48                                         |         |                |         | 19,732       |        
|Other liabilities                                                               |                                                                                                                                                                                                                       |                                 | 5,223                                      |         |                |         | 5,807        |        
|Borrowings                                                                      |                                                                                                                                                                                                                       |                                 | 77,769                                     |         |                |         | 62,945       |        
|Company obligated mandatorily redeemable capital securities
of subsidiary trust |                                                                                                                                                                                                                       |                                 | 7,000                                      |         |                |         | 7,000        |        
|Subordinated notes and debentures                                               |                                                                                                                                                                                                                       |                                 |                                           |         |                |         | 3,241        |        
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                |                                                                                                                                                                                                                       | Total liabilities               |                                            |         | 593,746        |         |              |         | 551,644 |        
|Commitments and contingencies                                                   |                                                                                                                                                                                                                       |                                 |                                           |         |                |         |             |        
|Shareholders equity:                                                           |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                | Preferred stock, $1.00 par value, 500,000 shares
authorized, none of which are issued and outstanding                                                                                                                 |                                 |                                            |        |                |         |              |        |        
|                                                                                | Common stock, $1.00 par value, 20,000,000 shares
authorized; 2,669,639 shares issued and 2,663,544
outstanding as of September 30, 2003 and 2,646,139 shares
issued and 2,640,044 outstanding as of December 31, 2002 |                                 |                                            | 2,670   |                |         |              | 2,646   |        
|                                                                                | Additional paid-in capital                                                                                                                                                                                            |                                 |                                            | 16,881  |                |         |              | 16,683  |        
|                                                                                | Retained earnings                                                                                                                                                                                                     |                                 |                                            | 17,848  |                |         |              | 14,594  |        
|                                                                                | Accumulated other comprehensive income                                                                                                                                                                                |                                 |                                            | (886    | )              |         |              | 1,612   |        
|                                                                                | Less treasury stock, at cost                                                                                                                                                                                          |                                 |                                            | (117    | )              |         |              | (117    | )      
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                |                                                                                                                                                                                                                       |                                 | Total shareholders equity                 |         |                | 36,396  |              |         |         | 35,418  | 
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        
|                                                                                |                                                                                                                                                                                                                       |                                 | Total liabilities and shareholders equity |         | $              | 630,142 |              |         | $       | 587,062 | 
|                                                                                |                                                                                                                                                                                                                       |                                 |                                            |         |                |         |              |        

See accompanying notes to condensed consolidated financial statements

1



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TEXAS UNITED BANCSHARES, INC. AND SUBSIDIARIES
Consolidated Statements of Income

(In thousands, except per share data)
(Unaudited)

|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |        |       |        | 
|--------------------------------------------------- | ------------------------------------------------------------------------------- | ---------- | -------------------------- | ----- | -------------------- | ----- | ------------------- | ----- | ----- | ----- | ------ | ------ | ----- | ------ | ------ | ------ | ----- | ------ | 
|                                                    |                                                                                 |            |                            |       | For the three months |       | For the nine months
|                                                    |                                                                                 |            |                            |       | ended September 30,  |       | ended September 30,
|                                                    |                                                                                 |            |                            |       |                      |       |                    
|                                                    |                                                                                 |            |                            |       | 2003                 |       | 2002                |       | 2003  |       | 2002  
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |       
|Interest income:                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    | Loans                                                                           |            | $                          | 7,966 |                      |       | $                   | 7,004 |       |       | $      | 23,730 |       |        | $      | 18,718 |      
|                                                    | Investment securities:                                                          |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |        |      
|                                                    |                                                                                 | Taxable    |                            |       | 1,513                |       |                     |       | 1,248 |       |        |        | 4,143 |        |        |        | 3,752 |       
|                                                    |                                                                                 | Tax-exempt |                            |       | 126                  |       |                     |       | 161   |       |        |        | 424   |        |        |        | 698   |       
|                                                    | Federal funds sold and other temporary investments                              |            |                            | 17    |                      |       |                     | 39    |       |       |        | 70     |       |        |        | 92     |      
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    |                                                                                 |            | Total interest income      |       |                      | 9,622 |                     |       |       | 8,452 |        |        |       | 28,367 |        |        |       | 23,260 | 
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|Interest expense:                                   |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    | Deposits                                                                        |            |                            | 1,854 |                      |       |                     | 1,988 |       |       |        | 5,743  |       |        |        | 6,042  |      
|                                                    | Federal funds purchased                                                         |            |                            | 30    |                      |       |                     | 118   |       |       |        | 115    |       |        |        | 287    |      
|                                                    | Borrowings                                                                      |            |                            | 518   |                      |       |                     | 216   |       |       |        | 1,542  |       |        |        | 582    |      
|                                                    | Subordinated notes and debentures                                               |            |                            |      |                      |       |                     | 77    |       |       |        | 87     |       |        |        | 77     |      
|                                                    | Company obligated mandatorily redeemable capital
securities of subsidiary trust |            |                            | 185   |                      |       |                     | 194   |       |       |        | 554    |       |        |        | 577    |      
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    |                                                                                 |            | Total interest expense     |       |                      | 2,587 |                     |       |       | 2,593 |        |        |       | 8,041  |        |        |       | 7,565  | 
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|Net interest income                                 |                                                                                 |            | 7,035                      |       |                      |       | 5,859               |       |       |       | 20,326 |        |       |        | 15,695 |       
|Provision for loan losses                           |                                                                                 |            | 800                        |       |                      |       | 500                 |       |       |       | 2,100  |        |       |        | 1,350  |       
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|Net interest income after provision for loan losses |                                                                                 |            | 6,235                      |       |                      |       | 5,359               |       |       |       | 18,226 |        |       |        | 14,345 |       
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|Non-interest income:                                |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    | Service charges on deposit accounts                                             |            |                            | 1,718 |                      |       |                     | 1,518 |       |       |        | 5,016  |       |        |        | 3,927  |      
|                                                    | Net servicing fees                                                              |            |                            | 1,401 |                      |       |                     | (263  | )     |       |        | 1,551  |       |        |        | 1,139  |      
|                                                    | Gain on sale of investment securities, net                                      |            |                            | 376   |                      |       |                     | 397   |       |       |        | 1,291  |       |        |        | 949    |      
|                                                    | Other non-interest income                                                       |            |                            | 654   |                      |       |                     | 546   |       |       |        | 2,259  |       |        |        | 1,789  |      
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    |                                                                                 |            | Total non-interest income  |       |                      | 4,149 |                     |       |       | 2,198 |        |        |       | 10,117 |        |        |       | 7,804  | 
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|Non-interest expense:                               |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    | Employee compensation and benefits                                              |            |                            | 4,509 |                      |       |                     | 3,206 |       |       |        | 12,314 |       |        |        | 9,140  |      
|                                                    | Occupancy                                                                       |            |                            | 1,214 |                      |       |                     | 1,336 |       |       |        | 3,479  |       |        |        | 2,879  |      
|                                                    | Other non-interest expense                                                      |            |                            | 2,465 |                      |       |                     | 2,235 |       |       |        | 6,770  |       |        |        | 5,436  |      
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    |                                                                                 |            | Total non-interest expense |       |                      | 8,188 |                     |       |       | 6,777 |        |        |       | 22,563 |        |        |       | 17,455 | 
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|Income before provision for income taxes            |                                                                                 |            | 2,196                      |       |                      |       | 780                 |       |       |       | 5,780  |        |       |        | 4,694  |       
|Provision for income taxes                          |                                                                                 |            | 667                        |       |                      |       | 189                 |       |       |       | 1,728  |        |       |        | 1,278  |       
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|Net income                                          |                                                                                 | $          | 1,529                      |       |                      | $     | 591                 |       |       | $     | 4,052  |        |       | $      | 3,416  |       
|                                                    |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|Earnings per common share:                          |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    | Basic                                                                           |            | $                          | 0.57  |                      |       | $                   | 0.23  |       |       | $      | 1.53   |       |        | $      | 1.35   |      
|                                                    | Diluted                                                                         |            | $                          | 0.55  |                      |       | $                   | 0.22  |       |       | $      | 1.47   |       |        | $      | 1.30   |      
|Weighted average shares outstanding:                |                                                                                 |            |                            |       |                      |       |                     |       |       |       |        |        |       |        |        |       
|                                                    | Basic                                                                           |            |                            | 2,663 |                      |       |                     | 2,589 |       |       |        | 2,653  |       |        |        | 2,523  |      
|                                                    | Diluted                                                                         |            |                            | 2,775 |                      |       |                     | 2,703 |       |       |        | 2,760  |       |        |        | 2,637  |      

See accompanying notes to condensed consolidated financial statements

2



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TEXAS UNITED BANCSHARES, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income

(In thousands)
(Unaudited)

|                                                                   |                                                                                      |   |                      |        |                     |   |      |       |      |   |       |        |   |   |       |       | 
|------------------------------------------------------------------ | ------------------------------------------------------------------------------------ | - | -------------------- | ------ | ------------------- | - | ---- | ----- | ---- | - | ----- | ------ | - | - | ----- | ----- | 
|                                                                   |                                                                                      |   | For the three months |        | For the nine months
|                                                                   |                                                                                      |   | ended September 30,  |        | ended September 30,
|                                                                   |                                                                                      |   |                      |        |                    
|                                                                   |                                                                                      |   | 2003                 |        | 2002                |   | 2003 |       | 2002
|                                                                   |                                                                                      |   |                      |        |                     |   |      |       |     
|Net income                                                         |                                                                                      | $ | 1,529                |        |                     | $ | 591  |       |      | $ | 4,052 |        |   | $ | 3,416 |      
|                                                                   |                                                                                      |   |                      |        |                     |   |      |       |      |   |       |        |   |   |       |      
|Other comprehensive income (loss), net of tax:                     |                                                                                      |   |                      |        |                     |   |      |       |      |   |       |        |   |   |       |      
|                                                                   | Unrealized holding gains (losses) on investment securities arising during
the period |   |                      | (3,277 | )                   |   |      | 1,196 |      |   |       | (1,646 | ) |   |       | 2,291 | 
|Less: reclassification adjustment for gains included in net income |                                                                                      |   | 248                  |        |                     |   | 262  |       |      |   | 852   |        |   |   | 626   |      
|                                                                   |                                                                                      |   |                      |        |                     |   |      |       |      |   |       |        |   |   |       |      
|                                                                   | Other comprehensive income (loss)                                                    |   |                      | (3,525 | )                   |   |      | 934   |      |   |       | (2,498 | ) |   |       | 1,665 | 
|                                                                   |                                                                                      |   |                      |        |                     |   |      |       |      |   |       |        |   |   |       |      
|                                                                   | Total comprehensive income (loss)                                                    |   | $                    | (1,996 | )                   |   | $    | 1,525 |      |   | $     | 1,554  |   |   | $     | 5,081 | 
|                                                                   |                                                                                      |   |                      |        |                     |   |      |       |      |   |       |        |   |   |       |      

