##### Table of Contents









Form 10-K




þ


December 31, 2005




o





000-24503


Washington Banking Company




|                                                                   |  |                                            
|------------------------------------------------------------------ |  | -------------------------------------------
|Washington                                                         |  | 91-1725825                                 
|(State or other jurisdiction of
    incorporation or organization) |  | (I.R.S. Employer
    Identification Number)

450 SW Bayshore Drive


Oak Harbor, Washington 98277




(360) 679-3121


None




Common Stock, No Par Value




o þ


o þ


þ o


S-K 10-K 10-K. þ


12b-2


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12b-2 o þ






10-K


|                                                                 |  |                                                                          
|---------------------------------------------------------------- |  | -------------------------------------------------------------------------
|                                                                
|Registrants definitive Proxy Statement
    dated March 24, 2006 |  | Part III, except the reports of the audit and
    compensation committees



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##### Table of Contents



CROSS REFERENCE SHEET




10-K


|          |          |                            |  |                                                                                |  |                                                                                               |  |  |       | 
|--------- | -------- | -------------------------- |  | ------------------------------------------------------------------------------ |  | --------------------------------------------------------------------------------------------- |  |  | ----- | 
|Form 10-K |          | Definitive Proxy Statement
|          |          |                           
|Part and  |          |                           
|Item No.  |          | Caption                    |  | Caption                                                                        |  | Page                                                                                         
|          |          |                            |  |                                                                                |  |                                                                                              
|          | Part III |                            |  |                                                                                |  |                                                                                               |  |  |       | 
|          | Item 10. |                            |  | Directors and Executive Officers of the Registrant                             |  | Election of Directors and Beneficial
    Ownership and Section 16(a) Reporting
    Compliance |  |  | 4, 17 | 
|          | Item 11. |                            |  | Executive Compensation                                                         |  | Executive Compensation                                                                        |  |  | 10    | 
|          | Item 12. |                            |  | Security Ownership of Certain Beneficial Owners and Management
    and Related |  | Security Ownership of Certain Beneficial
    Owners and Management                            |  |  | 3     | 
|          |          |                            |  | Stockholder Matters                                                            |  |                                                                                               |  |  |       | 
|          | Item 13. |                            |  | Certain Relationships and Related Transactions                                 |  | Interest of Management in Certain
    Transactions                                            |  |  | 18    | 
|          | Item 14. |                            |  | Principal Accounting Fees and Services                                         |  | Relationship with Independent Public
    Accountants                                          |  |  | 18    | 

i



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##### 










Table of Contents


PART I


|             |  |                                                                                                                          |  |      |    | 
|------------ |  | ------------------------------------------------------------------------------------------------------------------------ |  | ---- | -- | 
|             |  |                                                                                                                          |  | Page
|             |  |                                                                                                                          |  |     
|Item 1.      |  | Business                                                                                                                 |  |      | 1  | 
|Item 1A.     |  | Risk Factors                                                                                                             |  |      | 6  | 
|Item 1B.     |  | Unresolved Staff Comments                                                                                                |  |      | 8  | 
|Item 2.      |  | Properties                                                                                                               |  |      | 8  | 
|Item 3.      |  | Legal Proceedings                                                                                                        |  |      | 8  | 
|Item 4.      |  | Submission of Matters to a Vote of Security
    Holders                                                                  |  |      | 9  | 
|            
|PART II     
|Item 5.      |  | Market for the Registrants Common
    Equity, Related Stockholder Matters and Issuer Purchases of
    Equity Securities |  |      | 9  | 
|Item 6.      |  | Selected Financial Data                                                                                                  |  |      | 10 | 
|Item 7.      |  | Managements Discussion and Analysis
    of Financial Condition and Results of Operations                                |  |      | 11 | 
|Item 7A.     |  | Quantitative and Qualitative Disclosures
    about Market Risk                                                           |  |      | 26 | 
|Item 8.      |  | Financial Statements and Supplementary
    Data                                                                          |  |      | 28 | 
|Item 9.      |  | Changes in and Disagreements with
    Accountants on Accounting and Financial Disclosure                                 |  |      | 61 | 
|Item 9A.     |  | Controls and Procedures                                                                                                  |  |      | 61 | 
|Item 9B.     |  | Other Information                                                                                                        |  |      | 61 | 
|            
|PART III    
|Item 10.     |  | Directors and Executive Officers of the
    Registrant                                                                   |  |      | 61 | 
|Item 11.     |  | Executive Compensation                                                                                                   |  |      | 61 | 
|Item 12.     |  | Security Ownership of Certain Beneficial
    Owners and Management and Related Stockholder Matters                       |  |      | 62 | 
|Item 13.     |  | Certain Relationships and Related
    Transactions                                                                       |  |      | 62 | 
|Item 14.     |  | Principal Accounting Fees and Services                                                                                   |  |      | 62 | 
|            
|PART IV     
|Item 15.     |  | Exhibits, Financial Statement Schedules                                                                                  |  |      | 62 | 
|EXHIBIT 21  
|EXHIBIT 23  
|EXHIBIT 24  
|EXHIBIT 31.1
|EXHIBIT 31.2
|EXHIBIT 32.1
|EXHIBIT 32.2



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Note Regarding Forward-Looking Statements: 10-K





PART I





Item 1. Business


General




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




1



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www.wibank.com http://www.sec.gov


Growth Strategy










Market Areas






2



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Competition






Executive Officers of the Company




|                   |  |     |    |          |  |                                                      |  |  |      | 
|------------------ |  | --- | -- | -------- |  | ---------------------------------------------------- |  |  | ---- | 
|                   |  |     |    |          |  | Has served as an                                    
|                   |  |     |    |          |  | executive officer                                   
|                   |  |     |    |          |  | of the Company or                                   
|Name               |  | Age |    | Position |  | Bank since                                          
|                   |  |     |    |          |  |                                                     
|Michal D. Cann     |  |     | 57 |          |  | President and Chief Executive Officer                |  |  | 1992 | 
|Phyllis A. Hawkins |  |     | 57 |          |  | Senior Vice President and Controller                 |  |  | 1995 | 
|Joseph W. Niemer   |  |     | 54 |          |  | Executive Vice President and Chief Credit Officer    |  |  | 2005 | 
|Richard A. Shields |  |     | 46 |          |  | Senior Vice President and Chief Financial Officer    |  |  | 2004 | 
|John L. Wagner     |  |     | 62 |          |  | Executive Vice President and Chief Operating Officer |  |  | 2004 | 

Michal D. Cann.


3



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Phyllis A. Hawkins.


Joseph W. Niemer.


Richard A. Shields.


John L. Wagner.


Employees




day-to


Supervision and Regulation






Gramm-Leach-Bliley Financial Services Modernization Act.


4



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Interstate Banking and Branching. out-of out-of


Federal and State Bank Regulation.






5



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Capital Adequacy.


Sarbanes-Oxley Act of 2002.


USA Patriot Act of 2001.


Effects of Governmental Monetary Policies









|         |             
|-------- | ------------
|Item 1A. | Risk Factors

Business Managements Discussion and
Analysis of Financial Condition and Results of Operations


6



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Adequacy of the Allowance for Loan Losses.


Growth and Management.


Changes in Market Interest Rates.


Liquidity.


Geographic Concentration.


7



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Regulation.




Competition.


Credit Risk.







|         |                          
|-------- | -------------------------
|Item 1B. | Unresolved Staff Comments






Item 2. Properties









Item 3. Legal Proceedings




8



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







PART II







|        |                                                                                                                     
|------- | --------------------------------------------------------------------------------------------------------------------
|Item 5. | Market for the Registrants Common Equity, Related
    Stockholder Matters and Issuer Purchases of Equity Securities







|               |  |      |       |      |  |          |       |      |  |     |       |          |  |   |       |  |  |   |       |  |  |   |       | 
|-------------- |  | ---- | ----- | ---- |  | -------- | ----- | ---- |  | --- | ----- | -------- |  | - | ----- |  |  | - | ----- |  |  | - | ----- | 
|               |  | 2005 |       | 2004
|               |  |      |       |     
|               |  | High |       | Low  |  | Dividend |       | High |  | Low |       | Dividend
|               |  |      |       |      |  |          |       |      |  |     |       |         
|First quarter  |  | $    | 14.96 |      |  | $        | 13.31 |      |  | $   | 0.054 |          |  | $ | 13.50 |  |  | $ | 10.44 |  |  | $ | 0.047 | 
|Second quarter |  |      | 15.15 |      |  |          | 12.75 |      |  |     | 0.055 |          |  |   | 13.10 |  |  |   | 11.10 |  |  |   | 0.054 | 
|Third quarter  |  |      | 19.74 |      |  |          | 15.25 |      |  |     | 0.055 |          |  |   | 11.63 |  |  |   | 10.50 |  |  |   | 0.054 | 
|Fourth quarter |  |      | 18.50 |      |  |          | 17.00 |      |  |     | 0.055 |          |  |   | 13.65 |  |  |   | 11.18 |  |  |   | 0.054 | 

4-for-3


Sales of Unregistered Securities




Purchases of Equity Securities




9



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Item 6. Selected Financial Data


Consolidated Five-Year Statements of Operations and
Selected Financial Data


Financial
Statements and Supplementary Data Managements Discussion and Analysis of Financial
Condition and Results of Operations


|                                                 |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       | 
|------------------------------------------------ | ----------------------------------------------- | ----------------------------------- | ---------- | ------- | ------ | ----- | --------- | ------- | ------ | ----- | --------- | ------- | ------ | ----- | --------- | ------- | ------ | ----- | --------- | ------- | ------ | ----- | 
|                                                 |                                                 | Years Ended December 31            
|                                                 |                                                 |                                    
|                                                 |                                                 | 2005                                |            | 2004    |        | 2003  |           | 2002    |        | 2001 
|                                                 |                                                 |                                     |            |         |        |       |           |         |        |      
|(Dollars in thousands, except per share amounts) |                                                 |                                    
|Operating data:                                  |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 | Total interest income                           |                                     | $          | 45,790  |        |       | $         | 38,464  |        |       | $         | 35,913  |        |       | $         | 34,785  |        |       | $         | 32,702  |       
|                                                 | Total interest expense                          |                                     |            | 11,566  |        |       |           | 8,837   |        |       |           | 8,737   |        |       |           | 10,657  |        |       |           | 13,436  |       
|                                                 |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 |                                                 | Net interest income                 |            |         | 34,224 |       |           |         | 29,627 |       |           |         | 27,176 |       |           |         | 24,128 |       |           |         | 19,266 |      
|                                                 | Provision for loan losses                       |                                     |            | (2,250  | )      |       |           | (3,500  | )      |       |           | (3,200  | )      |       |           | (3,866  | )      |       |           | (2,780  | )     
|                                                 |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 |                                                 | Net interest income after provision |            |         | 31,974 |       |           |         | 26,127 |       |           |         | 23,976 |       |           |         | 20,262 |       |           |         | 16,486 |      
|                                                 | Service charges on deposits                     |                                     |            | 3,150   |        |       |           | 2,986   |        |       |           | 2,127   |        |       |           | 1,801   |        |       |           | 1,707   |       
|                                                 | Other noninterest income                        |                                     |            | 4,149   |        |       |           | 3,685   |        |       |           | 3,732   |        |       |           | 3,224   |        |       |           | 2,731   |       
|                                                 |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 |                                                 | Total noninterest income            |            |         | 7,299  |       |           |         | 6,671  |       |           |         | 5,859  |       |           |         | 5,025  |       |           |         | 4,438  |      
|                                                 | Noninterest expense                             |                                     |            | 25,225  |        |       |           | 23,267  |        |       |           | 21,014  |        |       |           | 17,231  |        |       |           | 14,722  |       
|                                                 |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 |                                                 | Income before income taxes          |            |         | 14,048 |       |           |         | 9,531  |       |           |         | 8,821  |       |           |         | 8,056  |       |           |         | 6,202  |      
|                                                 | Provision for income taxes                      |                                     |            | 4,580   |        |       |           | 2,985   |        |       |           | 2,798   |        |       |           | 2,719   |        |       |           | 1,918   |       
|                                                 |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 | Income from discontinued operations, net of tax |                                     |            |        |        |       |           | (370    | )      |       |           | (56     | )      |       |           |        |        |       |           |        |       
|                                                 |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 |                                                 |                                     | Net income |         | $      | 9,468 |           |         | $      | 6,176 |           |         | $      | 5,967 |           |         | $      | 5,337 |           |         | $      | 4,284 | 
|                                                 |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|Average number of shares outstanding, basic      |                                                 |                                     | 7,278,486  |         |        |       | 7,209,349 |         |        |       | 7,121,948 |         |        |       | 6,871,089 |         |        |       | 6,827,136 |        
|Average number of shares outstanding, diluted    |                                                 |                                     | 7,542,174  |         |        |       | 7,460,596 |         |        |       | 7,398,241 |         |        |       | 7,255,283 |         |        |       | 7,150,205 |        
|Per share
    data(1):                           |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 | Net income per share, basic                     |                                     | $          | 1.30    |        |       | $         | 0.86    |        |       | $         | 0.84    |        |       | $         | 0.78    |        |       | $         | 0.63    |       
|                                                 | Net income per share, diluted                   |                                     |            | 1.26    |        |       |           | 0.83    |        |       |           | 0.81    |        |       |           | 0.74    |        |       |           | 0.60    |       
|                                                 | Book value                                      |                                     |            | 7.84    |        |       |           | 6.85    |        |       |           | 6.21    |        |       |           | 5.66    |        |       |           | 5.11    |       
|                                                 | Dividends                                       |                                     |            | 0.22    |        |       |           | 0.22    |        |       |           | 0.18    |        |       |           | 0.16    |        |       |           | 0.14    |       
|Balance sheet data:                              |                                                 |                                     |            |         |        |       |           |         |        |       |           |         |        |       |           |         |        |       |           |        
|                                                 | Total assets                                    |                                     | $          | 725,976 |        |       | $         | 657,724 |        |       | $         | 581,741 |        |       | $         | 535,412 |        |       | $         | 437,686 |       
|                                                 | Loans receivable                                |                                     |            | 630,258 |        |       |           | 579,980 |        |       |           | 499,919 |        |       |           | 430,074 |        |       |           | 374,792 |       
|                                                 | Allowance for loan losses                       |                                     |            | 8,810   |        |       |           | 7,903   |        |       |           | 6,116   |        |       |           | 5,514   |        |       |           | 4,308   |       
|                                                 | Other real estate owned                         |                                     |            |        |        |       |           | 1,222   |        |       |           | 504     |        |       |           | 592     |        |       |           | 473     |       
|                                                 | Federal funds sold                              |                                     |            | 21,095  |        |       |           |        |        |       |           | 4,795   |        |       |           | 23,000  |        |       |           | 2,500   |       
|                                                 | Deposits                                        |                                     |            | 637,489 |        |       |           | 563,001 |        |       |           | 501,497 |        |       |           | 462,995 |        |       |           | 367,175 |       
|                                                 | Other borrowed funds                            |                                     |            | 10,000  |        |       |           | 5,000   |        |       |           | 12,500  |        |       |           | 15,000  |        |       |           | 32,500  |       
|                                                 | Junior subordinated debentures                  |                                     |            | 15,007  |        |       |           | 15,007  |        |       |           |        |        |       |           |        |        |       |           |        |       
|                                                 | Trust preferred securities                      |                                     |            |        |        |       |           |        |        |       |           | 15,000  |        |       |           | 15,000  |        |       |           |        |       
|                                                 | Shareholders equity                            |                                     |            | 57,849  |        |       |           | 49,591  |        |       |           | 44,360  |        |       |           | 39,432  |        |       |           | 34,977  |       



|    |                                                                                                                                                                                                       
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Per share data adjusted for the
    4-for-3 stock split
    distributed on May 17, 2005, 15% stock dividend distributed
    February 26, 2004 and 10% stock dividend distributed
    October 24, 2002.

10



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(Continued)


|                             |                                                   |                         |  |         |  |      |  |         |  |      |  |         |  |  |  |         |  |  |  |         | 
|---------------------------- | ------------------------------------------------- | ----------------------- |  | ------- |  | ---- |  | ------- |  | ---- |  | ------- |  |  |  | ------- |  |  |  | ------- | 
|                             |                                                   | Years Ended December 31
|                             |                                                   |                        
|                             |                                                   | 2005                    |  | 2004    |  | 2003 |  | 2002    |  | 2001
|                             |                                                   |                         |  |         |  |      |  |         |  |     
|Selected performance ratios: |                                                   |                         |  |         |  |      |  |         |  |      |  |         |  |  |  |         |  |  |  |        
|                             | Return on average assets                          |                         |  | 1.37%   |  |      |  | 0.98%   |  |      |  | 1.06%   |  |  |  | 1.09%   |  |  |  | 1.06%   | 
|                             | Return on average equity                          |                         |  | 17.87%  |  |      |  | 13.37%  |  |      |  | 14.43%  |  |  |  | 14.41%  |  |  |  | 12.62%  | 
|                             | Net interest margin (fully tax-equivalent)        |                         |  | 5.36%   |  |      |  | 5.15%   |  |      |  | 5.22%   |  |  |  | 5.36%   |  |  |  | 5.29%   | 
|                             | Net interest spread                               |                         |  | 5.02%   |  |      |  | 4.89%   |  |      |  | 4.92%   |  |  |  | 4.99%   |  |  |  | 4.72%   | 
|                             | Noninterest expense to average assets             |                         |  | 3.64%   |  |      |  | 3.71%   |  |      |  | 3.73%   |  |  |  | 3.52%   |  |  |  | 3.66%   | 
|                             | Efficiency ratio (fully tax-equivalent)           |                         |  | 60.37%  |  |      |  | 63.55%  |  |      |  | 62.96%  |  |  |  | 58.39%  |  |  |  | 61.21%  | 
|                             | Dividend payout ratio                             |                         |  | 17.46%  |  |      |  | 26.51%  |  |      |  | 22.22%  |  |  |  | 20.27%  |  |  |  | 23.33%  | 
|Asset quality ratios:        |                                                   |                         |  |         |  |      |  |         |  |      |  |         |  |  |  |         |  |  |  |        
|                             | Nonperforming loans to period-end loans           |                         |  | 0.34%   |  |      |  | 0.48%   |  |      |  | 0.83%   |  |  |  | 0.75%   |  |  |  | 0.56%   | 
|                             | Allowance for loan losses to period-end loans     |                         |  | 1.40%   |  |      |  | 1.36%   |  |      |  | 1.22%   |  |  |  | 1.28%   |  |  |  | 1.15%   | 
|                             | Allowance for loan losses to nonperforming loans  |                         |  | 408.06% |  |      |  | 281.05% |  |      |  | 147.09% |  |  |  | 171.14% |  |  |  | 205.73% | 
|                             | Nonperforming assets to total assets              |                         |  | 0.30%   |  |      |  | 0.61%   |  |      |  | 0.80%   |  |  |  | 0.71%   |  |  |  | 0.59%   | 
|                             | Net loan charge-offs to average loans outstanding |                         |  | 0.22%   |  |      |  | 0.32%   |  |      |  | 0.56%   |  |  |  | 0.64%   |  |  |  | 0.33%   | 
|Capital ratios:              |                                                   |                         |  |         |  |      |  |         |  |      |  |         |  |  |  |         |  |  |  |        
|                             | Total risk-based capital                          |                         |  | 11.52%  |  |      |  | 11.40%  |  |      |  | 12.01%  |  |  |  | 12.80%  |  |  |  | 9.76%   | 
|                             | Tier 1 risk-based capital                         |                         |  | 10.28%  |  |      |  | 10.15%  |  |      |  | 10.85%  |  |  |  | 11.22%  |  |  |  | 8.69%   | 
|                             | Leverage ratio                                    |                         |  | 10.26%  |  |      |  | 9.87%   |  |      |  | 10.17%  |  |  |  | 9.89%   |  |  |  | 8.13%   | 
|                             | Average equity to average assets                  |                         |  | 7.65%   |  |      |  | 7.36%   |  |      |  | 7.33%   |  |  |  | 7.57%   |  |  |  | 8.44%   | 
|Other data:                  |                                                   |                         |  |         |  |      |  |         |  |      |  |         |  |  |  |         |  |  |  |        
|                             | Number of banking offices                         |                         |  | 19      |  |      |  | 18      |  |      |  | 17      |  |  |  | 17      |  |  |  | 14      | 
|                             | Number of full time equivalent employees          |                         |  | 296     |  |      |  | 289     |  |      |  | 300     |  |  |  | 247     |  |  |  | 209     | 