See accompanying notes to condensed consolidated financial statements

3



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TEXAS UNITED BANCSHARES, INC. AND SUBSIDIARIES

Consolidated Statements of Changes in Shareholders Equity

Year Ended December 31, 2002 and
Nine Months Ended September 30, 2003
(In thousands, except share amounts)

|                                                                                                           |  |              |           |         |  |          |       |               |  |               |        |         |  |       |        |       |  |             |       |   |  |   |      |   |  |   |        |  
|---------------------------------------------------------------------------------------------------------- |  | ------------ | --------- | ------- |  | -------- | ----- | ------------- |  | ------------- | ------ | ------- |  | ----- | ------ | ----- |  | ----------- | ----- | - |  | - | ---- | - |  | - | ------ | -
|                                                                                                           |  |              |           |         |  |          |       |               |  |               |        |         |  |       |        |       |  | Accumulated |       |   |  |   |      |   |  |  
|                                                                                                           |  |              |           |         |  |          |       |               |  | Additional    |        |         |  |       |        | Other |  | Treasury    |       |   |  |  
|                                                                                                           |  | Common Stock |           | Paid-in |  | Retained |       | Comprehensive |  | Stock         |        |         |  |      
|                                                                                                           |  | Shares       |           | Amount  |  | Capital  |       | Earnings      |  | Income (loss) |        | at Cost |  | Total
|                                                                                                           |  |              |           |         |  |          |       |               |  |               |        |         |  |      
|Balance at January 1, 2002                                                                                 |  |              | 2,502,145 |         |  | $        | 2,502 |               |  | $             | 14,136 |         |  | $     | 11,342 |       |  | $           | (275  | ) |  | $ | (333 | ) |  | $ | 27,372 |  
|Net income                                                                                                 |  |              |          |         |  |          |      |               |  |               |       |         |  |       | 4,278  |       |  |             |      |   |  |   |     |   |  |   | 4,278  |  
|Other comprehensive income                                                                                 |  |              |          |         |  |          |      |               |  |               |       |         |  |       |       |       |  |             | 1,887 |   |  |   |     |   |  |   | 1,887  |  
|Issuance of common stock upon exercise of employee stock
options                                           |  |              | 6,291     |         |  |          | 6     |               |  |               | 47     |         |  |       |       |       |  |             |      |   |  |   |     |   |  |   | 53     |  
|Issuance of common stock related to the acquisition of
The Bryan-College Station Financial Holding
Company |  |              | 137,703   |         |  |          | 138   |               |  |               | 2,477  |         |  |       |       |       |  |             |      |   |  |   |     |   |  |   | 2,615  |  
|Compensation related to grant of treasury stock to employees                                               |  |              |          |         |  |          |      |               |  |               | 5      |         |  |       |       |       |  |             |      |   |  |   | 45   |   |  |   | 50     |  
|Sale of treasury stock                                                                                     |  |              |          |         |  |          |      |               |  |               | 18     |         |  |       |       |       |  |             |      |   |  |   | 171  |   |  |   | 189    |  
|Dividends                                                                                                  |  |              |          |         |  |          |      |               |  |               |       |         |  |       | (1,026 | )     |  |             |      |   |  |   |     |   |  |   | (1,026 | )
|                                                                                                           |  |              |           |         |  |          |       |               |  |               |        |         |  |       |        |       |  |             |       |   |  |   |      |   |  |   |        |  
|Balance at December 31, 2002                                                                               |  |              | 2,646,139 |         |  | $        | 2,646 |               |  | $             | 16,683 |         |  | $     | 14,594 |       |  | $           | 1,612 |   |  | $ | (117 | ) |  | $ | 35,418 |  
|                                                                                                           |  |              |           |         |  |          |       |               |  |               |        |         |  |       |        |       |  |             |       |   |  |   |      |   |  |   |        |  

|                                                                 |  |              |           |         |  |          |       |               |  |               |        |         |  |       |        |       |  |             |        |   |  |   |      |   |  |   |        |  
|---------------------------------------------------------------- |  | ------------ | --------- | ------- |  | -------- | ----- | ------------- |  | ------------- | ------ | ------- |  | ----- | ------ | ----- |  | ----------- | ------ | - |  | - | ---- | - |  | - | ------ | -
|                                                                 |  |              |           |         |  |          |       |               |  |               |        |         |  |       |        |       |  | Accumulated |        |   |  |   |      |   |  |  
|                                                                 |  |              |           |         |  |          |       |               |  | Additional    |        |         |  |       |        | Other |  | Treasury    |        |   |  |  
|                                                                 |  | Common Stock |           | Paid-in |  | Retained |       | Comprehensive |  | Stock         |        |         |  |      
|Unaudited                                                        |  | Shares       |           | Amount  |  | Capital  |       | Earnings      |  | Income (loss) |        | at Cost |  | Total
|                                                                 |  |              |           |         |  |          |       |               |  |               |        |         |  |      
|Balance at January 1, 2003                                       |  |              | 2,646,139 |         |  | $        | 2,646 |               |  | $             | 16,683 |         |  | $     | 14,594 |       |  | $           | 1,612  |   |  | $ | (117 | ) |  | $ | 35,418 |  
|Net income                                                       |  |              |          |         |  |          |      |               |  |               |       |         |  |       | 4,052  |       |  |             |       |   |  |   |     |   |  |   | 4,052  |  
|Other comprehensive income (loss)                                |  |              |          |         |  |          |      |               |  |               |       |         |  |       |       |       |  |             | (2,498 | ) |  |   |     |   |  |   | (2,498 | )
|Issuance of common stock upon exercise of employee
stock options |  |              | 23,500    |         |  |          | 24    |               |  |               | 198    |         |  |       |       |       |  |             |       |   |  |   |     |   |  |   | 222    |  
|Dividends                                                        |  |              |          |         |  |          |      |               |  |               |       |         |  |       | (798   | )     |  |             |       |   |  |   |     |   |  |   | (798   | )
|                                                                 |  |              |           |         |  |          |       |               |  |               |        |         |  |       |        |       |  |             |        |   |  |   |      |   |  |   |        |  
|Balance at September 30, 2003                                    |  |              | 2,669,639 |         |  | $        | 2,670 |               |  | $             | 16,881 |         |  | $     | 17,848 |       |  | $           | (886   | ) |  | $ | (117 | ) |  | $ | 36,396 |  
|                                                                 |  |              |           |         |  |          |       |               |  |               |        |         |  |       |        |       |  |             |        |   |  |   |      |   |  |   |        |  

See accompanying notes to condensed consolidated financial statements

4



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##### 



TEXAS UNITED BANCSHARES, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

(In thousands)
(Unaudited)

|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |       |          |         |        |  
|------------------------------------------------ | ---------------------------------------------------------------------------------- | ---------------------------------------------------------------------------------------- | ----------------------------------------- | ------------------------------------------------ | -------- | ------------------- | ------- | ----- | -------- | ------- | ------ | -
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          | For the nine months
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          | ended September 30,
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                    
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          | 2003                |         | 2002 
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|Cash flows from operating activities:            |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|                                                 | Net income                                                                         |                                                                                          | $                                         | 4,052                                            |          |                     | $       | 3,416 |         
|                                                 | Adjustments to reconcile net income to net cash provided by operating activities:  |                                                                                          |                                           |                                                  |          |                     |         |       |         
|                                                 |                                                                                    | Depreciation and amortization                                                            |                                           |                                                  | 2,269    |                     |         |       | 1,474    |        
|                                                 |                                                                                    | Impairment of mortgage servicing rights                                                  |                                           |                                                  | (144     | )                   |         |       | 306      |        
|                                                 |                                                                                    | Provision for loan losses                                                                |                                           |                                                  | 2,100    |                     |         |       | 1,350    |        
|                                                 |                                                                                    | Gain on sales of securities, net                                                         |                                           |                                                  | (1,291   | )                   |         |       | (949     | )      
|                                                 |                                                                                    | (Gain) loss on sale of other real estate, loans, premises and equipment                  |                                           |                                                  | (406     | )                   |         |       | 1        |        
|                                                 |                                                                                    | Amortization of premium, net of discounts on securities                                  |                                           |                                                  | 1,186    |                     |         |       | 210      |        
|                                                 |                                                                                    | Changes in:                                                                              |                                           |                                                  |          |                     |         |       |          |        
|                                                 |                                                                                    |                                                                                          | Loans held for sale                       |                                                  |          | 31,833              |         |       |          | (12,350 | )     
|                                                 |                                                                                    |                                                                                          | Other assets                              |                                                  |          | (3,485              | )       |       |          | (5,211  | )     
|                                                 |                                                                                    |                                                                                          | Other liabilities                         |                                                  |          | 721                 |         |       |          | 2,868   |       
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|                                                 |                                                                                    |                                                                                          |                                           | Net cash provided (used) by operating activities |          |                     | 36,835  |       |          |         | (8,885 | )
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|Cash flows from investing activities:            |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|                                                 |                                                                                    | Purchases of securities available-for-sale                                               |                                           |                                                  | (175,657 | )                   |         |       | (108,474 | )      
|                                                 |                                                                                    | Proceeds from sales, maturities, and principal paydowns of securities
available-for-sale |                                           |                                                  | 113,447  |                     |         |       | 94,078   |        
|                                                 |                                                                                    | Net change in loans                                                                      |                                           |                                                  | (20,011  | )                   |         |       | (22,685  | )      
|                                                 |                                                                                    | Proceeds from sale of other real estate, loans, premises and equipment                   |                                           |                                                  | 710      |                     |         |       | 4,204    |        
|                                                 |                                                                                    | Net increase in cash resulting from acquisitions                                         |                                           |                                                  |         |                     |         |       | 19,087   |        
|                                                 |                                                                                    | Purchases of premises and equipment                                                      |                                           |                                                  | (2,975   | )                   |         |       | (5,675   | )      
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|                                                 |                                                                                    |                                                                                          | Net cash used by investing activities     |                                                  |          | (84,486             | )       |       |          | (19,465 | )     
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|Cash flows from financing activities:            |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|                                                 | Net change in:                                                                     |                                                                                          |                                           |                                                  |          |                     |         |       |         
|                                                 |                                                                                    | Deposits                                                                                 |                                           |                                                  | 50,787   |                     |         |       | (7,573   | )      
|                                                 |                                                                                    | Other borrowings                                                                         |                                           |                                                  | 14,824   |                     |         |       | 9,514    |        
|                                                 |                                                                                    | Federal funds purchased                                                                  |                                           |                                                  | (19,684  | )                   |         |       | 15,135   |        
|                                                 |                                                                                    | Subordinated notes and debentures                                                        |                                           |                                                  | (3,241   | )                   |         |       |         |        
|                                                 | Net proceeds from issuance of common stock upon exercise of employee stock
options |                                                                                          |                                           | 225                                              |          |                     |         | 36    |         
|                                                 | Treasury stock sold                                                                |                                                                                          |                                           |                                                 |          |                     |         | 190   |         
|                                                 | Dividends paid                                                                     |                                                                                          |                                           | (797                                             | )        |                     |         | (741  | )       
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|                                                 |                                                                                    |                                                                                          | Net cash provided by financing activities |                                                  |          | 42,114              |         |       |          | 16,561  |       
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|Net decrease in cash and cash equivalents        |                                                                                    |                                                                                          | (5,537                                    | )                                                |          |                     | (11,789 | )    
|Cash and cash equivalents at beginning of period |                                                                                    |                                                                                          | 20,574                                    |                                                  |          |                     | 32,666  |      
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      
|Cash and cash equivalents at end of period       |                                                                                    | $                                                                                        | 15,037                                    |                                                  |          | $                   | 20,877  |      
|                                                 |                                                                                    |                                                                                          |                                           |                                                  |          |                     |         |      

See accompanying notes to condensed consolidated financial statements

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TEXAS UNITED BANCSHARES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS



|1. |  | BASIS OF PRESENTATION
|-- |  | ---------------------

The unaudited condensed consolidated financial statements include the
accounts of Texas United Bancshares, Inc. (the Company) and its wholly-owned
subsidiaries Texas United Nevada, Inc. (TUNI), State Bank (the Bank), Third
Coast Wealth Advisors, Inc. (Third Coast), and TXUI Statutory Trust I (the
Trust). All material intercompany accounts and transactions have been
eliminated in the consolidated report of the Company.

The accompanying unaudited condensed consolidated financial statements
were prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions for Form 10-Q. In the
opinion of management, the unaudited condensed consolidated financial
statements reflect all adjustments, consisting only of normal and recurring
adjustments, necessary to present fairly the Companys consolidated financial
position at September 30, 2003, the Companys consolidated results of
operations for the three and nine months ended September 30, 2003 and 2002,
respectively, consolidated cash flows for the nine months ended September 30,
2003 and 2002, and consolidated changes in shareholders equity for the nine
months ended September 30, 2003. Interim period results are not necessarily
indicative of results of operations or cash flows for a full-year period. The
2002 year-end consolidated balance sheet and statement of changes in
shareholders equity data were derived from audited financial statements, but
do not include all disclosures required by generally accepted accounting
principles.

Certain amounts applicable to the prior periods have been reclassified to
conform to the classifications currently followed. Such reclassifications do
not affect earnings.

These financial statements and the notes thereto should be read in
conjunction with the Companys audited consolidated financial statements for
the year ended December 31, 2002 appearing in the Companys Annual Report on
Form 10-K for 2002.



|2. |  | EARNINGS PER COMMON SHARE
|-- |  | -------------------------

Basic earnings per share (EPS) is computed by dividing net income
available to common shareholders by the weighted-average number of common
shares outstanding during the period. Diluted EPS is computed by dividing net
income available to common shareholders by the weighted-average number of
common shares and potentially dilutive common shares outstanding during the
period. Potentially dilutive common shares are computed using the treasury
stock method. Potentially dilutive shares include stock options granted.

|                                                                      |  |                                       |       |                     |  |      |       |      |  |   |       |  |  |   |       | 
|--------------------------------------------------------------------- |  | ------------------------------------- | ----- | ------------------- |  | ---- | ----- | ---- |  | - | ----- |  |  | - | ----- | 
|                                                                      |  | For the three months                  |       | For the nine months
|                                                                      |  | ended September 30,                   |       | ended September 30,
|                                                                      |  |                                       |       |                    
|                                                                      |  | 2003                                  |       | 2002                |  | 2003 |       | 2002
|                                                                      |  |                                       |       |                     |  |      |       |     
|                                                                      |  | (In thousands, except per share data)
|Net income available to
common
shareholders                           |  | $                                     | 1,529 |                     |  | $    | 591   |      |  | $ | 4,052 |  |  | $ | 3,416 | 
|                                                                      |  |                                       |       |                     |  |      |       |      |  |   |       |  |  |   |       | 
|Weighted-average common
shares outstanding                            |  |                                       | 2,663 |                     |  |      | 2,589 |      |  |   | 2,653 |  |  |   | 2,523 | 
|Weighted-average common
shares and potentially
dilutive common
shares |  |                                       | 2,775 |                     |  |      | 2,703 |      |  |   | 2,760 |  |  |   | 2,637 | 
|                                                                      |  |                                       |       |                     |  |      |       |      |  |   |       |  |  |   |       | 
|Basic
EPS                                                             |  | $                                     | 0.57  |                     |  | $    | 0.23  |      |  | $ | 1.53  |  |  | $ | 1.35  | 
|Diluted
EPS                                                           |  | $                                     | 0.55  |                     |  | $    | 0.22  |      |  | $ | 1.47  |  |  | $ | 1.30  | 

Basic and diluted earnings per share have not been adjusted for the three
for two stock split in the form of a 50% stock dividend issued to shareholders of record on October 1, 2003.

6



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|3. |  | INTANGIBLE ASSETS
|-- |  | -----------------

The gross carrying amount of intangible assets and associated amortization
at September 30, 2003 is presented in the following table:

|                             |                           |  |          |       |                |  |   |       | 
|---------------------------- | ------------------------- |  | -------- | ----- | -------------- |  | - | ----- | 
|                             |                           |  | Gross    |       | Accumulated   
|                             |                           |  | Carrying |       | Amortization  
|                             |                           |  | Amount   |       | and Impairment
|                             |                           |  |          |       |               
|Amortized intangible assets: |                           |  |          |       |                |  |   |      
|                             | Mortgage servicing
rights |  | $        | 6,069 |                |  | $ | 1,665 | 
|                             | Core deposit
intangibles  |  | $        | 564   |                |  | $ | 141   | 

The projections of amortization expense shown below for mortgage servicing
rights are based on existing asset balances and the existing interest rate
environment as of September 30, 2003. Future amortization expense may be
significantly different depending upon changes in the mortgage servicing
portfolio, mortgage interest rates and market conditions.

The following table shows the current period and estimated future
amortization for intangible assets:

|                                                |      |   |           |       |              |   |       |     |  |   |     |       | 
|----------------------------------------------- | ---- | - | --------- | ----- | ------------ | - | ----- | --- |  | - | --- | ----- | 
|                                                |      |   | Mortgage  |       |              |   |       |     |  |   |    
|                                                |      |   | Servicing |       | Core Deposit |   |       |     | 
|                                                |      |   | Rights    |       | Intangibles  |   | Total
|                                                |      |   |           |       |              |   |      
|Nine months ended September 30, 2003 (actual)   |      | $ | 633       |       |              | $ | 89    |     |  | $ | 722 |      
|Three months ended December 31, 2003 (estimate) |      |   | 253       |       |              |   | 30    |     |  |   | 283 |      
|Estimate for the year ended December 31,        |      |   |           |       |              |   |       |     |  |   |     |      
|                                                | 2004 |   |           | 1,003 |              |   |       | 103 |  |   |     | 1,106 | 
|                                                | 2005 |   |           | 950   |              |   |       | 88  |  |   |     | 1,038 | 
|                                                | 2006 |   |           | 897   |              |   |       | 72  |  |   |     | 969   | 
|                                                | 2007 |   |           | 819   |              |   |       | 56  |  |   |     | 875   | 
|                                                | 2008 |   |           | 482   |              |   |       | 40  |  |   |     | 522   | 



|4. |  | STOCK BASED COMPENSATION
|-- |  | ------------------------

The Company accounts for its stock based employee compensation plans on
the intrinsic value method provided in Accounting Principles Board Opinion
(APB) No. 25, Accounting for Stock Issued to Employees, and related
Interpretations. Because the exercise price of the Companys employee stock
options equals or exceeds the market price of the underlying stock on the date
of grant, no compensation expense is recognized on option plans.

Statement of Financial Accounting Standards (SFAS) No. 123, (SFAS 123)
Accounting for Stock-Based Compensation, as amended by SFAS No. 148,
Accounting for Stock-Based Compensation  Transition and Disclosure, requires
pro forma disclosures of net income and earnings per share for companies not
adopting its fair value accounting method for stock-based employee
compensation. The pro forma disclosures below use the fair value method of SFAS
123 to measure compensation expense for stock-based compensation plans.

|                                                                                                               |  |                    |       |                   |  |      |     |      |  |   |       |  |  |   |       | 
|-------------------------------------------------------------------------------------------------------------- |  | ------------------ | ----- | ----------------- |  | ---- | --- | ---- |  | - | ----- |  |  | - | ----- | 
|                                                                                                               |  | Three Months Ended |       | Nine Months Ended
|                                                                                                               |  | September 30,      |       | September 30,    
|                                                                                                               |  |                    |       |                  
|                                                                                                               |  | 2003               |       | 2002              |  | 2003 |     | 2002
|                                                                                                               |  |                    |       |                   |  |      |     |     
|Net income, as reported                                                                                        |  | $                  | 1,529 |                   |  | $    | 591 |      |  | $ | 4,052 |  |  | $ | 3,416 | 
|Less: Total stock-based compensation expense
determined under the fair value method for all
awards, net of tax |  |                    | 8     |                   |  |      | 5   |      |  |   | 24    |  |  |   | 15    | 
|                                                                                                               |  |                    |       |                   |  |      |     |      |  |   |       |  |  |   |       | 
|Pro forma net income                                                                                           |  | $                  | 1,521 |                   |  | $    | 586 |      |  | $ | 4,028 |  |  | $ | 3,401 | 
|                                                                                                               |  |                    |       |                   |  |      |     |      |  |   |       |  |  |   |       | 

7



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##### 



|                    |                       |  |                    |      |                   |  |      |      |      |  |   |      |  |  |   |      | 
|------------------- | --------------------- |  | ------------------ | ---- | ----------------- |  | ---- | ---- | ---- |  | - | ---- |  |  | - | ---- | 
|                    |                       |  | Three Months Ended |      | Nine Months Ended
|                    |                       |  | September 30,      |      | September 30,    
|                    |                       |  |                    |      |                  
|                    |                       |  | 2003               |      | 2002              |  | 2003 |      | 2002
|                    |                       |  |                    |      |                   |  |      |      |     
|Earnings per share: |                       |  |                    |      |                   |  |      |      |      |  |   |      |  |  |   |     
|                    | Basic  as reported   |  | $                  | 0.57 |                   |  | $    | 0.23 |      |  | $ | 1.53 |  |  | $ | 1.35 | 
|                    | Basic  pro forma     |  |                    | 0.57 |                   |  |      | 0.23 |      |  |   | 1.52 |  |  |   | 1.35 | 
|                    | Diluted  as reported |  |                    | 0.55 |                   |  |      | 0.22 |      |  |   | 1.47 |  |  |   | 1.30 | 
|                    | Diluted  pro forma   |  |                    | 0.55 |                   |  |      | 0.21 |      |  |   | 1.46 |  |  |   | 1.29 | 



|5. |  | ACCOUNTING CHANGES
|-- |  | ------------------

Financial Accounting Standards Board (FASB) Interpretation No. 46 (FIN
46), Consolidation of Variable Interest Entities, an interpretation of
Accounting Research Bulletin No. 51 establishes accounting guidance for
consolidation of variable interest entities (VIE) that function to support the
activities of the primary beneficiary. The primary beneficiary of a VIE is the
entity that absorbs a majority of the VIEs expected losses, receives a
majority of the VIEs expected residual returns, or both, as a result of
ownership, controlling interest, contractual relationship or other business
relationship with the VIE. Prior to the implementation of FIN 46, VIE were
generally consolidated by an enterprise when the enterprise had a controlling
financial interest through ownership of a majority of voting interest in the
entity. The provisions of FIN 46 were effective immediately for all
arrangements entered after January 31, 2003, and are otherwise effective at the
beginning of the first interim or annual period ending after December 15, 2003.

In its current form, FIN 46 may require the Company to de-consolidate its
investment in TXUI Statutory Trust I in future financial statements. The
potential de-consolidation of subsidiary trusts of bank holding companies
formed in connection with the issuance of trust preferred securities, like TXUI
Statutory Trust I, appears to be a unintended consequence of FIN 46. It is
currently unknown if, or when, the Financial Accounting Standards Board will
address this issue. In July 2003, the Board of Governors of the Federal Reserve
System issued a supervisory letter instructing bank holding companies to
continue to include the trust preferred securities in their Tier 1 capital for
regulatory capital purposes until notice is given to the contrary. The Federal
Reserve intends to review the regulatory implications of any accounting
treatment changes and, if warranted, provide appropriate guidance. If the trust
preferred securities were no longer allowed to be included in Tier 1 capital,
the Company would be permitted to redeem the capital securities without
penalty. The Company does not have any additional VIEs.

SFAS No. 149 (SFAS 149), Amendment of Statement 133 on Derivative
Instruments and Hedging Activities was issued in April 2003. SFAS 149 amends
and clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts and for
hedging activities under SFAS 133, Accounting for Derivative Instruments and
Hedging Activities. The amendments (i) reflect decisions of the Derivatives
Implementation Group (DIG), (ii) reflect decisions made by the FASB in
conjunction with other projects dealing with financial instruments and (iii)
address implementation issues related to the application of the definition of a
derivative. SFAS 149 also modifies various other existing pronouncements to
conform with the changes made to SFAS 133. SFAS 149 is effective for contracts
entered into or modified after June 30, 2003, and for hedging relationships
designated after June 30, 2003, with all provisions applied prospectively.
Adoption of SFAS 149 on July 1, 2003 did not have a significant impact on the
Companys financial statements.

SFAS No. 150 (SFAS 150), Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity was issued in May 2003.
SFAS 150 establishes standards for how an issuer classifies, measures and
discloses in its financial statements certain financial instruments with
characteristics of both liabilities and equity. SFAS 150 requires that an
issuer classify financial instruments that are within its scope as liabilities,
in most circumstances. Such financial instruments include (i) financial
instruments that are issued in the form of shares

8



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##### 



that are mandatorily
redeemable; (ii) financial instruments that embody an obligation to repurchase
the issuers equity shares, or are indexed to such an obligation, and that
require the issuer to settle the obligation by transferring assets; (iii)
financial instruments that embody an obligation that the issuer may settle by
issuing a variable number of its equity shares if, at inception, the monetary
value of the obligation is predominantly based on a fixed amount, variations in something other than the fair value of the issuers equity
shares or variations inversely related to changes in the fair value of the
issuers equity shares; and (iv) certain freestanding financial instruments.
SFAS 150 is effective for contracts entered into or modified after May 31,
2003, and is otherwise generally effective at the beginning of the first
interim period beginning after June 15, 2003. Adoption of SFAS 150 on July 1,
2003 did not have a significant impact on the Companys financial statements.
For financial reporting purposes, the company obligated mandatorily redeemable
capital securities of subsidiary trust has been reclassified as a liability.



|6. |  | OFF BALANCE SHEET CREDIT COMMITMENTS
|-- |  | ------------------------------------

In the normal course of business, the Company enters into various
transactions, which, in accordance with generally accepted accounting
principles, are not included in its consolidated balance sheet. These
transactions are referred to as off balance-sheet commitments. The Company
enters into these transactions to meet the financing needs of its customers.
These transactions include commitments to extend credit and standby letters of
credit, which involve elements of credit risk in excess of the amounts
recognized in the consolidated balance sheet. The Company minimizes its
exposure to loss under these commitments by subjecting them to credit approval
and monitoring procedures.