Summary of Quarterly Financial Information


Financial Statements and
Supplementary Data





Item 7. Managements Discussion and Analysis of
Financial Condition and Results of Operations


Financial Statements
and Supplementary Data


Executive Overview






|  |                                                                                              
|- | ---------------------------------------------------------------------------------------------
| | Operating efficiency ratio improved by 3% to 60.37%.                                         
| 
| | Net interest margin expanded by 0.21% to 5.36%.                                              
| 
| | Nonperforming assets as a percent of total assets decreased to
    0.30%.                    
| 
| | Liquidation of all other real estate owned, a $1.22 million
    decrease.                    
| 
| | Continued organic growth; 9% for loans and 13% for total
    deposits.                       
| 
| | Solid expansion of noninterest-bearing deposits to
    $105 million or 17% of total deposits.
| 
| | Return on average assets improved to 1.37% from 0.98%.                                       

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|  |                                                                       
|- | ----------------------------------------------------------------------
| | Improvement in the return on average equity to 17.87% from
    13.37%.
| 
| | A 4-for-3 stock split
    in May 2005.                                





|  |                                                                                                                                      
|- | -------------------------------------------------------------------------------------------------------------------------------------
| | Continued decline in revenues from the sale of mortgage loans
    from a record high of $2.1 million in 2003 to $773,000 in
    2005.
| 
| | Implemented the compliance requirements of the Sarbanes Oxley
    Act, Section 404.                                                  

Summary of Critical Accounting Policies


Financial Statements and
Supplementary Data


Results of Operations Overview




Net Interest Income:




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|                                      |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |       |  | 
|------------------------------------- | ------------------------------------------ | ----------------------------------- | ------- | ----------- | ------- | ------- | ------ | ------- |  | ----------- | ----- | ------- |  | ------- | ------- | ----------- | ------- | ------- | ------ | ----- |  |  | ----- | ----- |  | - | ------- | ------- | ------- | - | ------ | ----- |  |  | ----- | ----- |  | 
|                                      |                                            | Net Interest Income Analysis as of:
|                                      |                                            | Years Ended December 31            
|                                      |                                            |                                    
|                                      |                                            | 2005                                |         | 2004        |         | 2003   
|                                      |                                            |                                     |         |             |         |        
|                                      |                                            | Average                             |         | Interest    |         | Average |        | Average |  | Interest    |       | Average |  | Average |         | Interest    |         | Average
|(Dollars in thousands)                |                                            | balance                             |         | earned/paid |         | yield   |        | balance |  | earned/paid |       | yield   |  | balance |         | earned/paid |         | yield  
|                                      |                                            |                                     |         |             |         |        
|Assets                                |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|Loans(1)(2)                           |                                            | $                                   | 608,998 |             |         | $       | 44,707 |         |  |             | 7.34% |         |  | $       | 547,462 |             |         | $       | 37,509 |       |  |  | 6.85% |       |  | $ | 474,874 |         |         | $ | 34,545 |       |  |  | 7.27% |      
|Federal funds sold                    |                                            |                                     | 12,365  |             |         |         | 440    |         |  |             | 3.56% |         |  |         | 8,103   |             |         |         | 111    |       |  |  | 1.37% |       |  |   | 19,104  |         |         |   | 197    |       |  |  | 1.03% |      
|Interest-bearing cash                 |                                            |                                     | 897     |             |         |         | 28     |         |  |             | 3.12% |         |  |         | 699     |             |         |         | 9      |       |  |  | 1.29% |       |  |   | 5,966   |         |         |   | 62     |       |  |  | 1.04% |      
|Investments:                          |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|                                      | Taxable                                    |                                     |         | 14,158      |         |         |        | 399     |  |             |       | 2.82%   |  |         |         | 14,473      |         |         |        | 434   |  |  |       | 3.00% |  |   |         | 13,001  |         |   |        | 446   |  |  |       | 3.43% | 
|                                      | Non-taxable(2)                             |                                     |         | 6,810       |         |         |        | 477     |  |             |       | 7.00%   |  |         |         | 10,798      |         |         |        | 715   |  |  |       | 6.62% |  |   |         | 14,608  |         |   |        | 1,004 |  |  |       | 6.87% | 
|                                      |                                            |                                     |         |             |         |        
|Interest-earning assets               |                                            |                                     | 643,228 |             |         |         | 46,051 |         |  |             | 7.16% |         |  |         | 581,535 |             |         |         | 38,778 |       |  |  | 6.67% |       |  |   | 527,553 |         |         |   | 36,254 |       |  |  | 6.87% |      
|Noninterest-earning assets            |                                            |                                     | 49,832  |             |         |         |        |         |  |             |       |         |  |         | 45,819  |             |         |         |        |       |  |  |       |       |  |   | 36,410  |         |         |   |        |       |  |  |       |      
|                                      |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|                                      |                                            | Total assets                        |         | $           | 693,060 |         |        |         |  |             |       |         |  |         |         | $           | 627,354 |         |        |       |  |  |       |       |  |   |         | $       | 563,963 |   |        |       |  |  |       |       |  | 
|                                      |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|Liabilities and Shareholders Equity  |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|Deposits:                             |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|                                      | Interest bearing demand and money market   |                                     | $       | 227,588     |         |         | $      | 2,485   |  |             |       | 1.09%   |  |         | $       | 212,519     |         |         | $      | 1,610 |  |  |       | 0.76% |  |   | $       | 190,837 |         |   | $      | 1,707 |  |  |       | 0.89% | 
|                                      | Savings                                    |                                     |         | 57,131      |         |         |        | 448     |  |             |       | 0.78%   |  |         |         | 48,270      |         |         |        | 381   |  |  |       | 0.79% |  |   |         | 36,332  |         |   |        | 296   |  |  |       | 0.81% | 
|                                      | CDs                                        |                                     |         | 224,002     |         |         |        | 7,024   |  |             |       | 3.14%   |  |         |         | 208,991     |         |         |        | 5,632 |  |  |       | 2.69% |  |   |         | 190,755 |         |   |        | 5,380 |  |  |       | 2.82% | 
|                                      |                                            |                                     |         |             |         |        
|Interest-bearing deposits             |                                            |                                     | 508,721 |             |         |         | 9,957  |         |  |             | 1.96% |         |  |         | 469,780 |             |         |         | 7,623  |       |  |  | 1.62% |       |  |   | 417,924 |         |         |   | 7,383  |       |  |  | 1.77% |      
|Fed funds purchased                   |                                            |                                     | 5,740   |             |         |         | 159    |         |  |             | 2.77% |         |  |         | 3,106   |             |         |         | 46     |       |  |  | 1.48% |       |  |   | 98      |         |         |   | 1      |       |  |  | 1.02% |      
|Junior subordinated debentures        |                                            |                                     | 15,007  |             |         |         | 1,071  |         |  |             | 7.14% |         |  |         | 15,007  |             |         |         | 782    |       |  |  | 5.21% |       |  |   |        |         |         |   |       |       |  |  |      |      
|Trust preferred securities            |                                            |                                     |        |             |         |         |       |         |  |             |      |         |  |         |        |             |         |         |       |       |  |  |      |       |  |   | 14,918  |         |         |   | 742    |       |  |  | 4.97% |      
|Other interest-bearing liabilities    |                                            |                                     | 9,846   |             |         |         | 379    |         |  |             | 3.85% |         |  |         | 8,919   |             |         |         | 386    |       |  |  | 4.33% |       |  |   | 14,864  |         |         |   | 611    |       |  |  | 4.11% |      
|Interest-bearing liabilities          |                                            |                                     | 539,314 |             |         |         | 11,566 |         |  |             | 2.14% |         |  |         | 496,812 |             |         |         | 8,837  |       |  |  | 1.78% |       |  |   | 447,804 |         |         |   | 8,737  |       |  |  | 1.95% |      
|Noninterest-bearing deposits          |                                            |                                     | 96,511  |             |         |         |        |         |  |             |       |         |  |         | 81,146  |             |         |         |        |       |  |  |       |       |  |   | 71,764  |         |         |   |        |       |  |  |       |      
|Other noninterest-bearing liabilities |                                            |                                     | 4,250   |             |         |         |        |         |  |             |       |         |  |         | 3,193   |             |         |         |        |       |  |  |       |       |  |   | 3,040   |         |         |   |        |       |  |  |       |      
|                                      |                                            | Total liabilities                   |         |             | 640,075 |         |        |         |  |             |       |         |  |         |         |             | 581,151 |         |        |       |  |  |       |       |  |   |         |         | 522,608 |   |        |       |  |  |       |       |  | 
|Shareholders equity                  |                                            |                                     | 52,985  |             |         |         |        |         |  |             |       |         |  |         | 46,203  |             |         |         |        |       |  |  |       |       |  |   | 41,355  |         |         |   |        |       |  |  |       |      
|                                      |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|                                      | Total liabilities and shareholders equity |                                     | $       | 693,060     |         |         |        |         |  |             |       |         |  |         | $       | 627,354     |         |         |        |       |  |  |       |       |  |   | $       | 563,963 |         |   |        |       |  |  |       |       | 
|                                      |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|Net interest
    income(2)            |                                            |                                     |         |             |         | $       | 34,485 |         |  |             |       |         |  |         |         |             |         | $       | 29,941 |       |  |  |       |       |  |   |         |         |         | $ | 27,517 |       |  |  |       |      
|                                      |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|Net interest spread                   |                                            |                                     |         |             |         |         |        |         |  |             | 5.02% |         |  |         |         |             |         |         |        |       |  |  | 4.89% |       |  |   |         |         |         |   |        |       |  |  | 4.92% |      
|                                      |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      
|Net interest
    margin(2)            |                                            |                                     |         |             |         |         |        |         |  |             | 5.36% |         |  |         |         |             |         |         |        |       |  |  | 5.15% |       |  |   |         |         |         |   |        |       |  |  | 5.22% |      
|                                      |                                            |                                     |         |             |         |         |        |         |  |             |       |         |  |         |         |             |         |         |        |       |  |  |       |       |  |   |         |         |         |   |        |       |  |  |       |      



|    |                                                                                                                                                                                                                                                                                                                                                  
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Of this amount, loan fees accounted for $1,365, $1,081, and
    $976, for the years ended December 31, 2005, 2004 and 2003,
    respectively. Loan totals include both current and nonaccrual
    loans.                                                                                                                                         
|   
|(2) | Interest income on non-taxable assets is presented on a fully
    tax-equivalent basis using a federal statutory rate of 34.3%,
    34% and 34%, for the years ended December 31, 2005, 2004
    and 2003, respectively. These adjustments were $259, $316, and
    $341, for the years ended December 31, 2005, 2004 and 2003,
    respectively.

13



---



##### Table of Contents





|                                 |                        |                                 |       |                               |  |       |       |        |  |      |       |       |  |   |       |       |  |   |         |         |  |   |       |       | 
|-------------------------------- | ---------------------- | ------------------------------- | ----- | ----------------------------- |  | ----- | ----- | ------ |  | ---- | ----- | ----- |  | - | ----- | ----- |  | - | ------- | ------- |  | - | ----- | ----- | 
|                                 |                        | Interest Rate & Volume Analysis
|                                 |                        | 2005 compared to 2004           |       | 2004 compared to 2003        
|                                 |                        |                                 |       |                              
|                                 |                        | Increase (decrease) due to(2)   |       | Increase (decrease) due to(2)
|                                 |                        |                                 |       |                              
|                                 |                        | Volume                          |       | Rate                          |  | Total |       | Volume |  | Rate |       | Total
|(Dollars in thousands)           |                        |                                 |       |                               |  |       |       |        |  |      |       |      
|Loans(1)(3)                      |                        | $                               | 4,400 |                               |  | $     | 2,798 |        |  | $    | 7,198 |       |  | $ | 4,785 |       |  | $ | (1,821) |         |  | $ | 2,964 |      
|Federal funds sold               |                        |                                 | 81    |                               |  |       | 248   |        |  |      | 329   |       |  |   | (200) |       |  |   | 114     |         |  |   | (86)  |      
|Interest-earning cash            |                        |                                 | 3     |                               |  |       | 16    |        |  |      | 19    |       |  |   | (73)  |       |  |   | 20      |         |  |   | (53)  |      
|Securities(1)                    |                        |                                 | (185) |                               |  |       | (88)  |        |  |      | (273) |       |  |   | (116) |       |  |   | (185)   |         |  |   | (301) |      
|                                 |                        |                                 |       |                               |  |       |       |        |  |      |       |       |  |   |       |       |  |   |         |         |  |   |       |      
|                                 | Total interest income  |                                 | $     | 4,299                         |  |       | $     | 2,974  |  |      | $     | 7,273 |  |   | $     | 4,396 |  |   | $       | (1,872) |  |   | $     | 2,524 | 
|                                 |                        |                                 |       |                               |  |       |       |        |  |      |       |       |  |   |       |       |  |   |         |         |  |   |       |      
|Interest-bearing demand deposits |                        | $                               | 121   |                               |  | $     | 754   |        |  | $    | 875   |       |  | $ | 279   |       |  | $ | (376)   |         |  | $ | (97)  |      
|Savings accounts                 |                        |                                 | 69    |                               |  |       | (2)   |        |  |      | 67    |       |  |   | 94    |       |  |   | (9)     |         |  |   | 85    |      
|CDs                              |                        |                                 | 425   |                               |  |       | 966   |        |  |      | 1,391 |       |  |   | 472   |       |  |   | (219)   |         |  |   | 253   |      
|Fed funds purchased              |                        |                                 | 56    |                               |  |       | 57    |        |  |      | 113   |       |  |   | 44    |       |  |   | 1       |         |  |   | 45    |      
|Junior subordinated debentures   |                        |                                 |      |                               |  |       | 289   |        |  |      | 289   |       |  |   | 782   |       |  |   |        |         |  |   | 782   |      
|Trust preferred securities       |                        |                                 |      |                               |  |       |      |        |  |      |      |       |  |   | (742) |       |  |   |        |         |  |   | (742) |      
|Other borrowings                 |                        |                                 | 144   |                               |  |       | (150) |        |  |      | (6)   |       |  |   | (258) |       |  |   | 32      |         |  |   | (226) |      
|                                 |                        |                                 |       |                               |  |       |       |        |  |      |       |       |  |   |       |       |  |   |         |         |  |   |       |      
|                                 | Total interest expense |                                 | $     | 815                           |  |       | $     | 1,914  |  |      | $     | 2,729 |  |   | $     | 671   |  |   | $       | (571)   |  |   | $     | 100   | 
|                                 |                        |                                 |       |                               |  |       |       |        |  |      |       |       |  |   |       |       |  |   |         |         |  |   |       |      



|    |                                                                                                                                                                                                                                
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Interest income on non-taxable investments is presented on a
    fully tax-equivalent basis using the federal statutory rate of
    34.3%, 34% and 34%, for the years ended December 31, 2005,
    2004 and 2003, respectively.
|   
|(2) | The changes attributable to the combined effect of volume and
    interest rates have been allocated proportionately.                                                                                                          
|   
|(3) | Interest income previously accrued on nonaccrual loans is
    reversed in the period the loan is placed on nonaccrual status.                                                                                                  

Provision for Loan Losses: Managements Discussion and
Analysis of Financial Condition and Results of Operations


Noninterest Income:




14



---



##### Table of Contents





Noninterest Expense:


|                                        |                              |                         |        |         |  |        |        |               |  |               |        |         |  |   |       |       |  |   |       |       | 
|--------------------------------------- | ---------------------------- | ----------------------- | ------ | ------- |  | ------ | ------ | ------------- |  | ------------- | ------ | ------- |  | - | ----- | ----- |  | - | ----- | ----- | 
|                                        |                              | Years Ended December 31 |        |         |  |       
|                                        |                              |                         |        | Change  |  | Change
|                                        |                              | 2005                    |        | 2004    |  | 2003   |        | 2005 vs. 2004 |  | 2004 vs. 2003
|                                        |                              |                         |        |         |  |        |        |               |  |              
|(Dollars in thousands)                  |                              |                         |        |         |  |        |        |               |  |              
|Salaries and benefits                   |                              | $                       | 18,004 |         |  | $      | 16,585 |               |  | $             | 14,817 |         |  | $ | 1,419 |       |  | $ | 1,768 |      
|                                        | Less: loan origination costs |                         |        | (2,918) |  |        |        | (2,841)       |  |               |        | (2,543) |  |   |       | (77)  |  |   |       | (298) | 
|                                        |                              |                         |        |         |  |        |        |               |  |               |        |         |  |   |       |       |  |   |       |      
|Net salaries and benefits (as reported) |                              |                         | 15,086 |         |  |        | 13,744 |               |  |               | 12,274 |         |  |   | 1,342 |       |  |   | 1,470 |      
|Occupancy expense                       |                              |                         | 3,379  |         |  |        | 3,290  |               |  |               | 3,028  |         |  |   | 89    |       |  |   | 262   |      
|Office supplies and printing            |                              |                         | 659    |         |  |        | 644    |               |  |               | 657    |         |  |   | 15    |       |  |   | (13)  |      
|Data processing                         |                              |                         | 493    |         |  |        | 490    |               |  |               | 459    |         |  |   | 3     |       |  |   | 31    |      
|Consulting and professional fees        |                              |                         | 617    |         |  |        | 793    |               |  |               | 637    |         |  |   | (176) |       |  |   | 156   |      
|Other                                   |                              |                         | 4,991  |         |  |        | 4,306  |               |  |               | 3,959  |         |  |   | 685   |       |  |   | 347   |      
|                                        |                              |                         |        |         |  |        |        |               |  |               |        |         |  |   |       |       |  |   |       |      
|                                        | Total noninterest expense    |                         | $      | 25,225  |  |        | $      | 23,267        |  |               | $      | 21,014  |  |   | $     | 1,958 |  |   | $     | 2,253 | 
|                                        |                              |                         |        |         |  |        |        |               |  |               |        |         |  |   |       |       |  |   |       |      





|  |                                                                                                                                                                                                                                                                                                                                                                                                                     
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Employee benefits paid by the Company increased $296,000 or 15%
    as compared to the prior year. This increase was due primarily
    to increased costs of health insurance. Additionally, the
    Company issued restricted stock awards in March of 2005 with
    related costs of approximately $97,000. See
    Item 8  Financial Statements and
    Supplementary Data, Note 12  Stock Incentive
    Plans.
| 
| | Salaries increased by $692,000 or 5% compared to the prior year.
    The increase was attributable to general wage increases and
    commissions paid on sales of nondeposit investment products. The
    Companys number of full time equivalent employees remained
    relatively flat with 296 and 289 at December 31, 2005 and
    2004, respectively.                                                         
| 
| | Bonuses for 2005 increased by $473,000. The increase in bonus
    expense was consistent with the performance of the Company and
    the performance goals set by senior management for 2005.                                                                                                                                                                                                                       





|  |                                                                                                                                                                                                                                                                                                                                                                                                                                             
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | During 2005, the Company implemented the regulations of
    Section 404 of the Sarbanes Oxley Act of 2002. As a result,
    the Company incurred additional consulting and auditing fees of
    approximately $212,000.                                                                                                                                                                                                                     
| 
| | The Company took write downs on the recorded values of several
    foreclosed properties totaling $253,000 in 2005 versus write
    downs of $54,000 in 2004. These properties were subsequently
    sold in 2005. For further details concerning foreclosed
    properties, see the Credit Risks and Asset Quality section found
    in Item 7  Managements Discussion and
    Analysis of Financial Condition and Results of Operations.
| 
| | Washington State business and occupation tax
    (B&O) paid in 2005 increased $177,000 compared
    with the previous year. This increase was consistent with the
    Companys increase in gross income for 2005.                                                                                                                                                                                                                        