The Company enters into contractual commitments to extend credit, normally
with fixed expiration dates or termination clauses, at specified rates and for
specific purposes. Customers use credit commitments to ensure that funds will
be available for working capital purposes, for capital expenditures and to
ensure access to funds at specified terms and conditions. Substantially all of
the Companys commitments to extend credit are contingent upon customers
maintaining specific credit standards at the time of loan funding. Management
assesses the credit risk associated with certain commitments to extend credit
in determining the level of the allowance for loan losses. Commitments to
extend credit totaled $52.5 million at September 30, 2003 and $38.9 million at
December 31, 2002.

Standby letters of credit are written conditional commitments issued by
the Company to guarantee the performance of a customer to a third party. The
Companys policies generally require that standby letters of credit
arrangements contain collateral and debt covenants similar to those contained
in loan agreements. In the event the customer does not perform in accordance
with the terms of the agreement with the third party, the Company would be
required to fund the commitment. The approximate terms of these letters of
credit are 18 months. The maximum potential amount of future payments the
Company could be required to make is represented by the contractual amount of
the commitment. If the commitment is funded, the Company would be entitled to
seek recovery from the customer. The Company expects that the estimated
proceeds obtained on liquidation of collateral would cover approximately 93% of
the maximum potential amount of future payments under such guarantees. The maximum
undiscounted amount of future payments of these standby letters of credit
totaled $629,000 at September 30, 2003 and $787,000 at December 31, 2002. As of
September 30, 2003 and December 31, 2002, no liability for the fair value of
the Companys potential obligations under these guarantees has been recorded
since the amount is deemed immaterial.



|7. |  | CRITICAL ACCOUNTING POLICIES
|-- |  | ----------------------------

The Companys accounting policies are integral to understanding the
results reported. The Company believes that of its significant accounting
policies, the policies with respect to the allowance for loan losses and mortgage servicing rights assets
may involve a higher degree of judgment and complexity.

The allowance for loan losses is a valuation allowance for probable losses
incurred on loans. Loans are charged to the allowance when the loss actually
occurs or when a determination is made that a probable loss has occurred.
Recoveries are credited to the allowance at the time of recovery. Throughout
the year, management estimates the probable level of losses to determine
whether the allowance for credit losses is adequate to absorb losses in the
existing portfolio. Based on these estimates, an amount is charged to the
provision for loan losses and credited to the allowance for loan losses in
order to adjust the allowance to a level determined to be adequate to absorb
losses. Managements judgment as to the level of probable losses on existing
loans involves the consideration of current economic conditions and their
estimated effects on specific borrowers; an evaluation of the existing
relationships among loans, potential loan losses and the present level of the
allowance; results of examinations of

9



---



##### 



the loan portfolio by regulatory
agencies; and managements internal review of the loan portfolio. In
determining the collectability of certain loans, management also considers the
fair value of any underlying collateral. The amount ultimately realized may
differ from the carrying value of these assets because of economic, operating
or other conditions beyond the Companys control. Refer to the subsequent
discussion of Allowance for Loan Losses included in Managements Discussion
and Analysis of Financial Condition and Results of Operations for
additional insight into managements approach and methodology in estimating the
allowance for loan losses.

Mortgage servicing rights assets are established and accounted for based
on discounted cash flow modeling techniques which require management to make
estimates regarding the amount and timing of expected future cash flows,
including assumptions about loan repayment rates, loan loss experience, and
costs to service, as well as discount rates that consider the risk involved.
Because the values of these assets are sensitive to changes in assumptions, the
valuation of mortgage servicing rights is considered a critical accounting
estimate. Refer to Note 3 to the Condensed Consolidated Financial Statements
above and discussion of Noninterest Income included in Managements
Discussion and Analysis of Financial Condition and Results of Operations for
additional insight into managements approach in estimating transfers and
servicing of financial assets.




Item 2.Managements Discussion and Analysis of Financial Condition and Results of Operations

Special Cautionary Notice Regarding Forward-looking Statements

Statements and financial discussion and analysis contained in the Form
10-Q that are not historical facts are forward-looking statements made pursuant
to the safe harbor provisions of the Private Securities Litigation Reform Act
of 1995. These forward-looking statements include information about possible or
assumed future results of the Companys operations or performance. When we use
any of the words believe, expect, anticipate, estimate, continue,
intend, may, will, should, or similar expressions, identifies these
forward-looking statements. Many possible factors or events could affect the
future financial results and performance of the Company and could cause those
financial results or performance to differ materially from those expressed in
the forward-looking statement. These possible events or factors include,
without limitation:



| |  |  | deposit attrition, operating costs, customer loss and business
disruption are greater than we expected;                                         
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | competitive factors including product and pricing pressures among
financial services organizations may increase;                                
|
| |  |  | changes in the interest rate environment reduce our interest
margins;                                                                           
|
| |  |  | changes in market rates and prices may adversely impact securities,
loans, deposits, mortgage servicing rights, and other financial
instruments;
|
| |  |  | general business and economic conditions in the markets the Company
serves change or are less favorable than it expected;                       
|
| |  |  | legislative or regulatory changes adversely affect the Companys business;                                                                      
|
| |  |  | personal or commercial bankruptcies increase;                                                                                                   
|
| |  |  | changes in accounting principles, policies or guidelines;                                                                                       
|
| |  |  | changes occur in the securities markets; and                                                                                                    
|
| |  |  | technology-related changes are harder to make or more expensive than the Company anticipated.                                                   

A forward-looking statement may include a statement of the assumptions or
bases underlying the forward-looking statement. The Company believes it has
chosen the assumptions or bases in good faith and that they are reasonable.
However, the Company cautions you that assumptions or bases almost always vary
from actual results, and the differences between assumptions or bases and
actual results can be material. The Company will not update these statements
unless the securities laws require it to do so.

10



---



##### 



General.The Company is a bank holding company formed in June 1998 as a
result of the merger of South Central Texas Bancshares, Inc. with and into
Premier Bancshares, Inc. At the effective date of the merger, the resulting
company changed its name to Texas United Bancshares, Inc. The Company derives
substantially all of its net income from its wholly-owned subsidiary State
Bank. At September 30, 2003, State Bank had eighteen full service banking
centers serving eleven counties in central and south central Texas.

Net income for the three months ended September 30, 2003 was $1.5 million,
an increase of 153.8% compared with $591,000 for the same period in 2002. The
increase in net income was a combined result of higher net interest income and
a $1.0 million reversal on the impairment allowance for mortgage servicing rights which increased non-interest income, partially offset by higher non-interest expense
and provisions for loan loss. Net income for the nine months ended September
30, 2003 was $4.1 million, representing an increase of 20.6% compared with the
$3.4 million for the same period in 2002. Basic and diluted earnings per share
(EPS) for the three months ended September 30, 2003 were $0.57 and $0.55,
respectively, compared with $0.23 and $0.22, respectively, for the same period
in 2002. For the nine months ended September 30, 2003, basic and diluted EPS
were $1.53 and $1.47, respectively, compared with $1.35 and $1.30,
respectively, for the same period in 2002.

At September 30, 2003, total assets were $630.1 million compared with
$587.1 million at December 31, 2002. The $43.0 million or 7.3% increase in
total assets over December 31, 2002 was primarily attributable to increases in
investment securities and partially offset by a decrease of $31.5 million in
loans held for sale. At September 30, 2003, net loans, excluding loans held for
sale, were $367.3 million compared with $349.3 million at December 31, 2002.
Loans held for sale were $2.2 million compared to $33.7 million at December 31,
2002. Total deposits at September 30, 2003 were $503.7 million compared with
$452.9 million at December 31, 2002. The $50.8 million or 11.2% increase in
deposits compared with December 31, 2002 is attributed to internal growth.
Shareholders equity at September 30, 2003 was $36.4 million compared to $35.4
million at December 31, 2002. The $1.0 million or 2.8% increase is attributed
to earnings retention partially offset by the deterioration on the fair market
value of available-for-sale securities included in accumulated other
comprehensive income. The Companys return on average assets was 0.93% for the
nine months ended September 30, 2003, compared with 0.97% for the same period
in 2002. The return on average shareholders equity was 15.1% for the nine
months ended September 30, 2003, down from 15.4% for the same period in 2002.

Recent Developments. Effective November 6, 2003, State Bank sold its
credit card portfolio to Elan Financial Service of Minneapolis, Minnesota. At
the date of sale, the portfolio comprised 6,300 accounts with receivables
totaling $6.8 million. The sale generated an after tax gain of approximately
$242,000. On November 7, 2003, the Company sold its
wholly owned subsidiary Third Coast Wealth Advisors to two employees of Third
Coast. The sale generated an after tax loss of $250,000.

Effective October 15, 2003,
the Company effected a three for two stock split in the form of a 50% stock dividend payable to shareholders of record as of October 1, 2003. The share and per share information as of September 30, 2003 or any prior date has not been adjusted to give effect to the stock split.

Net Interest Income.For the three months ended September 30, 2003, net
interest income, before the provision for loan losses, increased by 18.6% to
$7.0 million from $5.9 million in the same period in 2002. The increase was
primarily due to the increased volumes in loans, not including loans held for
sale, and investment securities and the strategic lowering of the cost of funds
in relation to the decrease in rates on earning assets. This has resulted in
slightly lower yields on earning assets partially offset by lower rates paid
for interest-bearing liabilities. For the three months ended September 30, 2003
and 2002, the net interest margin decreased by 2 basis points to 4.91% from
4.93% and the net interest spread decreased by 8 basis points to 4.64% from
4.72%, respectively.

For the nine months ended September 30, 2003, net interest income, before
the provision for loan losses, increased by 29.3% to $20.3 million compared
with $15.7 million over the same period in 2002. For the nine months ended
September 30, 2003 and 2002, the net interest margin widened by 3 basis points
to 5.05% from 5.02% and the net interest spread widened by 1 basis point to
4.75% from 4.74%, respectively. The widening of the net interest margin was a
combined result of increased volumes in investments and loan balances, and a
decrease in the cost of funds.

Interest income for the three months ended September 30, 2003 was $9.6
million compared with $8.5 million for the same period in 2002. As compared to
the three months ended September 30, 2002, the average total loan volumes for
the three months ended September 30, 2003 increased by $30.5 million or 8.6%,
and the average

11



---



##### 



yields on average total loan volumes increased 37 basis points
to 8.21%. Average total investment volumes for the three months ended September
30, 2003 increased by $65.5 million or 57.9% compared with the same period in
2002, while the average yields on average investments decreased by 141 basis
points. For the three months ended
September 30, 2003, compared to the same period in 2002, the yield on
total average earning assets decreased by 39 basis points to 6.72%.

Interest income for the nine months ended September 30, 2003 was $28.4
million compared with $23.3 million for the same period in 2002. This increase
was primarily maintained through growth in average earning assets. As compared
to the nine months ended September 30, 2002, the average total loan volumes for
the nine month period ended September 30, 2003 increased by $78.2 million or
26.0%, and the average yields on average total loans increased by 5 basis
points to 8.36%. As compared with the nine months ended September 30, 2002,
average total investment volumes for the nine months ended September 30, 2003
increased by $41.7 million or 36.7%, while the average yields on average
investments decreased by 150 basis points. For the nine months ended September
30, 2003 compared to the same period in 2002, the yield on total average
earning assets decreased by 40 basis points to 7.05%.

Interest expense for the three months ended September 30, 2003 and 2002
was $2.6 million. Interest expense was maintained as the result of higher
average interest bearing deposit volumes coupled with lower interest rates paid
on those deposits. As compared to the three month period ended September 30,
2002, average interest bearing deposit volumes increased by $25.2 million or
6.7% while the average rates paid on interest bearing deposits decreased by 27
basis points to 1.82%.

For the nine months ended September 30, 2003, interest expense increased
by $400,000 or 5.3% to $8.0 million compared with $7.6 million for the same
period in 2002. The increased interest expense was mainly the result of higher
interest bearing deposit volumes coupled with lower interest rates paid on
those deposits. As compared to the nine months ended September 30, 2002,
average interest bearing deposit volumes increased by $54.3 million or 16.5%
while the average rates paid on deposits decreased by 41 basis points or 2.0%.

12



---



##### 



The following tables set forth for the periods indicated an analysis of
net interest income by each major category of interest-earning assets and
interest-bearing liabilities, the average amounts outstanding and the interest
earned or paid on such amounts. The tables also set forth the average rate
earned on total interest-earning assets, the average rate paid on total
interest-bearing liabilities and the net interest margin on average total
interest-earning assets for the same periods. Nonaccruing loans have been
included in the table as loans carrying a zero yield.

|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |   |      |      |   | 
|------------------------------------------------------------------------------- |  | -------------------------------------------------- | --------------------------------- | ----------------- | ------- | ---------------------------------------- | ------- | -------- | ----- | -------- | ----- | ----------- | ---- | -------- | ------- | -------- | ------- | ------- | ------- | - | ----- | ----- | ----- | - | ---- | ---- | - | 
|                                                                                |  |                                                    |                                   |                   |         | For the three months ended September 30,
|                                                                                |  |                                                    |                                   |                   |         |                                         
|                                                                                |  |                                                    |                                   |                   |         | 2003                                     |         | 2002    
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |         
|                                                                                |  |                                                    |                                   |                   |         | Average                                  |         | Interest |       | Average  |       | Average     |      | Interest |         | Average 
|                                                                                |  |                                                    |                                   |                   |         | Outstanding                              |         | Earned/  |       | Yield/   |       | Outstanding |      | Earned/  |         | Yield/  
|                                                                                |  |                                                    |                                   |                   |         | Balance                                  |         | Paid     |       | Rate (1) |       | Balance     |      | Paid     |         | Rate (1)
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |         
|                                                                                |  |                                                    |                                   |                   |         | (Dollars in thousands)                  
|Assets                                                                          |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Interest-earning assets:                                                        |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|                                                                                |  | Total loans                                        |                                   | $                 | 384,748 |                                          |         | $        | 7,966 |          |       |             | 8.21 | %        |         | $        | 354,191 |         |         | $ | 7,004 |       |       |   | 7.84 | %   
|                                                                                |  | Taxable securities                                 |                                   |                   | 168,502 |                                          |         |          | 1,513 |          |       |             | 3.56 |          |         |          | 99,653  |         |         |   | 1,248 |       |       |   | 4.97 |     
|                                                                                |  | Tax-exempt securities                              |                                   |                   | 11,237  |                                          |         |          | 126   |          |       |             | 4.45 |          |         |          | 14,540  |         |         |   | 161   |       |       |   | 4.39 |     
|                                                                                |  | Federal funds sold and
other temporary investments |                                   |                   | 3,581   |                                          |         |          | 17    |          |       |             | 1.88 |          |         |          | 3,467   |         |         |   | 39    |       |       |   | 4.46 |     
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|                                                                                |  | Total interest earning assets                      |                                   |                   | 568,068 |                                          |         |          | 9,622 |          |       |             | 6.72 |          |         |          | 471,851 |         |         |   | 8,452 |       |       |   | 7.11 |     
|                                                                                |  | Less allowance for loan losses                     |                                   |                   | 3,663   |                                          |         |          |       |          |       |             |      |          |         |          | 3,041   |         |         |   |       |       |       |   |      |     
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Total interest-earning assets, net of
allowance for loan losses                 |  |                                                    | 564,405                           |                   |         |                                          |         |          |       |          |       |             |      |          | 468,810 |          |         |         |         |   |       |       |       |  
|Noninterest-earning assets                                                      |  |                                                    | 66,993                            |                   |         |                                          |         |          |       |          |       |             |      |          | 70,949  |          |         |         |         |   |       |       |       |  
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|                                                                                |  |                                                    |                                   | Total assets      |         | $                                        | 631,398 |          |       |          |       |             |      |          |         |          |         | $       | 539,759 |   |       |       |       |   |      |      |   | 
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Liabilities and shareholders equity                                            |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Interest-bearing liabilities:                                                   |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|                                                                                |  |                                                    | Interest-bearing demand deposits  |                   | $       | 126,239                                  |         |          | $     | 297      |       |             |      | 0.93     | %       |          | $       | 113,109 |         |   | $     | 361   |       |   |      | 1.27 | %
|                                                                                |  |                                                    | Savings and money market
accounts |                   |         | 83,262                                   |         |          |       | 219      |       |             |      | 1.04     |         |          |         | 69,733  |         |   |       | 217   |       |   |      | 1.23 |  
|                                                                                |  |                                                    | Time deposits                     |                   |         | 193,781                                  |         |          |       | 1,338    |       |             |      | 2.74     |         |          |         | 195,280 |         |   |       | 1,410 |       |   |      | 2.86 |  
|                                                                                |  |                                                    | Federal funds
purchased           |                   |         | 7,574                                    |         |          |       | 30       |       |             |      | 1.57     |         |          |         | 9,368   |         |   |       | 118   |       |   |      | 5.00 |  
|Company obligated mandatorily
redeemable capital securities of
subsidiary
trust |  |                                                    | 7,000                             |                   |         |                                          | 185     |          |       |          | 10.49 |             |      |          | 7,000   |          |         |         | 194     |   |       |       | 10.99 |  
|Subordinated notes and debentures                                               |  |                                                    |                                  |                   |         |                                          |        |          |       |          |      |             |      |          | 2,442   |          |         |         | 77      |   |       |       | 12.51 |  
|Other borrowings                                                                |  |                                                    | 74,598                            |                   |         |                                          | 518     |          |       |          | 2.75  |             |      |          | 33,140  |          |         |         | 216     |   |       |       | 2.59  |  
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Total interest-bearing liabilities                                              |  |                                                    | 492,454                           |                   |         |                                          | 2,587   |          |       |          | 2.08  |             |      |          | 430,072 |          |         |         | 2,593   |   |       |       | 2.39  |  
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Noninterest-bearing liabilities:                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|                                                                                |  | Noninterest-bearing demand
deposits                |                                   |                   | 97,926  |                                          |         |          |       |          |       |             |      |          |         |          | 70,660  |         |         |   |       |       |       |   |      |     
|                                                                                |  | Other liabilities                                  |                                   |                   | 4,397   |                                          |         |          |       |          |       |             |      |          |         |          | 5,389   |         |         |   |       |       |       |   |      |     
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|                                                                                |  |                                                    |                                   | Total liabilities |         |                                          | 594,777 |          |       |          |       |             |      |          |         |          |         |         | 506,121 |   |       |       |       |   |      |      |   | 
|Shareholders equity                                                            |  |                                                    | 36,621                            |                   |         |                                          |         |          |       |          |       |             |      |          | 33,638  |          |         |         |         |   |       |       |       |  
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Total liabilities and shareholders equity                                      |  | $                                                  | 631,398                           |                   |         |                                          |         |          |       |          |       |             |      | $        | 539,759 |          |         |         |         |   |       |       |       |  
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Net interest income                                                             |  |                                                    |                                   |                   |         | $                                        | 7,035   |          |       |          |       |             |      |          |         |          |         | $       | 5,859   |   |       |       |       |  
|                                                                                |  |                                                    |                                   |                   |         |                                          |         |          |       |          |       |             |      |          |         |          |         |         |         |   |       |       |       |  
|Net interest spread                                                             |  |                                                    |                                   |                   |         |                                          |         |          |       |          | 4.64  | %           |      |          |         |          |         |         |         |   |       |       | 4.72  | %
|Net interest margin                                                             |  |                                                    |                                   |                   |         |                                          |         |          |       |          | 4.91  | %           |      |          |         |          |         |         |         |   |       |       | 4.93  | %



---

|(1) |  | Annualized
|--- |  | ----------

13



---



##### 



|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |   |      |   |  | 
|------------------------------------------------------------------------------- |  | -------------------------------------------------- | ------- | ----------------- | ------- | --------------------------------------- | ------- | -------- | ------ | -------- | ----- | ----------- | ---- | -------- | ------- | -------- | ------- | - | ------- | - | ------ |  | ----- | - | ---- | - |  | 
|                                                                                |  |                                                    |         |                   |         | For the nine months ended September 30,
|                                                                                |  |                                                    |         |                   |         |                                        
|                                                                                |  |                                                    |         |                   |         | 2003                                    |         | 2002    
|                                                                                |  |                                                    |         |                   |         |                                         |         |         
|                                                                                |  |                                                    |         |                   |         | Average                                 |         | Interest |        | Average  |       | Average     |      | Interest |         | Average 
|                                                                                |  |                                                    |         |                   |         | Outstanding                             |         | Earned/  |        | Yield/   |       | Outstanding |      | Earned/  |         | Yield/  
|                                                                                |  |                                                    |         |                   |         | Balance                                 |         | Paid     |        | Rate (1) |       | Balance     |      | Paid     |         | Rate (1)
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |         
|                                                                                |  |                                                    |         |                   |         | (Dollars in thousands)                 
|Assets                                                                          |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Interest-earning assets:                                                        |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|                                                                                |  | Total loans                                        |         | $                 | 379,303 |                                         |         | $        | 23,730 |          |       |             | 8.36 | %        |         | $        | 301,121 |   |         | $ | 18,718 |  |       |   | 8.31 | %
|                                                                                |  | Taxable securities                                 |         |                   | 142,561 |                                         |         |          | 4,143  |          |       |             | 3.89 |          |         |          | 92,994  |   |         |   | 3,752  |  |       |   | 5.39 |  
|                                                                                |  | Tax-exempt securities                              |         |                   | 12,655  |                                         |         |          | 424    |          |       |             | 4.48 |          |         |          | 20,572  |   |         |   | 698    |  |       |   | 4.54 |  
|                                                                                |  | Federal funds sold and
other temporary investments |         |                   | 3,427   |                                         |         |          | 70     |          |       |             | 2.73 |          |         |          | 2,964   |   |         |   | 92     |  |       |   | 4.15 |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|                                                                                |  | Total interest earning assets                      |         |                   | 537,946 |                                         |         |          | 28,367 |          |       |             | 7.05 |          |         |          | 417,651 |   |         |   | 23,260 |  |       |   | 7.45 |  
|                                                                                |  | Less allowance for loan losses                     |         |                   | 3,515   |                                         |         |          |        |          |       |             |      |          |         |          | 2,580   |   |         |   |        |  |       |   |      |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Total interest-earning assets, net of
allowance for loan losses                 |  |                                                    | 534,431 |                   |         |                                         |         |          |        |          |       |             |      |          | 415,071 |          |         |   |         |   |        |  |       |  
|Noninterest-earning assets                                                      |  |                                                    | 68,502  |                   |         |                                         |         |          |        |          |       |             |      |          | 59,280  |          |         |   |         |   |        |  |       |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|                                                                                |  |                                                    |         | Total assets      |         | $                                       | 602,933 |          |        |          |       |             |      |          |         |          |         | $ | 474,351 |   |        |  |       |   |      |   |  | 
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Liabilities and shareholders equity                                            |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Interest-bearing liabilities:                                                   |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|                                                                                |  | Interest-bearing demand deposits                   |         | $                 | 122,656 |                                         |         | $        | 957    |          |       |             | 1.04 | %        |         | $        | 103,786 |   |         | $ | 1,231  |  |       |   | 1.58 | %
|                                                                                |  | Savings and money market accounts                  |         |                   | 74,350  |                                         |         |          | 619    |          |       |             | 1.11 |          |         |          | 60,842  |   |         |   | 691    |  |       |   | 1.52 |  
|                                                                                |  | Time deposits                                      |         |                   | 186,925 |                                         |         |          | 4,167  |          |       |             | 2.98 |          |         |          | 164,985 |   |         |   | 4,120  |  |       |   | 3.34 |  
|                                                                                |  | Federal funds purchased                            |         |                   | 9,675   |                                         |         |          | 115    |          |       |             | 1.59 |          |         |          | 10,639  |   |         |   | 287    |  |       |   | 3.61 |  
|Company obligated mandatorily redeemable
capital securities of subsidiary trust |  |                                                    | 7,000   |                   |         |                                         | 554     |          |        |          | 10.58 |             |      |          | 7,000   |          |         |   | 577     |   |        |  | 11.02 |  
|Subordinated notes and debentures                                               |  |                                                    | 1,011   |                   |         |                                         | 87      |          |        |          | 11.51 |             |      |          | 814     |          |         |   | 77      |   |        |  | 12.65 |  
|Other borrowings                                                                |  |                                                    | 64,806  |                   |         |                                         | 1,542   |          |        |          | 3.18  |             |      |          | 25,238  |          |         |   | 582     |   |        |  | 3.08  |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Total interest-bearing liabilities                                              |  |                                                    | 466,423 |                   |         |                                         | 8,041   |          |        |          | 2.30  |             |      |          | 373,304 |          |         |   | 7,565   |   |        |  | 2.71  |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Noninterest-bearing liabilities:                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|                                                                                |  | Noninterest-bearing demand deposits                |         |                   | 94,948  |                                         |         |          |        |          |       |             |      |          |         |          | 64,763  |   |         |   |        |  |       |   |      |  
|                                                                                |  | Other liabilities                                  |         |                   | 4,403   |                                         |         |          |        |          |       |             |      |          |         |          | 5,760   |   |         |   |        |  |       |   |      |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|                                                                                |  |                                                    |         | Total liabilities |         |                                         | 565,774 |          |        |          |       |             |      |          |         |          |         |   | 443,827 |   |        |  |       |   |      |   |  | 
|Shareholders equity                                                            |  |                                                    | 37,159  |                   |         |                                         |         |          |        |          |       |             |      |          | 30,524  |          |         |   |         |   |        |  |       |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Total liabilities and shareholders equity                                      |  | $                                                  | 602,933 |                   |         |                                         |         |          |        |          |       |             |      | $        | 474,351 |          |         |   |         |   |        |  |       |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Net interest income                                                             |  |                                                    |         |                   |         | $                                       | 20,326  |          |        |          |       |             |      |          |         |          |         | $ | 15,695  |   |        |  |       |  
|                                                                                |  |                                                    |         |                   |         |                                         |         |          |        |          |       |             |      |          |         |          |         |   |         |   |        |  |       |  
|Net interest spread                                                             |  |                                                    |         |                   |         |                                         |         |          |        |          | 4.75  | %           |      |          |         |          |         |   |         |   |        |  | 4.74  | %
|Net interest margin                                                             |  |                                                    |         |                   |         |                                         |         |          |        |          | 5.05  | %           |      |          |         |          |         |   |         |   |        |  | 5.02  | %