Income Tax:


15



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##### Table of Contents



Financial Statements and
Supplementary Data


Financial Condition Overview




Investment Securities:




Investment Portfolio as of:


|                                  |          |                         |        |        |  |      |        |        |  |   |        |        | 
|--------------------------------- | -------- | ----------------------- | ------ | ------ |  | ---- | ------ | ------ |  | - | ------ | ------ | 
|                                  |          | Years Ended December 31
|                                  |          |                        
|                                  |          | 2005                    |        | 2004   |  | 2003
|                                  |          |                         |        |        |  |     
|(Dollars in thousands)            |          |                         |        |        |  |     
|U.S. government agency securities |          | $                       | 10,494 |        |  | $    | 10,535 |        |  | $ | 13,561 |       
|Pass-through securities           |          |                         | 126    |        |  |      | 214    |        |  |   | 416    |       
|Corporate obligations             |          |                         | 999    |        |  |      | 999    |        |  |   | 998    |       
|Preferred stock                   |          |                         |       |        |  |      | 504    |        |  |   | 504    |       
|State & political subdivisions    |          |                         | 7,529  |        |  |      | 6,819  |        |  |   | 14,745 |       
|                                  |          |                         |        |        |  |      |        |        |  |   |        |       
|                                  | Total(1) |                         | $      | 19,148 |  |      | $      | 19,071 |  |   | $      | 30,224 | 
|                                  |          |                         |        |        |  |      |        |        |  |   |        |       



|    |                                                                                         
|--- | ----------------------------------------------------------------------------------------
|(1) | No investment in aggregate, to a single issuer, exceeds 10% of
    shareholders equity.

16



---



##### Table of Contents



Financial Statements and Supplementary Data


|                                  |                        |                                                   |       |           |  |            |        |          |  |       |       |       |  |   |   |   |  |   |        |        | 
|--------------------------------- | ---------------------- | ------------------------------------------------- | ----- | --------- |  | ---------- | ------ | -------- |  | ----- | ----- | ----- |  | - | - | - |  | - | ------ | ------ | 
|                                  |                        | Investment Portfolio Maturities and Average Yield
|                                  |                        | December 31, 2005                                
|                                  |                        |                                                  
|                                  |                        |                                                   |       | Over      |  |           
|                                  |                        | Within 1 Year                                     |       | 1-5 Years |  | 5-10 Years |        | 10 Years |  | Total
|(Dollars in thousands)            |                        |                                                   |       |           |  |            |        |          |  |      
|U.S. government agency securities |                        |                                                   |       |           |  |            |        |          |  |       |       |       |  |   |   |   |  |   |        |       
|                                  | Balance                |                                                   | $     | 3,457     |  |            | $      | 6,904    |  |       | $     |      |  |   | $ |  |  |   | $      | 10,361 | 
|                                  | Weighted average yield |                                                   |       | 2.64%     |  |            |        | 4.11%    |  |       |       |      |  |   |   |  |  |   |        | 3.62%  | 
|Pass-through securities           |                        |                                                   |       |           |  |            |        |          |  |       |       |       |  |   |   |   |  |   |        |       
|                                  | Balance                |                                                   |       |          |  |            |        | 127      |  |       |       |      |  |   |   |  |  |   |        | 127    | 
|                                  | Weighted average yield |                                                   |       |          |  |            |        | 5.50%    |  |       |       |      |  |   |   |  |  |   |        | 5.50%  | 
|Corporate obligations and other   |                        |                                                   |       |           |  |            |        |          |  |       |       |       |  |   |   |   |  |   |        |       
|                                  | Balance                |                                                   |       | 987       |  |            |        |         |  |       |       |      |  |   |   |  |  |   |        | 987    | 
|                                  | Weighted average yield |                                                   |       | 2.94%     |  |            |        |         |  |       |       |      |  |   |   |  |  |   |        | 2.94%  | 
|State and political subdivisions  |                        |                                                   |       |           |  |            |        |          |  |       |       |       |  |   |   |   |  |   |        |       
|                                  | Balance                |                                                   |       | 1,343     |  |            |        | 4,226    |  |       |       | 2,033 |  |   |   |  |  |   |        | 7,602  | 
|                                  | Weighted average yield |                                                   |       | 4.90%     |  |            |        | 4.28%    |  |       |       | 3.89% |  |   |   |  |  |   |        | 4.29%  | 
|                                  |                        |                                                   |       |           |  |            |        |          |  |       |       |       |  |   |   |   |  |   |        |       
|Total balance                     |                        | $                                                 | 5,787 |           |  | $          | 11,257 |          |  | $     | 2,033 |       |  | $ |  |   |  | $ | 19,077 |       
|                                  |                        |                                                   |       |           |  |            |        |          |  |       |       |       |  |   |   |   |  |   |        |       
|Weighted average yield            |                        |                                                   | 3.22% |           |  |            | 4.19%  |          |  |       | 3.89% |       |  |   |  |   |  |   | 3.86%  |       

Loans:


|                                |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |        |   |         |        |         |       |        |   |         |        |         |       |       
|------------------------------- | ------------------------------ | --------------------------------- | - | ----------- | ------- | ------- | ----- | ------ | - | ------- | ------- | ------- | ----- | ------ | - | ------- | ------- | ------- | ----- | ------ | - | ------- | ------ | ------- | ----- | ------ | - | ------- | ------ | ------- | ----- | ------
|                                |                                | Loan Portfolio Composition as of:
|                                |                                |                                   |   | December 31
|                                |                                |                                   |   |            
|                                |                                |                                   |   | 2005        |         |         |       | 2004   |   |         |         | 2003    |       |        |   | 2002    |         |         |       | 2001  
|                                |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |       
|                                |                                |                                   |   |             |         | % of    |       |        |   |         |         | % of    |       |        |   |         |         | % of    |       |        |   |         |        | % of    |       |        |   |         |        | % of   
|(Dollars in thousands)          |                                |                                   |   | Balance     |         | total   |       |        |   | Balance |         | total   |       |        |   | Balance |         | total   |       |        |   | Balance |        | total   |       |        |   | Balance |        | total  
|                                |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |       
|Commercial                      |                                |                                   | $ | 79,341      |         | 12.6%   |       |        | $ | 80,927  |         | 14.0%   |       |        | $ | 87,371  |         | 17.5%   |       |        | $ | 91,816  |        | 21.4%   |       |        | $ | 109,867 |        | 29.3%  
|Real estate mortgages:          |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |        |   |         |        |         |       |        |   |         |        |        
|                                | One-to-four family residential |                                   |   |             | 45,278  |         | 7.2%  |        |   |         | 46,242  |         | 8.0%  |        |   |         | 35,209  |         | 7.1%  |        |   |         | 40,177 |         | 9.3%  |        |   |         | 40,136 |         | 10.7%
|                                | Commercial                     |                                   |   |             | 218,260 |         | 34.6% |        |   |         | 173,280 |         | 29.9% |        |   |         | 133,539 |         | 26.7% |        |   |         | 94,404 |         | 22.0% |        |   |         | 65,782 |         | 17.6%
|                                |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |       
|                                |                                | Total real estate mortgages       |   |             |         | 263,538 |       | 41.8%  |   |         |         | 219,522 |       | 37.9%  |   |         |         | 168,748 |       | 33.8%  |   |         |        | 134,581 |       | 31.3%  |   |         |        | 105,918 |       | 28.3% 
|Real estate construction        |                                |                                   |   | 113,661     |         | 18.0%   |       |        |   | 105,940 |         | 18.2%   |       |        |   | 70,974  |         | 14.2%   |       |        |   | 40,112  |        | 9.3%    |       |        |   | 26,917  |        | 7.2%   
|Consumer                        |                                |                                   |   | 173,676     |         | 27.6%   |       |        |   | 173,216 |         | 29.9%   |       |        |   | 172,406 |         | 34.5%   |       |        |   | 163,368 |        | 38.0%   |       |        |   | 132,067 |        | 35.2%  
|                                |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |       
|                                |                                | Subtotal                          |   |             |         | 630,216 |       | 100.0% |   |         |         | 579,605 |       | 100.0% |   |         |         | 499,499 |       | 100.0% |   |         |        | 429,877 |       | 100.0% |   |         |        | 374,769 |       | 100.0%
|                                |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |        |   |         |        |         |       |        |   |         |        |        
|Less: allowance for loan losses |                                |                                   |   | (8,810)     |         |         |       |        |   | (7,903) |         |         |       |        |   | (6,116) |         |         |       |        |   | (5,514) |        |         |       |        |   | (4,308) |        |        
|Deferred loan fees, net         |                                |                                   |   | 42          |         |         |       |        |   | 375     |         |         |       |        |   | 420     |         |         |       |        |   | 197     |        |         |       |        |   | 23      |        |        
|                                |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |        |   |         |        |         |       |        |   |         |        |        
|                                |                                | Loans, net                        |   |             | $       | 621,448 |       |        |   |         | $       | 572,077 |       |        |   |         | $       | 493,803 |       |        |   |         | $      | 424,560 |       |        |   |         | $      | 370,484 |       |       
|                                |                                |                                   |   |             |         |         |       |        |   |         |         |         |       |        |   |         |         |         |       |        |   |         |        |         |       |        |   |         |        |        

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|  |                                                                                                                                                                                                                                                                                                               
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Commercial Loans: Commercial loans include both secured
    and unsecured loans for working capital and expansion.
    Short-term working capital loans generally are secured by
    accounts receivable, inventory and/or equipment, while
    longer-term commercial loans are usually secured by equipment.
| 
| | Real Estate Mortgage Loans: Real estate loans consist of
    two types: one-to-four
    family residential and commercial properties.                                                                                                                                                                         



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | + | One-to-Four Family
    Residential Loans:
    One-to-four family
    residential loans are secured principally by 1st deeds of
    trust on residential properties principally located within the
    Companys market area.                                                                                                                                                                                                                      
|
| | + | Commercial Real Estate Loans: Commercial real estate
    loans are secured principally by manufacturing facilities,
    apartment buildings and commercial buildings for office, storage
    and warehouse space. Loans secured by commercial real estate may
    involve a greater degree of risk than
    one-to-four family
    residential loans. Payments on such loans are often dependent on
    successful business management operations.



|  |                                                                                                                                                                                                                   
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Real Estate Construction Loans: Real estate construction
    loans consist of three types: 1) commercial real estate,
    2) one-to-four
    family residential construction, and 3) speculative
    construction.



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | + | Commercial Real Estate: Commercial real estate
    construction loans are primarily for owner-occupied properties.                                                                                                                                                                                                                                                                                                                                                     
|
| | + | One-to-Four Family
    Residential:
    One-to-four family
    residential construction loans are for the construction of
    custom homes, where the homebuyer is the borrower.                                                                                                                                                                                                                                                                                       
|
| | + | Speculative Construction: Speculative construction
    provides financing to builders for the construction of pre-sold
    homes and speculative residential construction. With few
    exceptions, the Company limits the number of unsold homes being
    built by each builder. The Company lends to qualified builders
    who are building in markets that management believes it
    understands and in which it is comfortable with the economic
    conditions.



|  |                                                                                                                                                                                                                                         
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Consumer Loans: The Companys consumer loan
    portfolio consists of automobile loans, boat and recreational
    vehicle financing, home equity and home improvement loans, and
    miscellaneous secured and unsecured personal loans.



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                        
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | + | Direct Consumer Loans: Direct consumer loans consist of
    automobile loans, boat and recreational vehicle financing, home
    equity and home improvement loans, and miscellaneous secured and
    unsecured personal loans originated directly by the Banks
    loan officers.                                                                                                                                     
|
| | + | Indirect Consumer Loans: The Company makes loans for new
    and used automobile and recreational vehicles that are
    originated indirectly by selected dealers located in the
    Companys market areas. The Company has limited its
    indirect loan purchases primarily to dealerships that are
    established and well known in their market areas and to
    applicants that are not classified as sub-prime.





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Maturity and Sensitivity of Loans to Changes in Interest
Rates


|                               |                                |               |        |           |         |               |        |        |        |   |        |       |        |   |         |        |         | 
|------------------------------ | ------------------------------ | ------------- | ------ | --------- | ------- | ------------- | ------ | ------ | ------ | - | ------ | ----- | ------ | - | ------- | ------ | ------- | 
|                               |                                | Maturing     
|                               |                                |              
|                               |                                | Within 1 year |        | 1-5 years |         | After 5 years |        | Total 
|(Dollars in thousands)         |                                |               |        |           |         |               |        |       
|Commercial                     |                                | $             | 28,728 |           |         | $             | 28,431 |        |        | $ | 22,181 |       |        | $ | 79,341  |       
|Real estate construction:      |                                |               |        |           |         |               |        |        |        |   |        |       |        |   |         |       
|                               | One-to-four family residential |               |        | 57,915    |         |               |        | 18,288 |        |   |        | 2,813 |        |   |         | 79,016 |        
|                               | Commercial                     |               |        | 23,875    |         |               |        | 5,628  |        |   |        | 5,142 |        |   |         | 34,645 |        
|                               |                                |               |        |           |         |               |        |        |        |   |        |       |        |   |         |       
|Total real estate construction |                                |               | 81,790 |           |         |               | 23,917 |        |        |   | 7,954  |       |        |   | 113,661 |       
|                               |                                |               |        |           |         |               |        |        |        |   |        |       |        |   |         |       
|                               |                                | Total         |        | $         | 110,518 |               |        | $      | 52,348 |   |        | $     | 30,136 |   |         | $      | 193,002 | 
|                               |                                |               |        |           |         |               |        |        |        |   |        |       |        |   |         |       
|Fixed-rate loans               |                                | $             | 22,790 |           |         | $             | 28,232 |        |        | $ | 3,363  |       |        | $ | 54,386  |       
|Variable-rate loans            |                                |               | 87,728 |           |         |               | 24,116 |        |        |   | 26,773 |       |        |   | 138,616 |       
|                               |                                |               |        |           |         |               |        |        |        |   |        |       |        |   |         |       
|                               |                                | Total         |        | $         | 110,518 |               |        | $      | 52,348 |   |        | $     | 30,136 |   |         | $      | 193,002 | 
|                               |                                |               |        |           |         |               |        |        |        |   |        |       |        |   |         |       

Credit Risks and Asset Quality


Credit Risks:


Financial
Statements and Supplementary Data


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|                                                  |                            |                             |         |       |  |      |         |       |  |      |         |       |  |   |         |       |  |   |         |       | 
|------------------------------------------------- | -------------------------- | --------------------------- | ------- | ----- |  | ---- | ------- | ----- |  | ---- | ------- | ----- |  | - | ------- | ----- |  | - | ------- | ----- | 
|                                                  |                            | Nonperforming Assets as of:
|                                                  |                            | Years Ended December 31    
|                                                  |                            |                            
|                                                  |                            | 2005                        |         | 2004  |  | 2003 |         | 2002  |  | 2001
|(Dollars in thousands)                            |                            |                             |         |       |  |      |         |       |  |     
|Nonaccrual loans                                  |                            | $                           | 2,159   |       |  | $    | 2,812   |       |  | $    | 4,158   |       |  | $ | 3,222   |       |  | $ | 2,094   |      
|Restructured loans                                |                            |                             |        |       |  |      |        |       |  |      |        |       |  |   |        |       |  |   |        |      
|                                                  |                            |                             |         |       |  |      |         |       |  |      |         |       |  |   |         |       |  |   |         |      
|                                                  | Total nonperforming loans  |                             |         | 2,159 |  |      |         | 2,812 |  |      |         | 4,158 |  |   |         | 3,222 |  |   |         | 2,094 | 
|Other real estate owned                           |                            |                             |        |       |  |      | 1,222   |       |  |      | 504     |       |  |   | 592     |       |  |   | 473     |      
|                                                  |                            |                             |         |       |  |      |         |       |  |      |         |       |  |   |         |       |  |   |         |      
|                                                  | Total nonperforming assets |                             | $       | 2,159 |  |      | $       | 4,034 |  |      | $       | 4,662 |  |   | $       | 3,814 |  |   | $       | 2,567 | 
|                                                  |                            |                             |         |       |  |      |         |       |  |      |         |       |  |   |         |       |  |   |         |      
|Impaired loans                                    |                            | $                           | 2,159   |       |  | $    | 3,417   |       |  | $    | 6,721   |       |  | $ | 3,222   |       |  | $ | 2,094   |      
|Accruing loans past due 3
    90 days             |                            |                             |        |       |  |      |        |       |  |      |        |       |  |   |        |       |  |   |        |      
|Potential problem loans                           |                            |                             |        |       |  |      | 356     |       |  |      | 314     |       |  |   |        |       |  |   |        |      
|Allowance for loan losses                         |                            |                             | 8,810   |       |  |      | 7,903   |       |  |      | 6,116   |       |  |   | 5,514   |       |  |   | 4,308   |      
|Interest foregone on nonaccrual loans             |                            |                             | 185     |       |  |      | 204     |       |  |      | 224     |       |  |   | 220     |       |  |   | 109     |      
|Nonperforming loans to loans                      |                            |                             | 0.34%   |       |  |      | 0.48%   |       |  |      | 0.83%   |       |  |   | 0.75%   |       |  |   | 0.56%   |      
|Allowance for loan losses to loans                |                            |                             | 1.40%   |       |  |      | 1.36%   |       |  |      | 1.22%   |       |  |   | 1.28%   |       |  |   | 1.15%   |      
|Allowance for loan losses to nonperforming loans  |                            |                             | 408.06% |       |  |      | 281.05% |       |  |      | 147.09% |       |  |   | 171.14% |       |  |   | 205.73% |      
|Allowance for loan losses to nonperforming assets |                            |                             | 408.06% |       |  |      | 195.91% |       |  |      | 131.19% |       |  |   | 144.57% |       |  |   | 167.82% |      
|Nonperforming assets to total assets              |                            |                             | 0.30%   |       |  |      | 0.61%   |       |  |      | 0.80%   |       |  |   | 0.71%   |       |  |   | 0.59%   |      

Allowance for Loan Losses:




|  |                                                                                                                                                           
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------
| | Specific allowances for identified problem loans and portfolio
    segments.                                                                              
| 
| | A formula allowance based upon the historical loss experience of
    the loan portfolio, mix of the portfolio by loan type and the
    loan grade quality.
| 
| | A general unallocated allowance consistent with
    SFAS No. 5, Accounting for Contingencies.                                                           



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|                         |       |                                                |       |          |  |        |       |          |  |        |       |          |  |        |       |          |  |        |       |          |  |  |       |        |  |   |       |       |  |  |       |        |  |   |       |       |  |  |       |        | 
|------------------------ | ----- | ---------------------------------------------- | ----- | -------- |  | ------ | ----- | -------- |  | ------ | ----- | -------- |  | ------ | ----- | -------- |  | ------ | ----- | -------- |  |  | ----- | ------ |  | - | ----- | ----- |  |  | ----- | ------ |  | - | ----- | ----- |  |  | ----- | ------ | 
|                         |       | Allocation of Allowance for Loan Losses as of:
|                         |       | Years Ended December 31                       
|                         |       |                                               
|                         |       | 2005                                           |       | 2004     |  | 2003   |       | 2002     |  | 2001  
|                         |       |                                                |       |          |  |        |       |          |  |       
|                         |       |                                                |       | % of     |  |        |       | % of     |  |        |       | % of     |  |        |       | % of     |  |        |       | % of    
|(Dollars in thousands)   |       | Amount                                         |       | total(1) |  | Amount |       | total(1) |  | Amount |       | total(1) |  | Amount |       | total(1) |  | Amount |       | total(1)
|                         |       |                                                |       |          |  |        |       |          |  |       
|Balance applicable to:   |       |                                                |       |          |  |        |       |          |  |        |       |          |  |        |       |          |  |        |       |          |  |  |       |        |  |   |       |       |  |  |       |        |  |   |       |       |  |  |       |       
|Commercial               |       | $                                              | 737   |          |  |        | 12.6% |          |  | $      | 772   |          |  |        | 14.0% |          |  | $      | 799   |          |  |  | 17.5% |        |  | $ | 842   |       |  |  | 21.4% |        |  | $ | 958   |       |  |  | 29.3% |       
|Real estate mortgage     |       |                                                | 2,844 |          |  |        | 41.8% |          |  |        | 2,352 |          |  |        | 37.9% |          |  |        | 1,762 |          |  |  | 33.8% |        |  |   | 1,297 |       |  |  | 31.3% |        |  |   | 889   |       |  |  | 28.3% |       
|Real estate construction |       |                                                | 1,378 |          |  |        | 18.0% |          |  |        | 1,399 |          |  |        | 18.2% |          |  |        | 912   |          |  |  | 14.2% |        |  |   | 450   |       |  |  | 9.3%  |        |  |   | 374   |       |  |  | 7.2%  |       
|Consumer                 |       |                                                | 2,308 |          |  |        | 27.6% |          |  |        | 2,449 |          |  |        | 29.9% |          |  |        | 2,415 |          |  |  | 34.5% |        |  |   | 2,209 |       |  |  | 38.0% |        |  |   | 1,693 |       |  |  | 35.2% |       
|Unallocated              |       |                                                | 1,543 |          |  |        | N/A   |          |  |        | 931   |          |  |        | N/A   |          |  |        | 228   |          |  |  | N/A   |        |  |   | 716   |       |  |  | N/A   |        |  |   | 394   |       |  |  | N/A   |       
|                         |       |                                                |       |          |  |        |       |          |  |       
|                         | Total |                                                | $     | 8,810    |  |        |       | 100.0%   |  |        | $     | 7,903    |  |        |       | 100.0%   |  |        | $     | 6,116    |  |  |       | 100.0% |  |   | $     | 5,514 |  |  |       | 100.0% |  |   | $     | 4,308 |  |  |       | 100.0% | 
|                         |       |                                                |       |          |  |        |       |          |  |       



|    |                                                                                                            
|--- | -----------------------------------------------------------------------------------------------------------
|(1) | Represents the total of all outstanding loans in each category
    as a percent of total loans outstanding.



Asset Quality:


|                                                   |                       |                             |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |         | 
|-------------------------------------------------- | --------------------- | --------------------------- | ------- | ------- |  | ---- | ------- | ------- |  | ---- | ------- | ------- |  | - | ------- | ------- |  | - | ------- | ------- | 
|                                                   |                       | Net Loan Charge-Offs as of:
|                                                   |                       | Years Ended December 31    
|                                                   |                       |                            
|                                                   |                       | 2005                        |         | 2004    |  | 2003 |         | 2002    |  | 2001
|(Dollars in thousands)                             |                       |                             |         |         |  |      |         |         |  |     
|Indirect net charge-offs                           |                       | $                           | (837)   |         |  | $    | (926)   |         |  | $    | (1,055) |         |  | $ | (749)   |         |  | $ | (329)   |        
|Other net charge-offs                              |                       |                             | (506)   |         |  |      | (787)   |         |  |      | (1,543) |         |  |   | (1,911) |         |  |   | (807)   |        
|                                                   |                       |                             |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|                                                   | Total net charge-offs |                             | $       | (1,343) |  |      | $       | (1,713) |  |      | $       | (2,598) |  |   | $       | (2,660) |  |   | $       | (1,136) | 
|                                                   |                       |                             |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|Average indirect loans                             |                       | $                           | 95,126  |         |  | $    | 103,278 |         |  | $    | 100,684 |         |  | $ | 86,181  |         |  | $ | 60,423  |        
|Average other loans                                |                       |                             | 508,201 |         |  |      | 436,678 |         |  |      | 359,560 |         |  |   | 326,608 |         |  |   | 278,907 |        
|                                                   |                       |                             |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|                                                   | Total average loans   |                             | $       | 603,327 |  |      | $       | 539,956 |  |      | $       | 460,244 |  |   | $       | 412,789 |  |   | $       | 339,330 | 
|                                                   |                       |                             |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|Indirect net charge-offs to average indirect loans |                       |                             | 0.88%   |         |  |      | 0.90%   |         |  |      | 1.05%   |         |  |   | 0.87%   |         |  |   | 0.54%   |        
|Other net charge-offs to average other loans       |                       |                             | 0.10%   |         |  |      | 0.18%   |         |  |      | 0.43%   |         |  |   | 0.59%   |         |  |   | 0.29%   |        
|Net charge-offs to average loans                   |                       |                             | 0.22%   |         |  |      | 0.32%   |         |  |      | 0.56%   |         |  |   | 0.64%   |         |  |   | 0.33%   |        

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|                               |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |         | 
|------------------------------ | ------------------ | -------------------------------------- | ------- | ------- |  | ---- | ------- | ------- |  | ---- | ------- | ------- |  | - | ------- | ------- |  | - | ------- | ------- | 
|                               |                    | Summary of Loan Loss Experience as of:
|                               |                    | Years Ended December 31               
|                               |                    |                                       
|                               |                    | 2005                                   |         | 2004    |  | 2003 |         | 2002    |  | 2001
|(Dollars in thousands)         |                    |                                        |         |         |  |      |         |         |  |     
|Balance at beginning of period |                    | $                                      | 7,903   |         |  | $    | 6,116   |         |  | $    | 5,514   |         |  | $ | 4,308   |         |  | $ | 2,664   |        
|Charge-offs:                   |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|                               | Commercial         |                                        |         | (524)   |  |      |         | (467)   |  |      |         | (1,293) |  |   |         | (1,689) |  |   |         | (357)   | 
|                               | Real estate        |                                        |         | (98)    |  |      |         | (206)   |  |      |         | (177)   |  |   |         | (67)    |  |   |         | (196)   | 
|                               | Consumer and other |                                        |         | (1,594) |  |      |         | (1,668) |  |      |         | (1,725) |  |   |         | (1,286) |  |   |         | (854)   | 
|                               |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|                               | Total charge-offs  |                                        |         | (2,216) |  |      |         | (2,341) |  |      |         | (3,195) |  |   |         | (3,042) |  |   |         | (1,407) | 
|                               |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|Recoveries:                    |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|                               | Commercial         |                                        |         | 227     |  |      |         | 184     |  |      |         | 208     |  |   |         | 103     |  |   |         | 119     | 
|                               | Real estate        |                                        |         | 143     |  |      |         | 79      |  |      |         |        |  |   |         |        |  |   |         | 6       | 
|                               | Consumer and other |                                        |         | 503     |  |      |         | 365     |  |      |         | 389     |  |   |         | 279     |  |   |         | 146     | 
|                               |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|                               | Total recoveries   |                                        |         | 873     |  |      |         | 628     |  |      |         | 597     |  |   |         | 382     |  |   |         | 271     | 
|                               |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|Net charge-offs                |                    |                                        | (1,343) |         |  |      | (1,713) |         |  |      | (2,598) |         |  |   | (2,660) |         |  |   | (1,136) |        
|Provision for loan losses      |                    |                                        | 2,250   |         |  |      | 3,500   |         |  |      | 3,200   |         |  |   | 3,866   |         |  |   | 2,780   |        
|                               |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        
|Balance at end of period       |                    | $                                      | 8,810   |         |  | $    | 7,903   |         |  | $    | 6,116   |         |  | $ | 5,514   |         |  | $ | 4,308   |        
|                               |                    |                                        |         |         |  |      |         |         |  |      |         |         |  |   |         |         |  |   |         |        

Deposits and Borrowings


Deposits:


|                                                  |                                 |                                 |         |         |  |         |       |         |  |         |         |         |  |  |       |       |  |   |         |         |  |  |       |       | 
|------------------------------------------------- | ------------------------------- | ------------------------------- | ------- | ------- |  | ------- | ----- | ------- |  | ------- | ------- | ------- |  |  | ----- | ----- |  | - | ------- | ------- |  |  | ----- | ----- | 
|                                                  |                                 | Average Deposit Balances as of:
|                                                  |                                 | Years Ended December 31        
|                                                  |                                 |                                
|                                                  |                                 | 2005                            |         | 2004    |  | 2003   
|                                                  |                                 |                                 |         |         |  |        
|                                                  |                                 | Average                         |         | Average |  | Average |       | Average |  | Average |         | Average
|                                                  |                                 | balance                         |         | rate    |  | balance |       | rate    |  | balance |         | rate   
|(Dollars in thousands)                            |                                 |                                 |         |         |  |         |       |         |  |         |         |        
|Interest-bearing demand and money market deposits |                                 | $                               | 227,588 |         |  |         | 1.09% |         |  | $       | 212,519 |         |  |  | 0.76% |       |  | $ | 190,837 |         |  |  | 0.89% |      
|Savings deposits                                  |                                 |                                 | 57,131  |         |  |         | 0.78% |         |  |         | 48,270  |         |  |  | 0.79% |       |  |   | 36,332  |         |  |  | 0.81% |      
|Certificates of deposit                           |                                 |                                 | 224,002 |         |  |         | 3.14% |         |  |         | 208,991 |         |  |  | 2.72% |       |  |   | 190,755 |         |  |  | 2.84% |      
|                                                  |                                 |                                 |         |         |  |         |       |         |  |         |         |         |  |  |       |       |  |   |         |         |  |  |       |      
|                                                  | Total interest-bearing deposits |                                 |         | 508,721 |  |         |       | 1.96%   |  |         |         | 469,780 |  |  |       | 1.63% |  |   |         | 417,924 |  |  |       | 1.77% | 
|Demand and other noninterest-bearing deposits     |                                 |                                 | 96,511  |         |  |         |       |         |  |         | 81,146  |         |  |  |       |       |  |   | 71,764  |         |  |  |       |      
|                                                  |                                 |                                 |         |         |  |         |       |         |  |         |         |         |  |  |       |       |  |   |         |         |  |  |       |      
|                                                  | Total average deposits          |                                 | $       | 605,232 |  |         |       |         |  |         | $       | 550,926 |  |  |       |       |  |   | $       | 489,688 |  |  |       |       | 
|                                                  |                                 |                                 |         |         |  |         |       |         |  |         |         |         |  |  |       |       |  |   |         |         |  |  |       |      

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|                        |  |                                                  |        |        |  |         |        |         |  |       |        |  |  |   |        |  |  |   |         | 
|----------------------- |  | ------------------------------------------------ | ------ | ------ |  | ------- | ------ | ------- |  | ----- | ------ |  |  | - | ------ |  |  | - | ------- | 
|                        |  | Maturities of Time Deposits $100,000 and Greater
|                        |  | Less than 3                                      |        | 3 to 6 |  | 6 to 12 |        | Over 12 |  |      
|(Dollars in thousands)  |  | months                                           |        | months |  | months  |        | months  |  | Total
|                        |  |                                                  |        |        |  |         |        |         |  |      
|Certificates of deposit |  | $                                                | 22,217 |        |  | $       | 35,646 |         |  | $     | 23,192 |  |  | $ | 35,738 |  |  | $ | 116,793 | 

Financial Statements and
Supplementary Data


Borrowings:


FHLB Borrowings: Financial Statements and Supplementary Data


Junior Subordinated Debentures: 30-year Financial Statements and
Supplementary Data


Capital


Shareholders Equity:


|                            |  |                                |        |      |  |      |        |  |  |   |        | 
|--------------------------- |  | ------------------------------ | ------ | ---- |  | ---- | ------ |  |  | - | ------ | 
|                            |  | Cash Dividends & Payout Ratios
|                            |  | Years Ended December 31       
|                            |  |                               
|                            |  | 2005                           |        | 2004 |  | 2003
|                            |  |                                |        |      |  |     
|Dividend declared per share |  | $                              | 0.22   |      |  | $    | 0.22   |  |  | $ | 0.18   | 
|Dividend payout ratio       |  |                                | 17.46% |      |  |      | 26.51% |  |  |   | 22.22% | 

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Business Financial Statements and
Supplementary Data


Regulatory Capital Requirements: Financial Statements and
Supplementary Data


Liquidity and Cash Flow


Whidbey Island Bank: day-to


Washington Banking Company: Financial Statements and
Supplementary Data


Consolidated Cashflows: Financial Statements and
Supplementary Data


Capital Resources


Off-Balance Sheet Commitments:


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Commitments to Extend Credit


|                          |               |                   |       |         | 
|------------------------- | ------------- | ----------------- | ----- | ------- | 
|                          |               | December 31, 2005
|(Dollars in thousands)    |               |                  
|Loan commitments          |               |                   |       |        
|                          | Fixed rate    |                   | $     | 38,554  | 
|                          | Variable rate |                   |       | 140,477 | 
|Standby letters of credit |               |                   | 1,573 |        

Contractual Commitments:


|                               |       |                                |        |        |  |           |        |           |  |         |     |     |  |   |     |     |  |   |        |        | 
|------------------------------ | ----- | ------------------------------ | ------ | ------ |  | --------- | ------ | --------- |  | ------- | --- | --- |  | - | --- | --- |  | - | ------ | ------ | 
|                               |       | Future Contractual Obligations
|                               |       |                               
|                               |       |                                |        | Within |  |           |        | Over     
|                               |       | Total                          |        | 1 year |  | 1-3 years |        | 3-5 years |  | 5 years
|(Dollars in thousands)         |       |                                |        |        |  |           |        |           |  |        
|Debt                           |       | $                              | 10,000 |        |  | $         | 10,000 |           |  | $       |    |     |  | $ |    |     |  | $ |       |       
|Operating leases               |       |                                | 1,901  |        |  |           | 364    |           |  |         | 557 |     |  |   | 268 |     |  |   | 712    |       
|                               |       |                                |        |        |  |           |        |           |  |         |     |     |  |   |     |     |  |   |        |       
|Junior subordinated debentures |       |                                | 15,007 |        |  |           |       |           |  |         |    |     |  |   |    |     |  |   | 15,007 |       
|                               |       |                                |        |        |  |           |        |           |  |         |     |     |  |   |     |     |  |   |        |       
|                               | Total |                                | $      | 26,908 |  |           | $      | 10,364    |  |         | $   | 557 |  |   | $   | 268 |  |   | $      | 15,719 | 
|                               |       |                                |        |        |  |           |        |           |  |         |     |     |  |   |     |     |  |   |        |       

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|         |                                                           
|-------- | ----------------------------------------------------------
|Item 7A. | Quantitative and Qualitative Disclosures about Market Risk

Asset/ Liability Management




Market Risk


Interest Rate Risk:


Re-pricing Risk:


Basis Risk:


Option Risk:




|                      |  |                                                        |  |                        |          |            |  |      |      |                        |  |            |  |  |          |   |  |      |    | 
|--------------------- |  | ------------------------------------------------------ |  | ---------------------- | -------- | ---------- |  | ---- | ---- | ---------------------- |  | ---------- |  |  | -------- | - |  | ---- | -- | 
|                      |  | Interest Rate Simulation Impact on Net Interest Income
|                      |  |                                                        |  | 2005                   |          |            |  | 2004
|                      |  |                                                        |  |                        |          |            |  |     
|                      |  |                                                        |  | Change in net interest |          | Percentage |  |      |      | Change in net interest |  | Percentage
|Scenario              |  |                                                        |  | income from scenario   |          | change     |  |      |      | income from scenario   |  | change    
|                      |  |                                                        |  |                        |          |            |  |     
|Up 100 basis points   |  | $                                                      |  |                        | 601,000  |            |  |      | 1.6  | %                      |  | $          |  |  | 449,000  |   |  | 1.5  | % 
|Down 100 basis points |  | $                                                      |  |                        | (715,000 | )          |  |      | (1.9 | )%                     |  | $          |  |  | (355,000 | ) |  | (1.2 | )%

Interest Rate Sensitivity:


26



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|                                                                         |                                  |                                    |  |                                                       |          |         |         |             |  |   |          |           |         |  |  |              |         |         |         |       |  |   |         |        |        |  |  |   |         |         |         | 
|------------------------------------------------------------------------ | -------------------------------- | ---------------------------------- |  | ----------------------------------------------------- | -------- | ------- | ------- | ----------- |  | - | -------- | --------- | ------- |  |  | ------------ | ------- | ------- | ------- | ----- |  | - | ------- | ------ | ------ |  |  | - | ------- | ------- | ------- | 
|                                                                         |                                  |                                    |  | Estimated Maturity and Repricing at December 31, 2005
|                                                                         |                                  |                                    |  |                                                      
|                                                                         |                                  |                                    |  | 03 months                                            |          |         |         | 412 months |  |   |          | 15 years |         |  |  | Over 5 years |         |         |         | Total
|(Dollars in thousands)                                                   |                                  |                                    |  |                                                       |          |         |         |             |  |   |          |           |         |  |  |              |         |         |         |      
|Interest-earning assets:                                                 |                                  |                                    |  |                                                       |          |         |         |             |  |   |          |           |         |  |  |              |         |         |         |       |  |   |         |        |        |  |  |   |         |        
|                                                                         | Interest-earning deposits        |                                    |  |                                                       | $        | 983     |         |             |  |   | $        |          |         |  |  |              | $       |        |         |       |  |   | $       |       |        |  |  |   | $       | 983     |        
|                                                                         | Federal funds sold               |                                    |  |                                                       |          | 21,000  |         |             |  |   |          |          |         |  |  |              |         |        |         |       |  |   |         |       |        |  |  |   |         | 21,000  |        
|                                                                         | Investment securities            |                                    |  |                                                       |          |        |         |             |  |   |          | 5,787     |         |  |  |              |         | 11,257  |         |       |  |   |         | 2,033  |        |  |  |   |         | 19,077  |        
|                                                                         | Investment in subsidiary         |                                    |  |                                                       |          |        |         |             |  |   |          |          |         |  |  |              |         |        |         |       |  |   |         | 247    |        |  |  |   |         | 247     |        
|                                                                         | FHLB stock                       |                                    |  |                                                       |          | 1,984   |         |             |  |   |          |          |         |  |  |              |         |        |         |       |  |   |         |       |        |  |  |   |         | 1,984   |        
|                                                                         | Loans held for sale              |                                    |  |                                                       |          | 2,829   |         |             |  |   |          |          |         |  |  |              |         |        |         |       |  |   |         |       |        |  |  |   |         | 2,829   |        
|                                                                         | Loans                            |                                    |  |                                                       |          | 214,059 |         |             |  |   |          | 60,173    |         |  |  |              |         | 277,257 |         |       |  |   |         | 78,727 |        |  |  |   |         | 630,216 |        
|                                                                         |                                  |                                    |  |                                                       |          |         |         |             |  |   |          |           |         |  |  |              |         |         |         |       |  |   |         |        |        |  |  |   |         |        
|                                                                         |                                  | Total interest-earning assets      |  |                                                       |          | $       | 240,855 |             |  |   |          | $         | 65,960  |  |  |              |         | $       | 288,514 |       |  |   |         | $      | 81,007 |  |  |   |         | $       | 676,336 | 
|Percent of interest-earning assets                                       |                                  |                                    |  |                                                       | 35.61%   |         |         |             |  |   | 9.75%    |           |         |  |  |              | 42.66%  |         |         |       |  |   | 11.98%  |        |        |  |  |   | 100.00% |        
|Interest-bearing liabilities:                                            |                                  |                                    |  |                                                       |          |         |         |             |  |   |          |           |         |  |  |              |         |         |         |       |  |   |         |        |        |  |  |   |         |        
|                                                                         | Interest-bearing demand deposits |                                    |  |                                                       | $        | 143,042 |         |             |  |   | $        |          |         |  |  |              | $       |        |         |       |  |   | $       |       |        |  |  |   | $       | 143,042 |        
|                                                                         | Money market deposits            |                                    |  |                                                       |          | 84,537  |         |             |  |   |          |          |         |  |  |              |         |        |         |       |  |   |         |       |        |  |  |   |         | 84,537  |        
|                                                                         | Savings deposits                 |                                    |  |                                                       |          | 59,635  |         |             |  |   |          |          |         |  |  |              |         |        |         |       |  |   |         |       |        |  |  |   |         | 59,635  |        
|                                                                         | CDs                              |                                    |  |                                                       |          | 42,493  |         |             |  |   |          | 123,857   |         |  |  |              |         | 78,560  |         |       |  |   |         |       |        |  |  |   |         | 244,910 |        
|                                                                         | FHLB overnight borrowings        |                                    |  |                                                       |          |        |         |             |  |   |          |          |         |  |  |              |         |        |         |       |  |   |         |       |        |  |  |   |         |        |        
|                                                                         | Junior subordinated debentures   |                                    |  |                                                       |          | 15,007  |         |             |  |   |          |          |         |  |  |              |         |        |         |       |  |   |         |       |        |  |  |   |         | 15,007  |        
|                                                                         | Other borrowed funds             |                                    |  |                                                       |          |        |         |             |  |   |          | 10,000    |         |  |  |              |         |        |         |       |  |   |         |       |        |  |  |   |         | 10,000  |        
|                                                                         |                                  |                                    |  |                                                       |          |         |         |             |  |   |          |           |         |  |  |              |         |         |         |       |  |   |         |        |        |  |  |   |         |        
|                                                                         |                                  | Total interest-bearing liabilities |  |                                                       |          | $       | 344,714 |             |  |   |          | $         | 133,857 |  |  |              |         | $       | 78,560  |       |  |   |         | $      |       |  |  |   |         | $       | 557,131 | 
|Percent of interest-bearing liabilities                                  |                                  |                                    |  |                                                       | 61.87%   |         |         |             |  |   | 24.03%   |           |         |  |  |              | 14.10%  |         |         |       |  |   | 0.00%   |        |        |  |  |   | 100.00% |        
|Interest sensitivity gap                                                 |                                  |                                    |  | $                                                     | (103,859 | )       |         |             |  | $ | (67,897  | )         |         |  |  | $            | 209,954 |         |         |       |  | $ | 81,007  |        |        |  |  | $ | 119,205 |        
|Interest sensitivity gap, as a percentage of total assets                |                                  |                                    |  |                                                       | (14.31%  | )       |         |             |  |   | (9.35%   | )         |         |  |  |              | 28.92%  |         |         |       |  |   | 11.16%  |        |        |  |  |   |         |        
|Cumulative interest sensitivity gap                                      |                                  |                                    |  | $                                                     | (103,859 | )       |         |             |  | $ | (171,756 | )         |         |  |  | $            | 38,198  |         |         |       |  | $ | 119,205 |        |        |  |  |   |         |        
|Cumulative interest sensitivity gap, as a percentage of total
    assets |                                  |                                    |  |                                                       | (14.31%  | )       |         |             |  |   | (23.66%  | )         |         |  |  |              | 5.26%   |         |         |       |  |   | 16.42%  |        |        |  |  |   |         |        

Impact of Inflation and Changing Prices




27



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|        |                                            
|------- | -------------------------------------------
|Item 8. | Financial Statements and Supplementary Data

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS


|                                                                                                         |  |      |    | 
|-------------------------------------------------------------------------------------------------------- |  | ---- | -- | 
|                                                                                                         |  | Page
|                                                                                                         |  |     
|Managements Report on Internal Control over Financial
    Reporting                                     |  |      | 29 | 
|Report of Independent Registered Public Accounting Firm                                                  |  |      | 30 | 
|Consolidated Statements of Financial Condition at
    December 31, 2005 and 2004                         |  |      | 32 | 
|Consolidated Statements of Income for the years ended
    December 31, 2005, 2004 and 2003               |  |      | 33 | 
|Consolidated Statements of Shareholders Equity for the
    years ended December 31, 2005, 2004 and 2003 |  |      | 34 | 
|Consolidated Statements of Comprehensive Income for the years
    ended December 31, 2005, 2004 and 2003 |  |      | 35 | 
|Consolidated Statements of Cash Flows for the years ended
    December 31, 2005, 2004 and 2003           |  |      | 36 | 
|Notes to Consolidated Financial Statements                                                               |  |      | 37 | 

28



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MANAGEMENTS REPORT ON INTERNAL CONTROL OVER FINANCIAL
REPORTING


13a-15(f)






Internal
Control-Integrated Framework.




29



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##### Table of Contents









REPORT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM














30



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##### Table of Contents






REPORT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM-(CONTINUED)









31



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##### Table of Contents



WASHINGTON BANKING COMPANY


AND SUBSIDIARIES











|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |        |        |         |         | 
|------------------------------------------------------- | --------------------------------------------------------- | ---------------------------------------------------------------------------------------- | ------------------- | ------------------------------------------------- | ------ | ------- | ------- | ------ | ------ | ------- | ------- | 
|                                                        |                                                           | 2005                                                                                     |                     | 2004                                             
|                                                        |                                                           |                                                                                          |                     |                                                  
|                                                        |                                                           |                                                                                          |                     | Assets                                            |        |         |         |        |        |         |         | 
|Cash and due from banks                                 |                                                           | $                                                                                        | 19,949              |                                                   |        | $       | 16,814  |       
|                                                        | ($3,313 and $2,686, respectively, are restricted)         |                                                                                          |                     |                                                   |        |         |         |        |       
|Interest-bearing deposits                               |                                                           |                                                                                          | 983                 |                                                   |        |         | 1,119   |       
|Federal funds sold                                      |                                                           |                                                                                          | 21,095              |                                                   |        |         |        |       
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Total cash, restricted cash, and cash equivalents |        |         | 42,027  |        |        |         | 17,933  | 
|Investment securities available for sale                |                                                           |                                                                                          | 19,077              |                                                   |        |         | 19,304  |       
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Total investment securities                       |        |         | 19,077  |        |        |         | 19,304  | 
|Subsidiary investment in the Trust                      |                                                           |                                                                                          | 247                 |                                                   |        |         | 295     |       
|Federal Home Loan Bank stock                            |                                                           |                                                                                          | 1,984               |                                                   |        |         | 1,976   |       
|Loans held for sale                                     |                                                           |                                                                                          | 2,829               |                                                   |        |         | 8,311   |       
|Loans receivable                                        |                                                           |                                                                                          | 630,258             |                                                   |        |         | 579,980 |       
|Allowance for loan losses                               |                                                           |                                                                                          | (8,810              | )                                                 |        |         | (7,903  | )     
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Total loans, net                                  |        |         | 621,448 |        |        |         | 572,077 | 
|Premises and equipment, net                             |                                                           |                                                                                          | 20,514              |                                                   |        |         | 20,375  |       
|Bank owned life insurance                               |                                                           |                                                                                          | 10,558              |                                                   |        |         | 10,217  |       
|Other assets                                            |                                                           |                                                                                          | 7,292               |                                                   |        |         | 7,236   |       
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Total assets                                      |        | $       | 725,976 |        |        | $       | 657,724 | 
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Liabilities and Shareholders Equity              |        |         |         |        |        |         |         | 
|Liabilities:                                            |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        | Deposits                                                  |                                                                                          |                     |                                                   |        |         |         |        |       
|                                                        |                                                           |                                                                                          | Noninterest-bearing |                                                   | $      | 105,365 |         |        | $      | 77,820  |        
|                                                        |                                                           |                                                                                          | Interest-bearing    |                                                   |        | 287,214 |         |        |        | 274,999 |        
|                                                        |                                                           |                                                                                          | Time deposits       |                                                   |        | 244,910 |         |        |        | 210,182 |        
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Total deposits                                    |        |         | 637,489 |        |        |         | 563,001 | 
|                                                        | Other borrowed funds                                      |                                                                                          |                     | 10,000                                            |        |         |         | 27,000 |       
|                                                        | Junior subordinated debentures                            |                                                                                          |                     | 15,007                                            |        |         |         | 15,007 |       
|                                                        | Other liabilities                                         |                                                                                          |                     | 5,631                                             |        |         |         | 3,125  |       
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Total liabilities                                 |        |         | 668,127 |        |        |         | 608,133 | 
|Commitments and contingencies (See Notes 16, 17 and 19) |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|Shareholders equity:                                   |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        | Preferred stock, no par value. Authorized 20,000 shares:  |                                                                                          |                     |                                                   |        |         |         |        |       
|                                                        |                                                           | no shares issued or outstanding                                                          |                     |                                                   |       |         |         |        |       |        
|                                                        | Common stock, no par value. Authorized 11,822,706 shares: |                                                                                          |                     |                                                   |        |         |         |        |       
|                                                        |                                                           | issued and outstanding 7,382,210 and 7,239,052 shares in
    2005 and 2004, respectively |                     |                                                   | 32,106 |         |         |        | 31,516 |        
|                                                        | Retained earnings                                         |                                                                                          |                     | 25,789                                            |        |         |         | 17,928 |       
|                                                        | Accumulated other comprehensive income (loss), net        |                                                                                          |                     | (46)                                              |        |         |         | 147    |       
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Total shareholders equity                        |        |         | 57,849  |        |        |         | 49,591  | 
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       
|                                                        |                                                           |                                                                                          |                     | Total liabilities and shareholders equity        |        | $       | 725,976 |        |        | $       | 657,724 | 
|                                                        |                                                           |                                                                                          |                     |                                                   |        |         |         |       



| |                                                             
| | ------------------------------------------------------------
| | See accompanying notes to consolidated financial statements.

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AND SUBSIDIARIES











|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |        |        |        | 
|--------------------------------------------------------------------------------------------------------------------------------------- | --------------------------------------------- | ------------------------------------------------------ | --------------------------------------------------- | ------ | ------ | ------ | --------- | ------ | ------ | ------ | --------- | ------ | ------ | ------ | 
|                                                                                                                                        |                                               | 2005                                                   |                                                     | 2004   |        | 2003  
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |       
|Interest income:                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        | Interest and fees on loans                    |                                                        | $                                                   | 44,615 |        |        | $         | 37,428 |        |        | $         | 34,533 |       
|                                                                                                                                        | Interest on taxable investment securities     |                                                        |                                                     | 357    |        |        |           | 345    |        |        |           | 324    |       
|                                                                                                                                        | Interest on tax-exempt investment securities  |                                                        |                                                     | 310    |        |        |           | 482    |        |        |           | 675    |       
|                                                                                                                                        | Other                                         |                                                        |                                                     | 508    |        |        |           | 209    |        |        |           | 381    |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               | Total interest income                                  |                                                     |        | 45,790 |        |           |        | 38,464 |        |           |        | 35,913 |       
|Interest expense:                                                                                                                       |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        | Interest on time deposits                     |                                                        |                                                     | 7,024  |        |        |           | 5,632  |        |        |           | 5,380  |       
|                                                                                                                                        | Interest on savings and money market deposits |                                                        |                                                     | 1,995  |        |        |           | 1,369  |        |        |           | 1,353  |       
|                                                                                                                                        | Interest on NOW deposits                      |                                                        |                                                     | 938    |        |        |           | 623    |        |        |           | 650    |       
|                                                                                                                                        | Interest on other borrowings                  |                                                        |                                                     | 538    |        |        |           | 431    |        |        |           | 612    |       
|                                                                                                                                        | Interest on junior subordinated debentures    |                                                        |                                                     | 1,071  |        |        |           | 782    |        |        |           |       |       
|                                                                                                                                        | Interest on trust preferred securities        |                                                        |                                                     |       |        |        |           |       |        |        |           | 742    |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               | Total interest expense                                 |                                                     |        | 11,566 |        |           |        | 8,837  |        |           |        | 8,737  |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               |                                                        | Net interest income                                 |        |        | 34,224 |           |        |        | 29,627 |           |        |        | 27,176 | 
|Provision for loan losses                                                                                                               |                                               |                                                        | 2,250                                               |        |        |        | 3,500     |        |        |        | 3,200     |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               |                                                        | Net interest income after provision for loan losses |        |        | 31,974 |           |        |        | 26,127 |           |        |        | 23,976 | 
|Noninterest income:                                                                                                                     |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        | Service charges and fees                      |                                                        |                                                     | 3,150  |        |        |           | 2,986  |        |        |           | 2,127  |       
|                                                                                                                                        | Income from the sale of loans                 |                                                        |                                                     | 773    |        |        |           | 1,183  |        |        |           | 2,117  |       
|                                                                                                                                        | (Loss) Gain on sale of securities             |                                                        |                                                     | (50    | )      |        |           | 144    |        |        |           |       |       
|                                                                                                                                        | Electronic banking income                     |                                                        |                                                     | 764    |        |        |           | 612    |        |        |           | 446    |       
|                                                                                                                                        | SBA premium income                            |                                                        |                                                     | 757    |        |        |           | 559    |        |        |           | 515    |       
|                                                                                                                                        | Other                                         |                                                        |                                                     | 1,905  |        |        |           | 1,187  |        |        |           | 654    |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               | Total noninterest income                               |                                                     |        | 7,299  |        |           |        | 6,671  |        |           |        | 5,859  |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|Noninterest expense:                                                                                                                    |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        | Salaries and benefits                         |                                                        |                                                     | 15,086 |        |        |           | 13,744 |        |        |           | 12,274 |       
|                                                                                                                                        | Occupancy and equipment                       |                                                        |                                                     | 3,379  |        |        |           | 3,290  |        |        |           | 3,028  |       
|                                                                                                                                        | Office supplies and printing                  |                                                        |                                                     | 659    |        |        |           | 644    |        |        |           | 657    |       
|                                                                                                                                        | Data processing                               |                                                        |                                                     | 493    |        |        |           | 490    |        |        |           | 459    |       
|                                                                                                                                        | Consulting and professional fees              |                                                        |                                                     | 617    |        |        |           | 793    |        |        |           | 637    |       
|                                                                                                                                        | Other                                         |                                                        |                                                     | 4,991  |        |        |           | 4,306  |        |        |           | 3,959  |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               | Total noninterest expense                              |                                                     |        | 25,225 |        |           |        | 23,267 |        |           |        | 21,014 |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               | Income before income taxes and discontinued operations |                                                     |        | 14,048 |        |           |        | 9,531  |        |           |        | 8,821  |       
|Provision for income taxes                                                                                                              |                                               |                                                        | 4,580                                               |        |        |        | 2,985     |        |        |        | 2,798     |       
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|Income from continuing operations                                                                                                       |                                               |                                                        | 9,468                                               |        |        |        | 6,546     |        |        |        | 6,023     |       
|Loss from discontinued operations, net of tax, of ($238) and
    ($69) for the years ended December 31, 2004 and 2003,
    respectively |                                               |                                                        |                                                    |        |        |        | (370      | )      |        |        | (56       | )     
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               |                                                        | Net income                                          |        | $      | 9,468  |           |        | $      | 6,176  |           |        | $      | 5,967  | 
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|Earnings (loss) per common share, basic                                                                                                 |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        | Continuing operations                         |                                                        | $                                                   | 1.30   |        |        | $         | 0.91   |        |        | $         | 0.85   |       
|                                                                                                                                        | Discontinued operations                       |                                                        |                                                     |       |        |        |           | (0.05  | )      |        |           | (0.01  | )     
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               |                                                        | Net income per share                                |        | $      | 1.30   |           |        | $      | 0.86   |           |        | $      | 0.84   | 
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|Earnings (loss) per common share, diluted                                                                                               |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        | Continuing operations                         |                                                        | $                                                   | 1.26   |        |        | $         | 0.88   |        |        | $         | 0.82   |       
|                                                                                                                                        | Discontinued operations                       |                                                        |                                                     |       |        |        |           | (0.05  | )      |        |           | (0.01  | )     
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|                                                                                                                                        |                                               |                                                        | Net income per share                                |        | $      | 1.26   |           |        | $      | 0.83   |           |        | $      | 0.81   | 
|                                                                                                                                        |                                               |                                                        |                                                     |        |        |        |           |        |        |        |           |       
|Average number of shares outstanding, basic                                                                                             |                                               |                                                        | 7,278,486                                           |        |        |        | 7,209,349 |        |        |        | 7,121,948 |       
|Average number of shares outstanding, diluted                                                                                           |                                               |                                                        | 7,542,174                                           |        |        |        | 7,460,596 |        |        |        | 7,398,241 |       