---

|(1) |  | Annualized
|--- |  | ----------

14



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##### 





| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | The following tables present the dollar amount of changes in
interest income and interest expense for the major components of
interest-earning assets and interest-bearing liabilities and
distinguishes between the increase (decrease) related to outstanding
balances and changes in interest rates for the three and nine month
periods ended September 30, 2003 compared with the same periods in
2002. For purposes of these tables, changes attributable to both
volume and rate have been allocated proportionately to the change due
to volume and rate.

|                                |                                                                                 |                                               |     |                                  |       |      |     |       |      |   |       |     |       |  
|------------------------------- | ------------------------------------------------------------------------------- | --------------------------------------------- | --- | -------------------------------- | ----- | ---- | --- | ----- | ---- | - | ----- | --- | ----- | -
|                                |                                                                                 |                                               |     | Three months ended September 30,
|                                |                                                                                 |                                               |     |                                 
|                                |                                                                                 |                                               |     | 2003 vs. 2002                   
|                                |                                                                                 |                                               |     |                                 
|                                |                                                                                 |                                               |     | Increase (Decrease)              |       |      |     |      
|                                |                                                                                 |                                               |     | Due to                           |       |      |     |      
|                                |                                                                                 |                                               |     |                                  |       |      |     |      
|                                |                                                                                 |                                               |     | Volume                           |       | Rate |     | Total
|                                |                                                                                 |                                               |     |                                  |       |      |     |      
|                                |                                                                                 |                                               |     | (Dollars in thousands)          
|Interest-earning assets:        |                                                                                 |                                               |     |                                  |       |      |     |       |      |   |       |    
|                                | Total loans                                                                     |                                               | $   | 627                              |       |      | $   | 330   |      |   | $     | 957 |      
|                                | Securities                                                                      |                                               |     | 583                              |       |      |     | (353  | )    |   |       | 230 |      
|                                | Federal funds sold and other temporary investments                              |                                               |     | 1                                |       |      |     | (18   | )    |   |       | (17 | )    
|                                |                                                                                 |                                               |     |                                  |       |      |     |       |      |   |       |     |      
|                                |                                                                                 | Total increase (decrease) in interest income  |     |                                  | 1,211 |      |     |       | (41  | ) |       |     | 1,170 |  
|Interest-bearing liabilities:   |                                                                                 |                                               |     |                                  |       |      |     |       |      |   |       |    
|                                | Interest-bearing demand deposits                                                |                                               |     | 31                               |       |      |     | (95   | )    |   |       | (64 | )    
|                                | Savings and money market accounts                                               |                                               |     | 35                               |       |      |     | (33   | )    |   |       | 2   |      
|                                | Time deposits                                                                   |                                               |     | 10                               |       |      |     | (82   | )    |   |       | (72 | )    
|                                | Federal funds purchased                                                         |                                               |     | (7                               | )     |      |     | (81   | )    |   |       | (88 | )    
|                                | Company obligated mandatorily redeemable capital securities of
subsidiary trust |                                               |     |                                 |       |      |     | (9    | )    |   |       | (9  | )    
|                                | Subordinated notes and debentures                                               |                                               |     | (77                              | )     |      |     |      |      |   |       | (77 | )    
|                                | Other borrowings                                                                |                                               |     | 285                              |       |      |     | 17    |      |   |       | 302 |      
|                                |                                                                                 |                                               |     |                                  |       |      |     |       |      |   |       |    
|                                |                                                                                 | Total increase (decrease) in interest expense |     |                                  | 277   |      |     |       | (283 | ) |       |     | (6    | )
|                                |                                                                                 |                                               |     |                                  |       |      |     |       |      |   |       |    
|Increase in net interest income |                                                                                 | $                                             | 934 |                                  |       | $    | 242 |       |      | $ | 1,176 |    
|                                |                                                                                 |                                               |     |                                  |       |      |     |       |      |   |       |    

|                                |                                                                                 |                                               |       |                                 |       |      |     |        |        |   |       |       |       | 
|------------------------------- | ------------------------------------------------------------------------------- | --------------------------------------------- | ----- | ------------------------------- | ----- | ---- | --- | ------ | ------ | - | ----- | ----- | ----- | 
|                                |                                                                                 |                                               |       | Nine months ended September 30,
|                                |                                                                                 |                                               |       |                                
|                                |                                                                                 |                                               |       | 2003 vs. 2002                  
|                                |                                                                                 |                                               |       |                                
|                                |                                                                                 |                                               |       | Increase (Decrease)             |       |      |     |       
|                                |                                                                                 |                                               |       | Due to                          |       |      |     |       
|                                |                                                                                 |                                               |       |                                 |       |      |     |       
|                                |                                                                                 |                                               |       | Volume                          |       | Rate |     | Total 
|                                |                                                                                 |                                               |       |                                 |       |      |     |       
|                                |                                                                                 |                                               |       | (Dollars in thousands)         
|Interest-earning assets:        |                                                                                 |                                               |       |                                 |       |      |     |        |        |   |       |      
|                                | Total loans                                                                     |                                               | $     | 4,902                           |       |      | $   | 110    |        |   | $     | 5,012 |      
|                                | Securities                                                                      |                                               |       | 1,215                           |       |      |     | (1,098 | )      |   |       | 117   |      
|                                | Federal funds sold and other temporary investments                              |                                               |       | 9                               |       |      |     | (31    | )      |   |       | (22   | )    
|                                |                                                                                 |                                               |       |                                 |       |      |     |        |        |   |       |      
|                                |                                                                                 | Total increase (decrease) in interest income  |       |                                 | 6,126 |      |     |        | (1,019 | ) |       |       | 5,107 | 
|Interest-bearing liabilities:   |                                                                                 |                                               |       |                                 |       |      |     |        |        |   |       |      
|                                | Interest-bearing demand deposits                                                |                                               |       | 147                             |       |      |     | (421   | )      |   |       | (274  | )    
|                                | Savings and money market accounts                                               |                                               |       | 112                             |       |      |     | (184   | )      |   |       | (72   | )    
|                                | Time deposits                                                                   |                                               |       | 490                             |       |      |     | (443   | )      |   |       | 47    |      
|                                | Federal funds purchased                                                         |                                               |       | (11                             | )     |      |     | (161   | )      |   |       | (172  | )    
|                                | Company obligated mandatorily redeemable capital securities of
subsidiary trust |                                               |       |                                |       |      |     | (23    | )      |   |       | (23   | )    
|                                | Subordinated notes and debentures                                               |                                               |       | 10                              |       |      |     |       |        |   |       | 10    |      
|                                | Other borrowings                                                                |                                               |       | 943                             |       |      |     | 17     |        |   |       | 960   |      
|                                |                                                                                 |                                               |       |                                 |       |      |     |        |        |   |       |      
|                                |                                                                                 | Total increase (decrease) in interest expense |       |                                 | 1,691 |      |     |        | (1,215 | ) |       |       | 476   | 
|                                |                                                                                 |                                               |       |                                 |       |      |     |        |        |   |       |      
|Increase in net interest income |                                                                                 | $                                             | 4,435 |                                 |       | $    | 196 |        |        | $ | 4,631 |      
|                                |                                                                                 |                                               |       |                                 |       |      |     |        |        |   |       |      

Provision for Loan Losses.Provisions for loan losses are charged to
income to bring the Companys allowance for loan losses to a level deemed
appropriate by management. For the three and nine month periods ended
September 30, 2003 compared to the same periods in 2002, the provision
increased by $300,000 or 60.0% to $800,000, and increased by $750,000 or 55.6%
to $2.1 million, respectively. The allowance for loan losses at September 30,
2003 was $3.9 million, compared with $3.3 million at December 31, 2002. During
the latter part of

15



---



##### 



2002 and the first nine months of 2003, management increased its
provisions primarily due to growth in the loan portfolio and changes in the
Central Texas economy. At September 30, 2003, the ratio of the loan loss
allowance to total loans was 1.04% compared with 0.85% at December 31, 2002.

Noninterest Income.Noninterest income for the three months ended
September 30, 2003 and 2002 was $4.1 million and $2.2 million, respectively, an
increase of $1.9 million or 86.4%. For the nine months ended September 30, 2003 and
2002, noninterest income was $10.1 million and $7.8 million, respectively, an
increase of $2.3 million or 29.5%. The increase in noninterest income for both periods
is primarily attributed to an increase in service charges on deposit accounts
and a $1.0 million reversal on the impairment allowance for mortgage servicing
rights.

Mortgage servicing fees, net of amortization and impairment reversal, were
$1.4 million for the three months ended September 30, 2003. Mortgage servicing
fees, net of amortization and impairment charge, were $(263,000) for the same
period in 2002. For the nine months ended September 30, 2003, net mortgage
servicing fees were $1.6 million compared with $1.1 million for the same period
in 2002. The Company recorded a $1.0 million reversal on its mortgage servicing
rights impairment allowance during the third quarter of 2003 to reflect an
increase in the fair value of the mortgage servicing rights asset. The increase
in fair value of capitalized mortgage servicing rights is a result of the rise
in the 10-year Treasury rate, which produced higher mortgage rates and caused a
decrease in prepayments of mortgages serviced by the Company.

The following table presents, for the periods indicated, the major
categories of noninterest income:

|                                    |                          |   |                            |       |                           |   |       |       |      |   |       |        |  |   |       |       | 
|----------------------------------- | ------------------------ | - | -------------------------- | ----- | ------------------------- | - | ----- | ----- | ---- | - | ----- | ------ |  | - | ----- | ----- | 
|                                    |                          |   | For the three months ended |       | For the nine months ended
|                                    |                          |   | September 30,              |       | September 30,            
|                                    |                          |   |                            |       |                          
|                                    |                          |   | 2003                       |       | 2002                      |   | 2003  |       | 2002
|                                    |                          |   |                            |       |                           |   |       |       |     
|                                    |                          |   | (Dollars in thousands)    
|Service charges on deposit accounts |                          | $ | 1,718                      |       |                           | $ | 1,518 |       |      | $ | 5,016 |        |  | $ | 3,927 |      
|Net servicing fees                  |                          |   | 1,401                      |       |                           |   | (263  | )     |      |   | 1,551 |        |  |   | 1,139 |      
|Gain on sale of securities, net     |                          |   | 376                        |       |                           |   | 397   |       |      |   | 1,291 |        |  |   | 949   |      
|Other noninterest income            |                          |   | 654                        |       |                           |   | 546   |       |      |   | 2,259 |        |  |   | 1,789 |      
|                                    |                          |   |                            |       |                           |   |       |       |      |   |       |        |  |   |       |      
|                                    | Total noninterest income |   | $                          | 4,149 |                           |   | $     | 2,198 |      |   | $     | 10,117 |  |   | $     | 7,804 | 
|                                    |                          |   |                            |       |                           |   |       |       |      |   |       |        |  |   |       |      

Noninterest Expense.For the three months ended September 30, 2003,
noninterest expense increased by $1.4 million or 20.6% to $8.2 million,
compared to $6.8 million for the same period in 2002. For the nine months ended September 30,
2003, noninterest expense increased by $5.1 million or 29.1% to $22.6 million,
compared to $17.5 million for the same period in 2002. The increase in noninterest expense for
both periods was mainly due to additional employee compensation and benefits,
and increased professional fees, telecommunications and technology costs, and
printing and supplies.