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WASHINGTON BANKING COMPANY


AND SUBSIDIARIES











|                                                                         |  |              |       |  |          |   |        |             |       |   |               |       |  |               |      |   |        |   |      |   |  |   |        |  
|------------------------------------------------------------------------ |  | ------------ | ----- |  | -------- | - | ------ | ----------- | ----- | - | ------------- | ----- |  | ------------- | ---- | - | ------ | - | ---- | - |  | - | ------ | -
|                                                                         |  |              |       |  |          |   |        | Accumulated |       |   |              
|                                                                         |  | Common stock |       |  |          |   |        |             | other |   |               | Total | 
|                                                                         |  |              |       |  | Retained |   |        | Deferred    |       |   | comprehensive |       |  | shareholders |     
|                                                                         |  | Shares       |       |  | Amount   |   |        | earnings    |       |   | compensation  |       |  | income        |      |   | equity |  
|                                                                         |  |              |       |  |          |   |        |             |       |   |               |       |  |               |      |   |        |  
|Balance at December 31,
    2002(1)                                      |  |              | 6,055 |  |          | $ | 21,025 |             |       | $ | 18,363        |       |  | $             |     |   |        | $ | 44   |   |  | $ | 39,432 |  
|Net income                                                               |  |              |      |  |          |   |       |             |       |   | 5,967         |       |  |               |      |   |        |   |     |   |  |   | 5,967  |  
|Net change in unrealized (loss) on securities available for sale         |  |              |      |  |          |   |       |             |       |   |              |       |  |               |      |   |        |   | (82  | ) |  |   | (82    | )
|Cash dividend, $0.18 per share                                           |  |              |      |  |          |   |       |             |       |   | (1,303        | )     |  |               |      |   |        |   |     |   |  |   | (1,303 | )
|Stock option compensation                                                |  |              |      |  |          |   | 23     |             |       |   |              |       |  |               |      |   |        |   |     |   |  |   | 23     |  
|Stock options exercised                                                  |  |              | 157   |  |          |   | 323    |             |       |   |              |       |  |               |      |   |        |   |     |   |  |   | 323    |  
|15% stock dividend                                                       |  |              | 932   |  |          |   | 9,754  |             |       |   | (9,754        | )     |  |               |      |   |        |   |     |   |  |   |       |  
|                                                                         |  |              |       |  |          |   |        |             |       |   |               |       |  |               |      |   |        |  
|Balance at December 31, 2003                                             |  |              | 7,144 |  |          |   | 31,125 |             |       |   | 13,273        |       |  |               |     |   |        |   | (38  | ) |  |   | 44,360 |  
|Net income                                                               |  |              |      |  |          |   |       |             |       |   | 6,176         |       |  |               |      |   |        |   |     |   |  |   | 6,176  |  
|Net change in unrealized gain on securities available for sale           |  |              |      |  |          |   |       |             |       |   |              |       |  |               |      |   |        |   | 282  |   |  |   | 282    |  
|Less: adjustment for gains included in net income, net of tax of
    $47 |  |              |      |  |          |   |       |             |       |   |              |       |  |               |      |   |        |   | (97  | ) |  |   | (97    | )
|Tax benefit associated with stock options                                |  |              |      |  |          |   | 160    |             |       |   |              |       |  |               |      |   |        |   |     |   |  |   | 160    |  
|Cash dividend, $0.22 per share                                           |  |              |      |  |          |   |       |             |       |   | (1,521        | )     |  |               |      |   |        |   |     |   |  |   | (1,521 | )
|Stock option compensation                                                |  |              |      |  |          |   | 23     |             |       |   |              |       |  |               |      |   |        |   |     |   |  |   | 23     |  
|Stock options exercised                                                  |  |              | 95    |  |          |   | 208    |             |       |   |              |       |  |               |      |   |        |   |     |   |  |   | 208    |  
|                                                                         |  |              |       |  |          |   |        |             |       |   |               |       |  |               |      |   |        |  
|Balance at December 31, 2004                                             |  |              | 7,239 |  |          |   | 31,516 |             |       |   | 17,928        |       |  |               |     |   |        |   | 147  |   |  |   | 49,591 |  
|Net income                                                               |  |              |      |  |          |   |       |             |       |   | 9,468         |       |  |               |      |   |        |   |     |   |  |   | 9,468  |  
|Net change in unrealized (loss) on securities available for sale         |  |              |      |  |          |   |       |             |       |   |              |       |  |               |      |   |        |   | (226 | ) |  |   | (226   | )
|Plus adjustment for gains included in net income, net of tax of
    $17  |  |              |      |  |          |   |       |             |       |   |              |       |  |               |      |   |        |   | 33   |   |  |   | 33     |  
|Tax benefit associated with stock options                                |  |              |      |  |          |   | 113    |             |       |   |              |       |  |               |      |   |        |   |     |   |  |   | 113    |  
|Cash dividend, $0.22 per share                                           |  |              |      |  |          |   |       |             |       |   | (1,607        | )     |  |               |      |   |        |   |     |   |  |   | (1,607 | )
|Stock option compensation                                                |  |              |      |  |          |   | 23     |             |       |   |              |       |  |               |      |   |        |   |     |   |  |   | 23     |  
|Issuance of restricted stock                                             |  |              | 35    |  |          |   | 483    |             |       |   |              |       |  |               | (483 | ) |        |   |     |   |  |   |       |  
|Amortization of restricted stock                                         |  |              |      |  |          |   |       |             |       |   |              |       |  |               | 97   |   |        |   |     |   |  |   | 97     |  
|Stock options exercised                                                  |  |              | 108   |  |          |   | 357    |             |       |   |              |       |  |               |      |   |        |   |     |   |  |   | 357    |  
|                                                                         |  |              |       |  |          |   |        |             |       |   |               |       |  |               |      |   |        |  
|Balance at December 31, 2005                                             |  |              | 7,382 |  |          | $ | 32,492 |             |       | $ | 25,789        |       |  | $             | (386 | ) |        | $ | (46  | ) |  | $ | 57,849 |  
|                                                                         |  |              |       |  |          |   |        |             |       |   |               |       |  |               |      |   |        |  



|    |                                                                                       
|--- | --------------------------------------------------------------------------------------
|(1) | Adjusted to reflect a 4-for-3 stock split distributed by the
    Company May 17, 2005.



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AND SUBSIDIARIES








|                                                                                                                                                                         |  |      |       |      |  |      |       |   |  |   |       |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ---- | ----- | ---- |  | ---- | ----- | - |  | - | ----- | -
|                                                                                                                                                                         |  | 2005 |       | 2004 |  | 2003
|Comprehensive Income:                                                                                                                                                    |  |      |       |      |  |     
|Net income                                                                                                                                                               |  | $    | 9,468 |      |  | $    | 6,176 |   |  | $ | 5,967 |  
|Increase (decrease) in unrealized gain on securities available
    for sale, net of tax, of ($85), ($106) and $43, for years ended
    2005, 2004 and 2003, respectively |  |      | 226   |      |  |      | 282   |   |  |   | (82   | )
|Less: adjustment for gains (losses) included in net income, net
    of tax, of $17 and $47, for years ended 2005 and 2004,
    respectively                              |  |      | 33    |      |  |      | (97   | ) |  |   |      |  
|                                                                                                                                                                         |  |      |       |      |  |      |       |   |  |   |       |  
|Comprehensive income                                                                                                                                                     |  | $    | 9,727 |      |  | $    | 6,361 |   |  | $ | 5,885 |  
|                                                                                                                                                                         |  |      |       |      |  |      |       |   |  |   |       |  



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AND SUBSIDIARIES











|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |         |        |       |         |  
|------------------------------------------------ | ------------------------------------------------------------------------------------------------------- | ------------------------------------------------------- | ----------------------------------------------- | --------------------------------------- | ------ | ------ | ------- | ------- | ----- | ------ | ------- | ------- | ------ | ----- | ------- | -
|                                                 |                                                                                                         | 2005                                                    |                                                 | 2004                                    |        | 2003  
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |       
|Cash flows from operating activities:            |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|                                                 | Net income from continuing operations                                                                   |                                                         | $                                               | 9,468                                   |        |        | $       | 6,546   |       |        | $       | 6,023   |       
|                                                 | Adjustments to reconcile net income to net cash provided by
    operating activities:                   |                                                         |                                                 |                                         |        |        |         |         |       |        |         |         |       
|                                                 |                                                                                                         | Federal Home Loan Bank stock dividends                  |                                                 |                                         | (8     | )      |         |         | (64   | )      |         |         | (122   | )    
|                                                 |                                                                                                         | Deferred income tax expense (benefit)                   |                                                 |                                         | 1,440  |        |         |         | (630  | )      |         |         | (409   | )    
|                                                 |                                                                                                         | Amortization of investment premiums, net                |                                                 |                                         | 2      |        |         |         | 44    |        |         |         | 11     |      
|                                                 |                                                                                                         | Net (increase) decrease in subsidiary investment        |                                                 |                                         | 81     |        |         |         | (288  | )      |         |         |       |      
|                                                 |                                                                                                         | Earnings on bank owned life insurance                   |                                                 |                                         | (341   | )      |         |         | (217  | )      |         |         |       |      
|                                                 |                                                                                                         | Provision for loan losses                               |                                                 |                                         | 2,250  |        |         |         | 3,500 |        |         |         | 3,200  |      
|                                                 |                                                                                                         | Net decrease (increase) in loans held for sale          |                                                 |                                         | 5,482  |        |         |         | (60   | )      |         |         | (1,622 | )    
|                                                 |                                                                                                         | Depreciation and amortization of premises and equipment |                                                 |                                         | 1,605  |        |         |         | 1,682 |        |         |         | 1,610  |      
|                                                 |                                                                                                         | Net (gain) loss on sale of securities                   |                                                 |                                         | 50     |        |         |         | (144  | )      |         |         |       |      
|                                                 |                                                                                                         | Net (gain) loss on sale of premises and equipment       |                                                 |                                         | (103   | )      |         |         | 152   |        |         |         | 6      |      
|                                                 |                                                                                                         | Net (gain) loss on sale of other real estate            |                                                 |                                         | (20    | )      |         |         | (136  | )      |         |         | (19    | )    
|                                                 |                                                                                                         | Write downs on other real estate                        |                                                 |                                         | 254    |        |         |         | 34    |        |         |         |       |      
|                                                 |                                                                                                         | (Increase) decrease in other assets                     |                                                 |                                         | (2,666 | )      |         |         | 880   |        |         |         | (1,205 | )    
|                                                 |                                                                                                         | Stock option compensation                               |                                                 |                                         | 23     |        |         |         | 23    |        |         |         | 23     |      
|                                                 |                                                                                                         | Tax benefit associated with stock options               |                                                 |                                         | 113    |        |         |         | 160   |        |         |         |       |      
|                                                 |                                                                                                         | Amortization of restricted stock                        |                                                 |                                         | 97     |        |         |         |      |        |         |         |       |      
|                                                 |                                                                                                         | Increase (decrease) in other liabilities                |                                                 |                                         | 2,506  |        |         |         | (311  | )      |         |         | 399    |      
|                                                 |                                                                                                         |                                                         | Cash flows from continuing operating activities |                                         |        | 20,233 |         |         |       | 11,171 |         |         |        | 7,895 |        
|                                                 |                                                                                                         |                                                         | Loss from discontinued operations, net of tax   |                                         |        |       |         |         |       | (370   | )       |         |        | (56   | )      
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|                                                 |                                                                                                         |                                                         |                                                 | Cash flows from operations              |        |        | 20,233  |         |       |        | 10,801  |         |        |       | 7,839   |  
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|Cash flows from investing activities:            |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|                                                 | Purchases of investment securities available for sale                                                   |                                                         |                                                 | (6,110                                  | )      |        |         | (1,500  | )     |        |         | (17,500 | )     
|                                                 | Maturities/calls/principal payments of investment and
    mortgage-backed securities available for sale |                                                         |                                                 | 5,503                                   |        |        |         | 6,479   |       |        |         | 11,053  |       
|                                                 | Sale of investment securities available for sale                                                        |                                                         |                                                 | 504                                     |        |        |         | 5,799   |       |        |         |        |       
|                                                 | Purchases of investment securities held to maturity                                                     |                                                         |                                                 |                                        |        |        |         |        |       |        |         | (1,870  | )     
|                                                 | Maturities/calls of investment securities held to maturity                                              |                                                         |                                                 |                                        |        |        |         | 475     |       |        |         | 2,190   |       
|                                                 | Purchase of bank owned life insurance                                                                   |                                                         |                                                 |                                        |        |        |         | (10,000 | )     |        |         |        |       
|                                                 | Sale of Federal Home Loan Bank stock                                                                    |                                                         |                                                 |                                        |        |        |         | 368     |       |        |         |        |       
|                                                 | Net increase in loans                                                                                   |                                                         |                                                 | (51,681                                 | )      |        |         | (83,051 | )     |        |         | (73,000 | )     
|                                                 | Purchases of premises and equipment                                                                     |                                                         |                                                 | (2,112                                  | )      |        |         | (3,069  | )     |        |         | (4,680  | )     
|                                                 | Proceeds from sale of other real estate owned and premises and
    equipment                            |                                                         |                                                 | 1,519                                   |        |        |         | 1,335   |       |        |         | 664     |       
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|                                                 |                                                                                                         |                                                         |                                                 | Cash flows from investing activities    |        |        | (52,377 | )       |       |        | (83,164 | )       |        |       | (83,143 | )
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|Cash flows from financing activities:            |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|                                                 | Net increase in deposits                                                                                |                                                         |                                                 | 74,488                                  |        |        |         | 61,504  |       |        |         | 38,502  |       
|                                                 | Increase (decrease) in other borrowed funds                                                             |                                                         |                                                 | 5,000                                   |        |        |         | (7,500  | )     |        |         | 5,000   |       
|                                                 | Increase (decrease) in overnight borrowings                                                             |                                                         |                                                 | (22,000                                 | )      |        |         | 17,000  |       |        |         | (2,500  | )     
|                                                 | Dividends paid on common stock                                                                          |                                                         |                                                 | (1,607                                  | )      |        |         | (1,521  | )     |        |         | (1,303  | )     
|                                                 | Proceeds from stock options exercised                                                                   |                                                         |                                                 | 357                                     |        |        |         | 208     |       |        |         | 323     |       
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|                                                 |                                                                                                         |                                                         |                                                 | Cash flows from financing activities    |        |        | 56,238  |         |       |        | 69,691  |         |        |       | 40,022  |  
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|                                                 |                                                                                                         |                                                         |                                                 | Net change in cash and cash equivalents |        |        | 24,094  |         |       |        | (2,672  | )       |        |       | (35,282 | )
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|Cash and cash equivalents at beginning of period |                                                                                                         |                                                         | 17,933                                          |                                         |        |        | 20,605  |         |       |        | 55,887  |        
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|Cash and cash equivalents at end of period       |                                                                                                         | $                                                       | 42,027                                          |                                         |        | $      | 17,933  |         |       | $      | 20,605  |        
|                                                 |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|Supplemental information:                        |                                                                                                         |                                                         |                                                 |                                         |        |        |         |         |       |        |         |        
|                                                 | Loans foreclosed and transferred to other real estate owned                                             |                                                         | $                                               | 53                                      |        |        | $       | 1,333   |       |        | $       | 557     |       
|                                                 | Loans made on bank-owned property sold                                                                  |                                                         |                                                 |                                        |        |        |         | 272     |       |        |         | 94      |       
|                                                 | Cash paid for interest                                                                                  |                                                         |                                                 | 11,221                                  |        |        |         | 8,759   |       |        |         | 8,959   |       
|                                                 | Cash paid for income taxes                                                                              |                                                         |                                                 | 4,170                                   |        |        |         | 2,992   |       |        |         | 2,960   |       
|                                                 | Transfer of investments from held to maturity to available for
    sale                                 |                                                         |                                                 |                                        |        |        |         | 14,267  |       |        |         |        |       
|                                                 | Deconsolidation of trust preferred securities                                                           |                                                         |                                                 |                                        |        |        |         | 15,000  |       |        |         |        |       



36



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##### Table of Contents






NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


(Dollars in thousands, except per share data)




|    |                                                                           
|--- | --------------------------------------------------------------------------
|(1) | Description of Business and Summary of Significant Accounting
    Policies



|    |                        
|--- | -----------------------
|(a) | Description of Business









|    |                      
|--- | ---------------------
|(b) | Basis of Presentation





|    |         
|--- | --------
|(c) | Segments

Disclosure about Segments of
an Enterprise and Related Information


37



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)






|    |                                           
|--- | ------------------------------------------
|(d) | Recent Financial Accounting Pronouncements

Accounting
Changes and Error Corrections Accounting Changes Reporting Accounting Changes in Interim
Financial Statements




Shared
Based Payment Accounting for Stock-Based
Compensation Accounting for Stock Issued to Employees Statement of Cash Flows








|    |                          
|--- | -------------------------
|(e) | Cash and Cash Equivalents



38



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)




|    |                             
|--- | ----------------------------
|(f) | Federal Home Loan Bank Stock





|    |                      
|--- | ---------------------
|(g) | Investment Securities





Accounting for Certain Investments in
Debt and Equity Securities




|    |                    
|--- | -------------------
|(h) | Loans Held for Sale





|    |                      
|--- | ---------------------
|(i) | Loans Receivable, Net











39



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)








|    |                          
|--- | -------------------------
|(j) | Allowance for Loan Losses





|    |                       
|--- | ----------------------
|(k) | Premises and Equipment





|    |                          
|--- | -------------------------
|(l) | Bank Owned Life Insurance





|    |                        
|--- | -----------------------
|(m) | Other Real Estate Owned







|    |                     
|--- | --------------------
|(n) | Federal Income Taxes



40



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)






|    |                         
|--- | ------------------------
|(o) | Stock-Based Compensation

Accounting for Stock
Issued to Employees Accounting for Certain
Transactions Involving Stock Compensation


Accounting for
Stock-Based Compensation


|                                                                        |             |                         |       |  |      |   |        |      |  |   |        |  | 
|----------------------------------------------------------------------- | ----------- | ----------------------- | ----- |  | ---- | - | ------ | ---- |  | - | ------ |  | 
|                                                                        |             | Years Ended December 31 |      
|                                                                        |             |                         |      
|                                                                        |             | 2005                    |       |  | 2004 |   |        | 2003 | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|Net income, as reported                                                 |             | $                       | 9,468 |  |      | $ | 6,176  |      |  | $ | 5,967  | 
|Stock compensation recognized, net of tax                               |             |                         | 15    |  |      |   | 15     |      |  |   | 15     | 
|Additional compensation for fair value of stock options, net of
    tax |             |                         | (21)  |  |      |   | (59)   |      |  |   | (59)   | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|Pro forma net income                                                    |             | $                       | 9,462 |  |      | $ | 6,132  |      |  | $ | 5,923  | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|Basic earnings per
    share(1):                                        |             |                         |       |  |      |   |        |      |  |   |        | 
|                                                                        | As reported |                         |       |  |      |   |        |      |  |   |        |  | 
|Income from continuing operations                                       |             | $                       | 1.30  |  |      | $ | 0.91   |      |  | $ | 0.85   | 
|Loss from discontinued operations                                       |             |                         |      |  |      |   | (0.05) |      |  |   | (0.01) | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|Net income                                                              |             | $                       | 1.30  |  |      | $ | 0.86   |      |  | $ | 0.84   | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|                                                                        | Pro forma   |                         |       |  |      |   |        |      |  |   |        |  | 
|Income from continuing operations                                       |             | $                       | 1.30  |  |      | $ | 0.90   |      |  | $ | 0.84   | 
|Loss from discontinued operations                                       |             |                         |      |  |      |   | (0.05) |      |  |   | (0.01) | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|Net income                                                              |             | $                       | 1.30  |  |      | $ | 0.85   |      |  | $ | 0.83   | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|Diluted earnings per
    share(1):                                      |             |                         |       |  |      |   |        |      |  |   |        | 
|                                                                        | As reported |                         |       |  |      |   |        |      |  |   |        |  | 
|Income from continuing operations                                       |             | $                       | 1.26  |  |      | $ | 0.87   |      |  | $ | 0.82   | 
|Loss from discontinued operations                                       |             |                         |      |  |      |   | (0.05) |      |  |   | (0.01) | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|Net income                                                              |             | $                       | 1.26  |  |      | $ | 0.82   |      |  | $ | 0.81   | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|                                                                        | Pro forma   |                         |       |  |      |   |        |      |  |   |        |  | 
|Income from continuing operations                                       |             | $                       | 1.25  |  |      | $ | 0.87   |      |  | $ | 0.81   | 
|Loss from discontinued operations                                       |             |                         |      |  |      |   | (0.05) |      |  |   | (0.01) | 
|                                                                        |             |                         |       |  |      |   |        |      | 
|Net income                                                              |             | $                       | 1.25  |  |      | $ | 0.82   |      |  | $ | 0.80   | 
|                                                                        |             |                         |       |  |      |   |        |      | 



|    |                                                                                           
|--- | ------------------------------------------------------------------------------------------
|(1) | Adjusted to reflect a
    4-for-3 stock split
    distributed by the Company May 17, 2005.