The following table presents, for the periods indicated, the major
categories of noninterest expense:

|                                   |                                                    |                           |       |                        |       |                     |       |       |       |      |        |       |        |   |       |       |        | 
|---------------------------------- | -------------------------------------------------- | ------------------------- | ----- | ---------------------- | ----- | ------------------- | ----- | ----- | ----- | ---- | ------ | ----- | ------ | - | ----- | ----- | ------ | 
|                                   |                                                    |                           |       | For the three months   |       | For the nine months
|                                   |                                                    |                           |       | ended September 30,    |       | ended September 30,
|                                   |                                                    |                           |       |                        |       |                    
|                                   |                                                    |                           |       | 2003                   |       | 2002                |       | 2003  |       | 2002
|                                   |                                                    |                           |       |                        |       |                     |       |       |       |     
|                                   |                                                    |                           |       | (Dollars in thousands)
|Employee compensation and benefits |                                                    | $                         | 4,509 |                        |       | $                   | 3,206 |       |       | $    | 12,314 |       |        | $ | 9,140 |      
|Non-staff expenses:                |                                                    |                           |       |                        |       |                     |       |       |       |      |        |       |        |   |       |      
|                                   | Occupancy                                          |                           |       | 1,214                  |       |                     |       | 1,336 |       |      |        | 3,479 |        |   |       | 2,879 |       
|                                   | Depreciation and amortization                      |                           |       | 757                    |       |                     |       | 902   |       |      |        | 2,269 |        |   |       | 1,605 |       
|                                   | Data processing                                    |                           |       | 291                    |       |                     |       | 301   |       |      |        | 791   |        |   |       | 746   |       
|                                   | Professional fees, consultants, and contract labor |                           |       | 242                    |       |                     |       | 227   |       |      |        | 777   |        |   |       | 572   |       
|                                   | Advertising                                        |                           |       | 313                    |       |                     |       | 352   |       |      |        | 600   |        |   |       | 753   |       
|                                   | Printing and supplies                              |                           |       | 163                    |       |                     |       | 127   |       |      |        | 449   |        |   |       | 384   |       
|                                   | Telecommunications                                 |                           |       | 212                    |       |                     |       | 183   |       |      |        | 469   |        |   |       | 377   |       
|                                   | Other noninterest expense                          |                           |       | 487                    |       |                     |       | 143   |       |      |        | 1,415 |        |   |       | 999   |       
|                                   |                                                    |                           |       |                        |       |                     |       |       |       |      |        |       |        |   |       |      
|                                   |                                                    | Total non-staff expenses  |       |                        | 3,679 |                     |       |       | 3,571 |      |        |       | 10,249 |   |       |       | 8,315  | 
|                                   |                                                    |                           |       |                        |       |                     |       |       |       |      |        |       |        |   |       |      
|                                   |                                                    | Total noninterest expense |       | $                      | 8,188 |                     |       | $     | 6,777 |      |        | $     | 22,563 |   |       | $     | 17,455 | 
|                                   |                                                    |                           |       |                        |       |                     |       |       |       |      |        |       |        |   |       |      

16



---



##### 



Employee compensation and benefits expense represents 55.1% and 54.6% of
total noninterest expense for the three and nine month periods ended September
30, 2003, respectively. Employee compensation and benefits expense for the
three months ended September 30, 2003 was $4.5 million, an increase of $1.3
million or 40.6% from $3.2 million for the same period in 2002. For the nine
months ended September 30, 2003, employee compensation and benefits expense was
$12.3 million, reflecting an increase of $3.2 million or 35.2% from $9.1
million for the same period in 2002. The increases for both periods resulted
primarily from the costs associated with the additional staff to meet loan
growth, the addition of one de novo banking center in December 2002, the addition of
three banking centers as a result of The Bryan-College Station Financial
Holding Company acquisition, and the addition of two loan production offices.
Total full-time equivalent (FTE) employees at September 30, 2003 and 2002 were
322 and 282, respectively.

For the three months ended September 30, 2003, non-staff expenses
increased by $100,000 or 2.8% compared with the same period in 2002. For the
nine months ended September 30, 2003, non-staff expenses increased by $1.9
million or 22.9% compared with the same period in 2002. The increased
non-staff expenses for both periods was primarily due to the addition of one
de novo banking center and two loan production offices, the upgrade of technology
systems, increased printing costs, as well as other operating systems
improvements.

Financial Condition

Loan Portfolio.Total loans, including loans held for sale, decreased by
$12.9 million or 33.4%, from $386.3 million at December 31, 2002 to $373.4
million at September 30, 2003. The decrease is primarily due to the sale of $31.5
million in loans held for sale and the $2.0 million decrease in other
real estate loans, partially offset by a $13.6 million increase
in commercial mortgages and a $5.7 million increase in consumer loans. At
September 30, 2003 and December 31, 2002, the ratio of total loans to total
deposits was 74.1% and 85.3%, respectively. For the same periods, total loans
represented 59.3% and 65.8% of total assets, respectively.

The following table summarizes the loan portfolio of the Company by type
of loan at the dates indicated:

|                          |                 |           |         |                        |         |                   |       |        |  |         |         |         |         |  |       |      |  | 
|------------------------- | --------------- | --------- | ------- | ---------------------- | ------- | ----------------- | ----- | ------ |  | ------- | ------- | ------- | ------- |  | ----- | ---- |  | 
|                          |                 |           |         | September 30, 2003     |         | December 31, 2002
|                          |                 |           |         |                        |         |                  
|                          |                 |           |         | Amount                 |         | Percent           |       | Amount |  | Percent
|                          |                 |           |         |                        |         |                   |       |        |  |        
|                          |                 |           |         | (Dollars in thousands)
|Commercial and industrial |                 | $         | 63,029  |                        |         |                   | 16.9  | %      |  | $       | 62,391  |         |         |  | 16.2  | %   
|Real estate mortgage      |                 |           |         |                        |         |                   |       |        |  |         |         |         |         |  |       |     
|                          | 1-4 residential |           |         | 150,011                |         |                   |       | 40.2   |  |         |         | 149,471 |         |  |       | 38.7 | 
|                          | Commercial      |           |         | 75,587                 |         |                   |       | 20.2   |  |         |         | 62,014  |         |  |       | 16.0 | 
|                          | Held for sale   |           |         | 2,219                  |         |                   |       | 0.6    |  |         |         | 33,674  |         |  |       | 8.7  | 
|                          | Other           |           |         | 16,347                 |         |                   |       | 4.4    |  |         |         | 18,269  |         |  |       | 4.7  | 
|Consumer and other, net   |                 |           | 66,245  |                        |         |                   | 17.7  |        |  |         | 60,496  |         |         |  | 15.7  |     
|                          |                 |           |         |                        |         |                   |       |        |  |         |         |         |         |  |       |     
|Total loans               |                 | $         | 373,438 |                        |         |                   | 100.0 | %      |  | $       | 386,315 |         |         |  | 100.0 | %   
|                          |                 |           |         |                        |         |                   |       |        |  |         |         |         |         |  |       |     
|Allowance for loan losses |                 |           | 3,896   |                        |         |                   |       |        |  |         | 3,296   |         |         |  |       |     
|                          |                 |           |         |                        |         |                   |       |        |  |         |         |         |         |  |       |     
|                          |                 | Net loans |         | $                      | 369,542 |                   |       |        |  |         |         | $       | 383,019 |  |       |      |  | 
|                          |                 |           |         |                        |         |                   |       |        |  |         |         |         |         |  |       |     

Nonperforming Assets.Nonperforming assets at September 30, 2003 and
December 31, 2002 were $1.8 million and $2.0 million, respectively.

The Company generally places a loan on nonaccrual status and ceases to
accrue interest when loan payment performance is deemed unsatisfactory. Loans
where the interest payments jeopardize the collection of principal are placed
on nonaccrual status, unless the loan is both well-secured and in the process
of collection. Cash payments received while a loan is classified as nonaccrual
are recorded as a reduction of principal as long as doubt exists as to
collection.

17



---



##### 



The following table presents information regarding nonperforming assets at
the dates indicated:

|                                                          |                            |   |                        |       |                   |   |      |       | 
|--------------------------------------------------------- | -------------------------- | - | ---------------------- | ----- | ----------------- | - | ---- | ----- | 
|                                                          |                            |   | September 30, 2003     |       | December 31, 2002
|                                                          |                            |   |                        |       |                  
|                                                          |                            |   | (Dollars in thousands)
|Nonaccrual loans                                          |                            | $ | 95                     |       |                   | $ | 709  |      
|Accruing loans 90 days or more past due                   |                            |   | 1,278                  |       |                   |   | 960  |      
|Other real estate                                         |                            |   | 449                    |       |                   |   | 356  |      
|                                                          |                            |   |                        |       |                   |   |      |      
|                                                          | Total nonperforming assets |   | $                      | 1,822 |                   |   | $    | 2,025 | 
|                                                          |                            |   |                        |       |                   |   |      |      
|Nonperforming assets to total assets                      |                            |   | 0.29                   | %     |                   |   | 0.34 | %    
|Nonperforming assets to total loans and other real estate |                            |   | 0.49                   | %     |                   |   | 0.52 | %    

Allowance for Loan Losses.The Company has several systems in place to
assist in maintaining the overall quality of its loan portfolio. The Company
has established underwriting guidelines to be followed at each of its banking
centers. The Company also monitors its delinquency levels for any negative or
adverse trends and particularly monitors credits that have a total exposure of
$75,000 or more.

The allowance for loan losses is a reserve established through charges to
earnings in the form of a provision for loan losses. The Company utilizes a
model to determine the specific and general portions of the allowance for loan
losses. Through the loan review process, management assigns one of four loan
grades to each loan, according to payment history, collateral values and
financial condition of the borrower. Specific reserves are allocated for loans
assigned to a grade of watch or below, meaning that management has determined
that deterioration in a loan has occurred. The percentage of the specific
allocation for each loan is based on the risk elements attributable to that
particular loan. In addition, a general allocation is made for all loans in an
amount determined based on general economic condition, historical loan loss
experience, loan growth within a category, amount of past due loans and peer
averages. Management maintains the allowance based on the amounts determined
using the procedures set forth above.

For the nine months ended September 30, 2003, net loan charge-offs were
$1.5 million or 0.40% of average loans outstanding compared with $1.1 million
or 0.34% for the year ended December 31, 2002. At September 30, 2003 and
December 31, 2002, the allowance for loan losses aggregated $3.9 million and
$3.3 million, or 1.04% and 0.85% of total loans, respectively. At September 30,
2003, the allowance for loan losses as a percentage of nonperforming loans was
283.8% compared with 197.5% at December 31, 2002.