41



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)






|                         |  |      |          | 
|------------------------ |  | ---- | -------- | 
|                         |  | 2003
|                         |  |     
|Risk-free interest rate  |  |      | 1.17%    | 
|Dividend yield rate      |  |      | 3.23%    | 
|Price volatility         |  |      | 40.87%   | 
|Expected life of options |  |      | 8  years | 





|    |                  
|--- | -----------------
|(p) | Reclassifications





|    |                             
|--- | ----------------------------
|(2) | Restrictions on Cash Balance





|    |                      
|--- | ---------------------
|(3) | Investment Securities



|                                |                                   |                                                |   |            |        |            |   |              |    |        |   |      |      |  |   |      |      |  |   |        |        | 
|------------------------------- | --------------------------------- | ---------------------------------------------- | - | ---------- | ------ | ---------- | - | ------------ | -- | ------ | - | ---- | ---- |  | - | ---- | ---- |  | - | ------ | ------ | 
|                                |                                   |                                                |   |            |        | Gross      |   | Gross        |    |       
|                                |                                   |                                                |   |            |        | unrealized |   | unrealized   |    |       
|                                |                                   |                                                |   | Gross      |        | losses     |   | losses       |    |       
|                                |                                   | Amortized                                      |   | unrealized |        | less than  |   | greater than |    | Market
|                                |                                   | cost                                           |   | gains      |        | 12 months  |   | 12 months    |    | value 
|December 31, 2005:              |                                   |                                                |   |            |        |            |   |              |    |       
|                                |                                   |                                                |   |            |        |            |   |              |    |       
|Investments available for sale: |                                   |                                                |   |            |        |            |   |              |    |        |   |      |      |  |   |      |      |  |   |       
|                                | U.S. government agency securities |                                                | $ | 10,494     |        |            | $ |             |    |        | $ | (43) |      |  | $ | (90) |      |  | $ | 10,361 |       
|                                | Pass-through securities           |                                                |   | 126        |        |            |   | 1            |    |        |   |     |      |  |   |     |      |  |   | 127    |       
|                                | Corporate obligations             |                                                |   | 999        |        |            |   |             |    |        |   | (12) |      |  |   |     |      |  |   | 987    |       
|                                | State and political subdivisions  |                                                |   | 7,529      |        |            |   | 81           |    |        |   |     |      |  |   | (8)  |      |  |   | 7,602  |       
|                                |                                   |                                                |   |            |        |            |   |              |    |        |   |      |      |  |   |      |      |  |   |       
|                                |                                   | Total investment securities available for sale |   | $          | 19,148 |            |   | $            | 82 |        |   | $    | (55) |  |   | $    | (98) |  |   | $      | 19,077 | 
|                                |                                   |                                                |   |            |        |            |   |              |    |        |   |      |      |  |   |      |      |  |   |       

42



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)


(Continued)


|                                |                                   |                                                |   |            |        |            |   |              |     |        |   |      |      |  |   |      |      |  |   |        |        | 
|------------------------------- | --------------------------------- | ---------------------------------------------- | - | ---------- | ------ | ---------- | - | ------------ | --- | ------ | - | ---- | ---- |  | - | ---- | ---- |  | - | ------ | ------ | 
|                                |                                   |                                                |   |            |        | Gross      |   | Gross        |     |       
|                                |                                   |                                                |   |            |        | unrealized |   | unrealized   |     |       
|                                |                                   |                                                |   | Gross      |        | losses     |   | losses       |     |       
|                                |                                   | Amortized                                      |   | unrealized |        | less than  |   | greater than |     | Market
|                                |                                   | cost                                           |   | gains      |        | 12 months  |   | 12 months    |     | value 
|December 31, 2004:              |                                   |                                                |   |            |        |            |   |              |     |       
|                                |                                   |                                                |   |            |        |            |   |              |     |       
|Investments available for sale: |                                   |                                                |   |            |        |            |   |              |     |        |   |      |      |  |   |      |      |  |   |       
|                                | U.S. government agency securities |                                                | $ | 10,535     |        |            | $ | 9            |     |        | $ | (15) |      |  | $ | (47) |      |  | $ | 10,482 |       
|                                | Pass-through securities           |                                                |   | 214        |        |            |   | 6            |     |        |   |     |      |  |   |     |      |  |   | 220    |       
|                                | Corporate obligations             |                                                |   | 999        |        |            |   |             |     |        |   |     |      |  |   | (12) |      |  |   | 987    |       
|                                | Preferred stock                   |                                                |   | 504        |        |            |   |             |     |        |   |     |      |  |   |     |      |  |   | 504    |       
|                                |                                   |                                                |   |            |        |            |   |              |     |        |   |      |      |  |   |      |      |  |   |       
|                                | State and political subdivisions  |                                                |   | 6,819      |        |            |   | 292          |     |        |   |     |      |  |   |     |      |  |   | 7,111  |       
|                                |                                   |                                                |   |            |        |            |   |              |     |        |   |      |      |  |   |      |      |  |   |       
|                                |                                   | Total investment securities available for sale |   | $          | 19,071 |            |   | $            | 307 |        |   | $    | (15) |  |   | $    | (59) |  |   | $      | 19,304 | 
|                                |                                   |                                                |   |            |        |            |   |              |     |        |   |      |      |  |   |      |      |  |   |       







43



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)




|                                |                                    |                     |                      |       |       |       |  |          |       |        |  |   |       |       |  |   |   |   |  |   |        |        | 
|------------------------------- | ---------------------------------- | ------------------- | -------------------- | ----- | ----- | ----- |  | -------- | ----- | ------ |  | - | ----- | ----- |  | - | - | - |  | - | ------ | ------ | 
|                                |                                    | Dates of Maturities
|                                |                                    |                    
|                                |                                    | Under               |                      | 1-5   |       | 5-10  |  | Over     |       |       
|                                |                                    | 1 year              |                      | years |       | years |  | 10 years |       | Total 
|                                |                                    |                     |                      |       |       |       |  |          |       |       
|Investments available for sale: |                                    |                     |                      |       |       |       |  |          |       |        |  |   |       |       |  |   |   |   |  |  
|                                | U.S. government agency securities: |                     |                      |       |       |       |  |          |       |        |  |   |       |       |  |   |   |   |  |   |       
|                                |                                    | Amortized cost      |                      | $     | 3,500 |       |  | $        | 6,994 |        |  | $ |      |       |  | $ |  |   |  | $ | 10,494 |       
|                                |                                    | Market value        |                      |       | 3,457 |       |  |          | 6,904 |        |  |   |      |       |  |   |  |   |  |   | 10,361 |       
|                                | Pass-through securities:           |                     |                      |       |       |       |  |          |       |        |  |   |       |       |  |   |   |   |  |   |       
|                                |                                    | Amortized cost      |                      |       | 126   |       |  |          |      |        |  |   |      |       |  |   |  |   |  |   | 126    |       
|                                |                                    | Market value        |                      |       | 127   |       |  |          |      |        |  |   |      |       |  |   |  |   |  |   | 127    |       
|                                | Corporate obligations:             |                     |                      |       |       |       |  |          |       |        |  |   |       |       |  |   |   |   |  |   |       
|                                |                                    | Amortized cost      |                      |       | 999   |       |  |          |      |        |  |   |      |       |  |   |  |   |  |   | 999    |       
|                                |                                    | Market value        |                      |       | 987   |       |  |          |      |        |  |   |      |       |  |   |  |   |  |   | 987    |       
|                                | State and political subdivisions:  |                     |                      |       |       |       |  |          |       |        |  |   |       |       |  |   |   |   |  |   |       
|                                |                                    | Amortized cost      |                      |       | 1,327 |       |  |          | 4,170 |        |  |   | 2,032 |       |  |   |  |   |  |   | 7,529  |       
|                                |                                    | Market value        |                      |       | 1,343 |       |  |          | 4,226 |        |  |   | 2,033 |       |  |   |  |   |  |   | 7,602  |       
|                                |                                    |                     |                      |       |       |       |  |          |       |        |  |   |       |       |  |   |   |   |  |  
|                                |                                    |                     | Total amortized cost |       |       | 5,952 |  |          |       | 11,164 |  |   |       | 2,032 |  |   |   |  |  |   |        | 19,148 | 
|                                |                                    |                     | Total market value   |       | $     | 5,914 |  |          | $     | 11,130 |  |   | $     | 2,033 |  |   | $ |  |  |   | $      | 19,077 | 
|                                |                                    |                     |                      |       |       |       |  |          |       |        |  |   |       |       |  |   |   |   |  |  





|    |                                    
|--- | -----------------------------------
|(4) | Loans and Allowance for Loan Losses



|                               |           |             |         |         |  |   |         |         | 
|------------------------------ | --------- | ----------- | ------- | ------- |  | - | ------- | ------- | 
|                               |           | December 31
|                               |           |            
|                               |           | 2005        |         | 2004   
|                               |           |             |         |        
|Commercial loans               |           | $           | 79,341  |         |  | $ | 80,927  |        
|Real estate mortgages          |           |             | 263,538 |         |  |   | 219,522 |        
|Real estate construction loans |           |             | 113,661 |         |  |   | 105,940 |        
|Consumer loans                 |           |             | 173,676 |         |  |   | 173,216 |        
|                               |           |             |         |         |  |   |         |        
|                               | Subtotal  |             |         | 630,216 |  |   |         | 579,605 | 
|Less:                          |           |             |         |         |  |   |         |        
|Allowance for loan losses      |           |             | (8,810) |         |  |   | (7,903) |        
|Deferred loan fees, net        |           |             | 42      |         |  |   | 375     |        
|                               |           |             |         |         |  |   |         |        
|                               | Net loans |             | $       | 621,448 |  |   | $       | 572,077 | 
|                               |           |             |         |         |  |   |         |        

44



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)




|                          |                |             |        |       |  |      |        |       |  |   |        |       | 
|------------------------- | -------------- | ----------- | ------ | ----- |  | ---- | ------ | ----- |  | - | ------ | ----- | 
|                          |                | December 31
|                          |                |            
|                          |                | 2005        |        | 2004  |  | 2003
|                          |                |             |        |       |  |     
|Beginning balance         |                | $           | 7,903  |       |  | $    | 6,116  |       |  | $ | 5,514  |      
|Provision for loan losses |                |             | 2,250  |       |  |      | 3,500  |       |  |   | 3,200  |      
|Recoveries                |                |             | 873    |       |  |      | 628    |       |  |   | 597    |      
|Charge-offs               |                |             | (2,216 | )     |  |      | (2,341 | )     |  |   | (3,195 | )    
|                          |                |             |        |       |  |      |        |       |  |   |        |      
|                          | Ending balance |             | $      | 8,810 |  |      | $      | 7,903 |  |   | $      | 6,116 | 
|                          |                |             |        |       |  |      |        |       |  |   |        |      



|                        |                  |                               |   |       |       |      |   |       |       |  |   |       |       | 
|----------------------- | ---------------- | ----------------------------- | - | ----- | ----- | ---- | - | ----- | ----- |  | - | ----- | ----- | 
|                        |                  | December 31                  
|                        |                  |                              
|                        |                  | 2005                          |   | 2004  |       | 2003
|                        |                  |                               |   |       |       |     
|Impaired loans          |                  |                               |   |       |       |      |   |       |       |  |   |      
|                        | Nonaccrual loans |                               | $ | 2,159 |       |      | $ | 2,812 |       |  | $ | 4,158 |      
|                        | Accrual loans    |                               |   |      |       |      |   | 605   |       |  |   | 2,563 |      
|                        |                  |                               |   |       |       |      |   |       |       |  |   |      
|                        |                  | Total impaired loans          |   | $     | 2,159 |      |   | $     | 3,417 |  |   | $     | 6,721 | 
|                        |                  |                               |   |       |       |      |   |       |       |  |   |      
|Reserve for loan losses |                  |                               |   |       |       |      |   |       |       |  |   |      
|                        | Nonaccrual loans |                               | $ | 239   |       |      | $ | 477   |       |  | $ | 417   |      
|                        | Accrual loans    |                               |   |      |       |      |   | 394   |       |  |   |      |      
|                        |                  |                               |   |       |       |      |   |       |       |  |   |      
|                        |                  | Total reserve for loan losses |   | $     | 239   |      |   | $     | 871   |  |   | $     | 417   | 
|                        |                  |                               |   |       |       |      |   |       |       |  |   |      



|                               |                |             |       |       |  |      |       |       |  |   |       |       | 
|------------------------------ | -------------- | ----------- | ----- | ----- |  | ---- | ----- | ----- |  | - | ----- | ----- | 
|                               |                | December 31
|                               |                |            
|                               |                | 2005        |       | 2004  |  | 2003
|                               |                |             |       |       |  |     
|Average balance impaired loans |                |             |       |       |  |      |       |       |  |   |       |      
|Nonaccrual loans               |                | $           | 2,521 |       |  | $    | 3,902 |       |  | $ | 3,587 |      
|Accrual loans                  |                |             |      |       |  |      | 135   |       |  |   | 639   |      
|                               |                |             |       |       |  |      |       |       |  |   |       |      
|                               | Ending balance |             | $     | 2,521 |  |      | $     | 4,037 |  |   | $     | 4,226 | 
|                               |                |             |       |       |  |      |       |       |  |   |       |      



|                                                 |  |             |     |      |  |      |     |  |  |   |     | 
|------------------------------------------------ |  | ----------- | --- | ---- |  | ---- | --- |  |  | - | --- | 
|                                                 |  | December 31
|                                                 |  |            
|                                                 |  | 2005        |     | 2004 |  | 2003
|                                                 |  |             |     |      |  |     
|Interest income not recognized on impaired loans |  | $           | 185 |      |  | $    | 204 |  |  | $ | 224 | 
|Interest income recognized on impaired loans     |  | $           |    |      |  | $    | 42  |  |  | $ | 227 | 

45



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)


(5) Premises and Equipment




|                               |          |             |        |        |  |   |        |        | 
|------------------------------ | -------- | ----------- | ------ | ------ |  | - | ------ | ------ | 
|                               |          | December 31
|                               |          |            
|                               |          | 2005        |        | 2004  
|                               |          |             |        |       
|Land and buildings             |          | $           | 17,513 |        |  | $ | 16,892 |       
|Furniture and equipment        |          |             | 8,547  |        |  |   | 7,999  |       
|Land improvements              |          |             | 2,101  |        |  |   | 1,998  |       
|Computer software              |          |             | 1,743  |        |  |   | 1,660  |       
|Construction in progress       |          |             | 257    |        |  |   | 486    |       
|                               |          |             |        |        |  |   |        |       
|                               | Subtotal |             |        | 30,161 |  |   |        | 29,035 | 
|Less: accumulated depreciation |          |             | (9,647 | )      |  |   | (8,660 | )     
|                               |          |             |        |        |  |   |        |       
|                               | Total    |             | $      | 20,514 |  |   | $      | 20,375 | 
|                               |          |             |        |        |  |   |        |       

(6) Deposits




|                                         |       |             |         |         |  |   |         |         | 
|---------------------------------------- | ----- | ----------- | ------- | ------- |  | - | ------- | ------- | 
|                                         |       | December 31
|                                         |       |            
|                                         |       | 2005        |         | 2004   
|                                         |       |             |         |        
|CDs                                      |       | $           | 244,910 |         |  | $ | 210,182 |        
|Savings                                  |       |             | 59,635  |         |  |   | 55,742  |        
|Money market                             |       |             | 84,537  |         |  |   | 91,872  |        
|Negotiable orders of withdrawal (NOWs) |       |             | 143,042 |         |  |   | 127,385 |        
|Noninterest-bearing demand               |       |             | 105,365 |         |  |   | 77,820  |        
|                                         |       |             |         |         |  |   |         |        
|                                         | Total |             | $       | 637,489 |  |   | $       | 563,001 | 
|                                         |       |             |         |         |  |   |         |        



|                        |       |                   |        |           |  |           |        |           |  |           |        |              |  |       |       |        |  |   |       |       |  |   |   |   |  |   |         |         | 
|----------------------- | ----- | ----------------- | ------ | --------- |  | --------- | ------ | --------- |  | --------- | ------ | ------------ |  | ----- | ----- | ------ |  | - | ----- | ----- |  | - | - | - |  | - | ------- | ------- | 
|                        |       | December 31, 2005
|                        |       |                  
|                        |       | Less than         |        |          
|                        |       | 1 year            |        | 1-2 years |  | 2-3 years |        | 3-4 years |  | 4-5 years |        | Over 5 years |  | Total
|                        |       |                   |        |           |  |           |        |           |  |           |        |              |  |      
|CDs of $100,000 or more |       | $                 | 81,055 |           |  | $         | 15,213 |           |  | $         | 14,793 |              |  | $     | 4,561 |        |  | $ | 1,171 |       |  | $ |  |   |  | $ | 116,793 |        
|All other CDs           |       |                   | 85,296 |           |  |           | 18,674 |           |  |           | 13,733 |              |  |       | 9,655 |        |  |   | 759   |       |  |   |  |   |  |   | 128,117 |        
|                        |       |                   |        |           |  |           |        |           |  |           |        |              |  |       |       |        |  |   |       |       |  |   |   |   |  |   |         |        
|                        | Total |                   | $      | 166,351   |  |           | $      | 33,887    |  |           | $      | 28,526       |  |       | $     | 14,216 |  |   | $     | 1,930 |  |   | $ |  |  |   | $       | 244,910 | 
|                        |       |                   |        |           |  |           |        |           |  |           |        |              |  |       |       |        |  |   |       |       |  |   |   |   |  |   |         |        

(7) FHLB Advances and Stock






| |   |                                                                                                   
| | - | --------------------------------------------------------------------------------------------------
| |  | 3.5% of the average daily balance of advances outstanding during
    the most recent quarter; plus
|
| |  | the greater of $500 or 0.75% of mortgage loans and pass-through
    securities; or                
|
| |  | 5.0% of the outstanding balance of loans sold to the FHLB minus
    the membership requirement.   