18



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##### 



The following table presents for the periods indicated an analysis of the
allowance for loan losses and other related data:

|                                                          |                           |                   |         |                        |        |                   |         |        |        |  
|--------------------------------------------------------- | ------------------------- | ----------------- | ------- | ---------------------- | ------ | ----------------- | ------- | ------ | ------ | -
|                                                          |                           |                   |         | Nine Months Ended      |        | Year Ended       
|                                                          |                           |                   |         | September 30, 2003     |        | December 31, 2002
|                                                          |                           |                   |         |                        |        |                  
|                                                          |                           |                   |         | (Dollars in thousands)
|Average total loans outstanding                           |                           | $                 | 379,303 |                        |        | $                 | 319,151 |       
|                                                          |                           |                   |         |                        |        |                   |         |       
|Total loans outstanding at end of period                  |                           | $                 | 373,438 |                        |        | $                 | 386,315 |       
|                                                          |                           |                   |         |                        |        |                   |         |       
|Allowance for loan losses at beginning of period          |                           |                   | 3,296   |                        |        |                   | 1,754   |       
|Provision for loan losses                                 |                           |                   | 2,100   |                        |        |                   | 1,900   |       
|Balance acquired in the Bryan-College Station acquisition |                           |                   |        |                        |        |                   | 740     |       
|Charge-offs:                                              |                           |                   |         |                        |        |                   |         |       
|                                                          | Commercial and industrial |                   |         | (465                   | )      |                   |         | (401   | )     
|                                                          | Real estate               |                   |         | (268                   | )      |                   |         | (117   | )     
|                                                          | Consumer                  |                   |         | (1,498                 | )      |                   |         | (1,528 | )     
|                                                          | Other                     |                   |         |                       |        |                   |         | (6     | )     
|                                                          |                           |                   |         |                        |        |                   |         |       
|                                                          |                           | Total charge-offs |         |                        | (2,231 | )                 |         |        | (2,052 | )
|                                                          |                           |                   |         |                        |        |                   |         |       
|Recoveries:                                               |                           |                   |         |                        |        |                   |         |       
|                                                          | Commercial and industrial |                   |         | 80                     |        |                   |         | 261    |       
|                                                          | Real estate               |                   |         | 71                     |        |                   |         | 36     |       
|                                                          | Consumer                  |                   |         | 569                    |        |                   |         | 603    |       
|                                                          | Other                     |                   |         | 11                     |        |                   |         | 54     |       
|                                                          |                           |                   |         |                        |        |                   |         |       
|                                                          |                           | Total recoveries  |         |                        | 731    |                   |         |        | 954    |  
|                                                          |                           |                   |         |                        |        |                   |         |       
|Net loan charge-offs                                      |                           |                   | (1,500  | )                      |        |                   | (1,098  | )     
|                                                          |                           |                   |         |                        |        |                   |         |       
|Allowance for loan losses at end of period                |                           | $                 | 3,896   |                        |        | $                 | 3,296   |       
|                                                          |                           |                   |         |                        |        |                   |         |       
|Ratio of allowance to end of period total loans           |                           |                   | 1.04    | %                      |        |                   | 0.85    | %     
|Ratio of net loan charge-offs to average total loans      |                           |                   | 0.40    | %                      |        |                   | 0.34    | %     
|Ratio of allowance to end of period nonperforming loans   |                           |                   | 283.76  | %                      |        |                   | 197.48  | %     

19



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##### 



Securities.At September 30, 2003, the securities portfolio totaled
$190.6 million, reflecting an increase of $58.5 million or 44.3% from $132.1
million at December 31, 2002. During the nine months ended September 30, 2003,
the Company purchased $175.7 million in investment securities. Included in this
amount were $99.4 million in mortgage loans originated by the Company that were
sold to Fannie Mae in various mortgage pools and reacquired by the Company as
investment securities. Additionally, the Company sold $83.4 million of
securities in an effort to reposition the portfolio for current economic
conditions and to provide funding for loan growth. The Company also received
$30.0 million in maturities and paydowns on investment securities.

Deposits. At September 30, 2003, total deposits were $503.7 million, an
increase of $50.8 million or 11.2% from $452.9 million at December 31, 2002.
Noninterest-bearing deposits at September 30, 2003 increased by $15.3 million
or 18.6% to $97.6 million from $82.3 million at December 31, 2002.
Interest-bearing deposits at September 30, 2003 increased by $35.5 million or
9.6% to $406.1 million from $370.6 million at December 31, 2002. The Companys
ratios of noninterest-bearing demand deposits to total deposits for September
30, 2003 and December 31, 2002 were 19.4% and 18.2%, respectively.

Borrowings.Borrowings consist of short-term and long-term advances from
the Federal Home Loan Bank (FHLB) and advances on the revolving operating
credit line with a bank. Borrowings increased $14.9 million to $77.8 million at
September 30, 2003 from $62.9 million at December 31, 2002. The maturity dates
for the FHLB borrowings range from the years 2003 to 2013 and have interest
rates from 1.17% to 5.91%.

Federal funds purchased decreased $19.6 million to $48,000 at September
30, 2003 from $19.7 million at December 31, 2002. Additionally, the Company had
three unused, unsecured federal funds lines of credit with correspondent banks
totaling $29.9 million at September 30, 2003 and $10.3 million at December 31,
2002.

As of September 30, 2003, the Companys subsidiary trust had $7.0 million
outstanding in trust preferred securities.

In connection with the acquisition of Bryan-College Station, the Company
assumed $3.6 million in subordinated debentures. The debentures carried an
interest rate of 11.5% and were redeemed on March 31, 2003.

At September 30, 2003, the Company had $6.3 million borrowed on its $10.0
million revolving operating credit line with a bank. The funds were used to
redeem the outstanding shares of Series A preferred stock issued by
Bryan-College Station, costs associated with becoming a reporting
company listed on the Nasdaq Stock Market, a capital injection into State Bank, and the redemption of the
subordinated debentures.

Liquidity.Liquidity involves the Companys ability to raise funds to
support asset growth or reduce assets to meet deposit withdrawals and other
payment obligations, to maintain reserve requirements and otherwise to operate
the Company on an ongoing basis. The Companys liquidity needs are primarily
met by growth in core deposits. Although access to purchased funds from
correspondent banks is available and has been utilized on occasion to take
advantage of investment opportunities, the Company does not rely on these
external funding sources. The Company maintains investments in liquid assets
based upon managements assessment of cash needs, expected deposit flows,
objectives of its asset/liability management program, availability of federal
funds or FHLB advances, and other available yield on liquid assets. Several
options are available to increase liquidity, including loan originations,
increasing deposit marketing activities, and borrowing from the FHLB or
correspondent banks. The cash and federal funds sold position, supplemented by
amortizing investments along with payments and maturities within the loan
portfolio, have historically created an adequate liquidity position.

20



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Asset liquidity is provided by cash and assets which are readily
marketable or which will mature in the near
future. At September 30, 2003, the Company had cash and cash equivalents
of $15.0 million, down from $20.6 million at December 31, 2002. The decrease is
mainly attributed to the decrease in federal funds purchased, partially offset
by the increase in borrowings.

The Company views time deposits as a stable means of supporting loan
growth. The Company believes, based on its historical experience, that its
large time deposits have core-type characteristics. The Company anticipates
that this source of funding will continue to sustain a portion of the Companys
asset growth in the future.

Capital Resources.Shareholders equity increased from $35.4 million at
December 31, 2002 to $36.4 million at September 30, 2003, an increase of $1.0
million or 2.8%. The increase was primarily due to a net addition to undivided
profits of $4.1 million as a result of net income for the period, partially offset by the
$2.5 million deterioration in unrealized security gains and losses and cash
dividends paid of $800,000.

The following table provides a comparison of the Companys and the State
Banks leverage and risk-weighted capital ratios as of September 30, 2003 to
the minimum and well-capitalized regulatory standards.

|            |                                 |  |                  |      |                   |  |                    |       |   |  |  |       |  
|----------- | ------------------------------- |  | ---------------- | ---- | ----------------- |  | ------------------ | ----- | - |  |  | ----- | -
|            |                                 |  |                  |      |                   |  | To be Well         |       |   |  | 
|            |                                 |  | Minimum          |      | Capitalized Under |  |                    |       |  
|            |                                 |  | Required for     |      | Prompt Corrective |  | Actual Ratio at   
|            |                                 |  | Capital Purposes |      | Action Provisions |  | September 30, 2003
|            |                                 |  |                  |      |                   |  |                   
|The Company |                                 |  |                  |      |                   |  |                    |       |   |  |  |      
|            | Leverage ratio                  |  |                  | 4.00 | %(1)              |  |                    | N/A   |   |  |  | 5.47  | %
|            | Tier 1 risk-based capital ratio |  |                  | 4.00 | %                 |  |                    | N/A   |   |  |  | 8.09  | %
|            | Risk-based capital ratio        |  |                  | 8.00 | %                 |  |                    | N/A   |   |  |  | 9.01  | %
|The Bank    |                                 |  |                  |      |                   |  |                    |       |   |  |  |      
|            | Leverage ratio                  |  |                  | 4.00 | %(2)              |  |                    | 5.00  | % |  |  | 6.16  | %
|            | Tier 1 risk-based capital ratio |  |                  | 4.00 | %                 |  |                    | 6.00  | % |  |  | 9.15  | %
|            | Risk-based capital ratio        |  |                  | 8.00 | %                 |  |                    | 10.00 | % |  |  | 10.08 | %



---

|(1) |  | The Federal Reserve Board may require the Company to maintain a leverage
ratio above the required minimum.
|--- |  | ----------------------------------------------------------------------------------------------------------
|   
|(2) |  | The FDIC may require the Bank to maintain a leverage ratio above the
required minimum.                    

Item 3.Quantitative and Qualitative Disclosures About Market Risk.

There have been no material changes in the market risk information
disclosed in the Companys Annual Report on Form 10-K as of and for the year
ended December 31, 2002, and in particular, Item 7 Managements Discussion and
Analysis of Financial Condition and Results of Operations - Interest Rate
Sensitivity and Market Risk.

Item 4.Controls and Procedures.

Evaluation of disclosure controls and procedures.The Company carried out
an evaluation, under the supervision and with the participation of its
management, including the Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of the Companys disclosure
controls and procedures as of the end of the period covered by this report.
Based on this evaluation, the Companys Chief Executive Officer and Chief
Financial Officer concluded that the Companys disclosure controls and
procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities
Exchange Act of 1934 (the Exchange Act)) are effective to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
to the Companys management within the time periods specified in the Securities
and Exchange Commissions rules and forms.

Changes in internal controls over financial reporting. There were no
changes in the Companys internal

21



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##### 



control over financial reporting that
occurred during the Companys most recent fiscal quarter that have materially
affected, or are reasonably likely to materially affect, the Companys internal
control over financial reporting.




PART II

OTHER INFORMATION




Item 1.Legal Proceedings

Not applicable




Item 2.Changes in Securities and Use of Proceeds

Not applicable




Item 3.Defaults Upon Senior Securities

Not applicable




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

Not applicable




Item 5.Other Information

Not applicable




Item 6A.Exhibits

|        |  |                                                                                                                                                    
|------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  | Identification                                                                                                                                     
|Number  |  | of Exhibit                                                                                                                                         
|31.1    |  | Certification of the Chief Executive Officer pursuant to Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended.                        
|        |  |                                                                                                                                                    
|31.2    |  | Certification of the Chief Financial Officer pursuant to Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended.                        
|        |  |                                                                                                                                                    
|32.1    |  | Certification of the Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|        |  |                                                                                                                                                    
|32.2    |  | Certification of the Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.




Item 6B.Reports on Form 8-K

The Company filed a Current Report on Form 8-K under Item 7 and Item 9 on
July 30, 2003 to announce the release of its earnings for the second quarter of
2003.

22



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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.

|                        |  |     |  |                                      
|----------------------- |  | --- |  | -------------------------------------
|                        |  | By: |  | /s/ L. Don Stricklin                 
|                        |  |     |  |                                      
|Date: November 12, 2003 |  |     |  | L. Don Stricklin                     
|                        |  |     |  | President and Chief Executive Officer
|                        |  |     |  | (principal executive officer)        
|                        |  |     |  |                                      
|Date: November 12, 2003 |  | By: |  | /s/ Thomas N. Adams                  
|                        |  |     |  |                                      
|                        |  |     |  | Thomas N. Adams                      
|                        |  |     |  | Executive Vice President and         
|                        |  |     |  | Chief Financial Officer              
|                        |  |     |  | (principal financial officer/        
|                        |  |     |  | principal accounting officer)        

23



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##### 






Exhibit Index

|        |  |                                                                                                                                                    
|------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  | Identification                                                                                                                                     
|Number  |  | of Exhibit                                                                                                                                         
|31.1    |  | Certification of the Chief Executive Officer pursuant to Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended.                        
|        |  |                                                                                                                                                    
|31.2    |  | Certification of the Chief Financial Officer pursuant to Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended.                        
|        |  |                                                                                                                                                    
|32.1    |  | Certification of the Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|        |  |                                                                                                                                                    
|32.2    |  | Certification of the Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.