46



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)






|                 |       |                   |  |                   |        |        |  |                  |       |  |  |   |       |  |  |  |       | 
|---------------- | ----- | ----------------- |  | ----------------- | ------ | ------ |  | ---------------- | ----- |  |  | - | ----- |  |  |  | ----- | 
|                 |       | December 31, 2005 |  | December 31, 2004
|                 |       |                   |  |                  
|                 |       |                   |  | Weighted          |        |        |  | Weighted        
|                 |       |                   |  | average interest  |        |        |  | average interest
|Date of maturity |       | Amount            |  | rate              |        | Amount |  | rate            
|                 |       |                   |  |                   |        |        |  |                 
|                 | 2005  |                   |  | $                 |       |        |  |                  |      |  |  | $ | 5,000 |  |  |  | 4.38% | 
|                 | 2006  |                   |  |                   | 10,000 |        |  |                  | 3.76% |  |  |   |      |  |  |  |      | 
|                 |       |                   |  |                   |        |        |  |                  |       |  |  |   |       |  |  |  |       | 
|                 | Total |                   |  | $                 | 10,000 |        |  |                  |       |  |  | $ | 5,000 |  |  |  |       | 
|                 |       |                   |  |                   |        |        |  |                  |       |  |  |   |       |  |  |  |       | 

|                                            |  |             |        |      |  |   |        | 
|------------------------------------------- |  | ----------- | ------ | ---- |  | - | ------ | 
|                                            |  | December 31
|                                            |  |            
|                                            |  | 2005        |        | 2004
|                                            |  |             |        |     
|Average balance                             |  | $           | 5,586  |      |  | $ | 8,839  | 
|Maximum amount outstanding at any month end |  |             | 30,000 |      |  |   | 12,500 | 



(8) Trust Preferred Securities and Junior Subordinated
Debentures


30-year






47



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)


(9) Income Taxes




|                          |                                |             |   |       |       |      |   |       |       |  |    |       |       | 
|------------------------- | ------------------------------ | ----------- | - | ----- | ----- | ---- | - | ----- | ----- |  | -- | ----- | ----- | 
|                          |                                | December 31
|                          |                                |            
|                          |                                | 2005        |   | 2004  |       | 2003
|                          |                                |             |   |       |       |     
|Federal:                  |                                |             |   |       |       |      |   |       |       |  |    |      
|                          | Current tax expense            |             | $ | 3,140 |       |      | $ | 3,615 |       |  | $  | 3,173 |      
|                          | Deferred tax expense (benefit) |             |   | 1,440 |       |      |   | (630) |       |  |    | (409  | )    
|State current tax expense |                                |             |  |       |       |      |  |       |       |  | 34 |      
|                          |                                |             |   |       |       |      |   |       |       |  |    |      
|                          |                                | Total       |   | $     | 4,580 |      |   | $     | 2,985 |  |    | $     | 2,798 | 
|                          |                                |             |   |       |       |      |   |       |       |  |    |      



|                          |                                                                         |                                |   |       |       |  |   |       |       | 
|------------------------- | ----------------------------------------------------------------------- | ------------------------------ | - | ----- | ----- |  | - | ----- | ----- | 
|                          |                                                                         | December 31                   
|                          |                                                                         |                               
|                          |                                                                         | 2005                           |   | 2004 
|                          |                                                                         |                                |   |      
|Deferred tax assets:      |                                                                         |                                |   |       |       |  |   |      
|                          | Loan loss allowances                                                    |                                | $ | 3,022 |       |  | $ | 2,549 |      
|                          | Deferred compensation                                                   |                                |   | 310   |       |  |   | 248   |      
|                          | Deferred loan fees                                                      |                                |   |      |       |  |   | 145   |      
|                          | Other                                                                   |                                |   | 61    |       |  |   | 62    |      
|                          | Market value adjustment of investment securities available for
    sale |                                |   | 25    |       |  |   |      |      
|                          |                                                                         |                                |   |       |       |  |   |      
|                          |                                                                         | Total deferred tax assets      |   |       | 3,418 |  |   |       | 3,004 | 
|Deferred tax liabilities: |                                                                         |                                |   |       |       |  |   |      
|                          | Deferred loan fees                                                      |                                |   | 1,799 |       |  |   |      |      
|                          | Premises and equipment                                                  |                                |   | 505   |       |  |   | 526   |      
|                          | FHLB stock                                                              |                                |   | 149   |       |  |   | 210   |      
|                          | Prepaid expenses                                                        |                                |   | 111   |       |  |   |      |      
|                          | Market value adjustment of investment securities available for
    sale |                                |   |      |       |  |   | 79    |      
|                          |                                                                         |                                |   |       |       |  |   |      
|                          |                                                                         | Total deferred tax liabilities |   |       | 2,564 |  |   |       | 815   | 
|                          |                                                                         |                                |   |       |       |  |   |      
|                          |                                                                         | Deferred tax assets, net       |   | $     | 854   |  |   | $     | 2,189 | 
|                          |                                                                         |                                |   |       |       |  |   |      



|                                             |       |             |       |       |  |      |       |       |  |   |       |       |  |  |     |     |  |   |       |       |  |  |     |     | 
|-------------------------------------------- | ----- | ----------- | ----- | ----- |  | ---- | ----- | ----- |  | - | ----- | ----- |  |  | --- | --- |  | - | ----- | ----- |  |  | --- | --- | 
|                                             |       | December 31
|                                             |       |            
|                                             |       | 2005        |       | 2004  |  | 2003
|                                             |       |             |       |       |  |     
|Income tax expense at federal statutory rate |       | $           | 4,857 |       |  |      | 34.3% |       |  | $ | 3,241 |       |  |  | 34% |     |  | $ | 3,014 |       |  |  | 34% |    
|Interest income on tax-exempt securities     |       |             | (285  | )     |  |      | (1.9% | )     |  |   | (297  | )     |  |  | (3% | )   |  |   | (241  | )     |  |  | (3% | )  
|Other, net                                   |       |             | 8     |       |  |      |      |       |  |   | 41    |       |  |  |    |     |  |   | (9)   |       |  |  |    |    
|State tax, net of federal tax benefit        |       |             |      |       |  |      |      |       |  |   |      |       |  |  |    |     |  |   | 34    |       |  |  |    |    
|                                             |       |             |       |       |  |      |       |       |  |   |       |       |  |  |     |     |  |   |       |       |  |  |     |    
|                                             | Total |             | $     | 4,580 |  |      |       | 32.4% |  |   | $     | 2,985 |  |  |     | 31% |  |   | $     | 2,798 |  |  |     | 31% | 
|                                             |       |             |       |       |  |      |       |       |  |   |       |       |  |  |     |     |  |   |       |       |  |  |     |    



48



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)






|     |                   
|---- | ------------------
|(10) | Earnings Per Share



|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  
|-------------------------------------------- |  | ---------------------------- | ----- | ----------------------- |  | ---------------- | --------- |  |  | - | ----- | -
|                                             |  | Year Ended December 31, 2005
|                                             |  |                             
|                                             |  | Income                       |       | Weighted average shares |  | Per share amount
|                                             |  |                              |       |                         |  |                 
|Basic EPS                                    |  |                              |       |                         |  |                  |           |  |  |   |       |  
|Income available to common shareholders      |  | $                            | 9,468 |                         |  |                  | 7,278,486 |  |  | $ | 1.30  |  
|Effect of dilutive securities: stock options |  |                              |      |                         |  |                  | 263,688   |  |  |   | (0.04 | )
|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  
|Diluted EPS                                  |  | $                            | 9,468 |                         |  |                  | 7,542,174 |  |  | $ | 1.26  |  
|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  

|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  
|-------------------------------------------- |  | ---------------------------- | ----- | ----------------------- |  | ---------------- | --------- |  |  | - | ----- | -
|                                             |  | Year Ended December 31, 2004
|                                             |  |                             
|                                             |  | Income                       |       | Weighted average shares |  | Per share amount
|                                             |  |                              |       |                         |  |                 
|Basic EPS                                    |  |                              |       |                         |  |                  |           |  |  |   |       |  
|Income available to common shareholders      |  | $                            | 6,176 |                         |  |                  | 7,209,349 |  |  | $ | 0.86  |  
|Effect of dilutive securities: stock options |  |                              |      |                         |  |                  | 251,247   |  |  |   | (0.03 | )
|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  
|Diluted EPS                                  |  | $                            | 6,176 |                         |  |                  | 7,460,596 |  |  | $ | 0.83  |  
|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  

|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  
|-------------------------------------------- |  | ---------------------------- | ----- | ----------------------- |  | ---------------- | --------- |  |  | - | ----- | -
|                                             |  | Year Ended December 31, 2003
|                                             |  |                             
|                                             |  | Income                       |       | Weighted average shares |  | Per share amount
|                                             |  |                              |       |                         |  |                 
|Basic EPS                                    |  |                              |       |                         |  |                  |           |  |  |   |       |  
|Income available to common shareholders      |  | $                            | 5,967 |                         |  |                  | 7,121,948 |  |  | $ | 0.84  |  
|Effect of dilutive securities: stock options |  |                              |      |                         |  |                  | 276,293   |  |  |   | (0.03 | )
|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  
|Diluted EPS                                  |  | $                            | 5,967 |                         |  |                  | 7,398,241 |  |  | $ | 0.81  |  
|                                             |  |                              |       |                         |  |                  |           |  |  |   |       |  



(11) Employee Benefit Plans








49



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)








| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Purpose: The purpose of the Comp Plan is to
    (1) provide a deferred compensation arrangement for a
    select group of management or highly compensated employees
    within the meaning of Sections 201(2) and 301(a)(3) of
    ERISA and directors of the Bank, and (2) attract and retain
    the best available personnel for positions of responsibility
    with the Bank and its subsidiaries. The Comp Plan is intended to
    be an unfunded deferred compensation agreement. Participation in
    the Comp Plan is voluntary.                                                 
|
| | Source of Benefits: Benefits under the Comp Plan are
    payable solely by the Bank. To enable the Bank to meet its
    financial commitment under the Comp Plan, assets may be set
    aside in a corporate-owned vehicle. These assets are available
    to all general creditors of the Bank in the event of the
    Banks insolvency. Participants of the Comp Plan are
    unsecured general creditors of the Bank with respect to the Comp
    Plan benefits. Deferrals under the Comp Plan may reduce
    compensation used to calculate benefits under the Banks
    401(k) Plan.





(12) Stock Incentive Plans










50



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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)




|                                |  |                         |         |                 |  |        |      |                 |  |        |         |                 |  |   |      |  |  |  |          |   |  |   |      | 
|------------------------------- |  | ----------------------- | ------- | --------------- |  | ------ | ---- | --------------- |  | ------ | ------- | --------------- |  | - | ---- |  |  |  | -------- | - |  | - | ---- | 
|                                |  | Years Ended December 31
|                                |  |                        
|                                |  | 2005                    |         | 2004            |  | 2003  
|                                |  |                         |         |                 |  |       
|                                |  |                         |         | Weighted        |  |        |      | Weighted        |  |        |         | Weighted       
|                                |  |                         |         | average option  |  |        |      | average option  |  |        |         | average option 
|                                |  | Shares                  |         | price per share |  | Shares |      | price per share |  | Shares |         | price per share
|                                |  |                         |         |                 |  |        |      |                 |  |        |         |                
|Balance at beginning of year    |  |                         | 343,908 |                 |  | $      | 5.16 |                 |  |        | 427,715 |                 |  | $ | 4.67 |  |  |  | 503,361  |   |  | $ | 3.66 | 
|Grants                          |  |                         |        |                 |  |        |     |                 |  |        |        |                 |  |   |     |  |  |  | 48,214   |   |  |   | 7.74 | 
|Exercised                       |  |                         | (81,982 | )               |  |        | 2.93 |                 |  |        | (76,530 | )               |  |   | 2.28 |  |  |  | (123,860 | ) |  |   | 1.79 | 
|Expired, cancelled or forfeited |  |                         | (4,630  | )               |  |        | 6.60 |                 |  |        | (7,277  | )               |  |   | 6.29 |  |  |  |         |   |  |   |     | 
|                                |  |                         |         |                 |  |        |      |                 |  |        |         |                 |  |   |      |  |  |  |          |   |  |   |      | 
|Balance at end of year          |  |                         | 257,296 |                 |  | $      | 5.85 |                 |  |        | 343,908 |                 |  | $ | 5.16 |  |  |  | 427,715  |   |  | $ | 4.67 | 
|                                |  |                         |         |                 |  |        |      |                 |  |        |         |                 |  |   |      |  |  |  |          |   |  |   |      | 



|                  |         |                |  |           |         |            |  |  |       |  |  |                  
|----------------- | ------- | -------------- |  | --------- | ------- | ---------- |  |  | ----- |  |  | -----------------
|December 31, 2005
|                 
|                  |         | Exercise price |  |          
|Total shares      |         | Vested shares  |  | per share |         | Expiration
|                  |         |                |  |           |         |           
|                  | 6,325   |                |  |           | 6,325   |            |  |  | $2.51 |  |  | April 1, 2006    
|                  | 37,950  |                |  |           | 37,950  |            |  |  | 3.18  |  |  | December 31, 2006
|                  | 59,718  |                |  |           | 59,718  |            |  |  | 5.49  |  |  | December 31, 2007
|                  | 58,190  |                |  |           | 58,190  |            |  |  | 7.11  |  |  | December 31, 2008
|                  | 52,368  |                |  |           | 31,420  |            |  |  | 5.63  |  |  | January 1, 2012  
|                  | 2,310   |                |  |           | 1,386   |            |  |  | 7.69  |  |  | February 29, 2012
|                  | 35,478  |                |  |           | 14,191  |            |  |  | 7.69  |  |  | January 2, 2013  
|                  | 4,957   |                |  |           | 1,983   |            |  |  | 8.18  |  |  | February 19, 2013
|                  |         |                |  |           |         |            |  |  |       |  |  |                  
|                  | 257,296 |                |  |           | 211,163 |            |  |  |       |  |  |                  
|                  |         |                |  |           |         |            |  |  |       |  |  |                  



|                                |  |                         |         |                 |  |        |      |                 |  |        |         |                 |  |   |      |  |  |  |         |   |  |   |      | 
|------------------------------- |  | ----------------------- | ------- | --------------- |  | ------ | ---- | --------------- |  | ------ | ------- | --------------- |  | - | ---- |  |  |  | ------- | - |  | - | ---- | 
|                                |  | Years Ended December 31
|                                |  |                        
|                                |  | 2005                    |         | 2004            |  | 2003  
|                                |  |                         |         |                 |  |       
|                                |  |                         |         | Weighted        |  |        |      | Weighted        |  |        |         | Weighted       
|                                |  |                         |         | average option  |  |        |      | average option  |  |        |         | average option 
|                                |  | Shares                  |         | price per share |  | Shares |      | price per share |  | Shares |         | price per share
|                                |  |                         |         |                 |  |        |      |                 |  |        |         |                
|Balance at beginning of year    |  |                         | 108,607 |                 |  | $      | 5.79 |                 |  |        | 127,581 |                 |  | $ | 5.20 |  |  |  | 162,426 |   |  | $ | 3.59 | 
|Grants                          |  |                         |        |                 |  |        |     |                 |  |        |        |                 |  |   |     |  |  |  | 22,080  |   |  |   | 8.18 | 
|Exercised                       |  |                         | (26,404 | )               |  |        | 4.44 |                 |  |        | (18,975 | )               |  |   | 1.82 |  |  |  | (56,925 | ) |  |   | 1.78 | 
|Expired, cancelled or forfeited |  |                         | (3,006  | )               |  |        | 7.04 |                 |  |        |        |                 |  |   |     |  |  |  |        |   |  |   |     | 
|                                |  |                         |         |                 |  |        |      |                 |  |        |         |                 |  |   |      |  |  |  |         |   |  |   |      | 
|Balance at end of year          |  |                         | 79,197  |                 |  | $      | 6.19 |                 |  |        | 108,607 |                 |  | $ | 5.79 |  |  |  | 127,581 |   |  | $ | 5.20 | 
|                                |  |                         |         |                 |  |        |      |                 |  |        |         |                 |  |   |      |  |  |  |         |   |  |   |      | 



|                  |        |                |  |           |        |            |  |  |         |  |  |                  
|----------------- | ------ | -------------- |  | --------- | ------ | ---------- |  |  | ------- |  |  | -----------------
|December 31, 2005
|                 
|                  |        | Exercise price |  |          
|Total shares      |        | Vested shares  |  | per share |        | Expiration
|                  |        |                |  |           |        |           
|                  | 32,890 |                |  |           | 32,890 |            |  |  | $  5.48 |  |  | December 31, 2007
|                  | 26,987 |                |  |           | 16,192 |            |  |  | 5.63    |  |  | May 16, 2012     
|                  | 19,320 |                |  |           | 7,728  |            |  |  | 8.18    |  |  | February 19, 2013
|                  |        |                |  |           |        |            |  |  |         |  |  |                  
|                  | 79,197 |                |  |           | 56,810 |            |  |  |         |  |  |                  
|                  |        |                |  |           |        |            |  |  |         |  |  |                  

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)


Accounting for
Stock-Based Compensation,








|     |                           
|---- | --------------------------
|(13) | Regulatory Capital Matters









|                                                       |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |        | 
|------------------------------------------------------ | ------------------- | ------ | - | ----------------- |  | ----------------------- |  | ---------------------- |  | ------- | - | ------ |  |  |  | ----- |  |  | - | ------ |  |  |  | ------ | 
|                                                       |                     |        |   |                   |  |                         |  | To be well-capitalized
|                                                       |                     |        |   | For capital       |  | under prompt corrective
|                                                       |                     | Actual |   | adequacy purposes |  | action provisions      
|                                                       |                     |        |   |                   |  |                        
|                                                       |                     |        |   |                   |  | Minimum                 |  |                        |  | Minimum
|                                                       |                     | Amount |   | Ratio             |  | Amount                  |  | ratio                  |  | Amount  |   | ratio 
|                                                       |                     |        |   |                   |  |                        
|December 31, 2005:                                     |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |       
|Total risk-based capital
    (to risk-weighted assets) |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |       
|                                                       | Consolidated        |        | $ | 81,689            |  |                         |  | 11.52%                 |  |         | $ | 56,722 |  |  |  | 8.00% |  |  | $ | N/A    |  |  |  |        | 
|                                                       | Whidbey Island Bank |        |   | 79,277            |  |                         |  | 11.21%                 |  |         |   | 56,591 |  |  |  | 8.00% |  |  |   | 70,739 |  |  |  | 10.00% | 
|Tier 1 capital (to risk-weighted assets)               |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |       
|                                                       | Consolidated        |        |   | 72,879            |  |                         |  | 10.28%                 |  |         |   | 28,361 |  |  |  | 4.00% |  |  |   | N/A    |  |  |  |        | 
|                                                       | Whidbey Island Bank |        |   | 70,467            |  |                         |  | 9.96%                  |  |         |   | 28,296 |  |  |  | 4.00% |  |  |   | 42,444 |  |  |  | 6.00%  | 
|Tier 1 capital (to average assets)                     |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |       
|                                                       | Consolidated        |        |   | 72,879            |  |                         |  | 10.26%                 |  |         |   | 28,423 |  |  |  | 4.00% |  |  |   | N/A    |  |  |  |        | 
|                                                       | Whidbey Island Bank |        |   | 70,467            |  |                         |  | 9.93%                  |  |         |   | 28,375 |  |  |  | 4.00% |  |  |   | 35,469 |  |  |  | 5.00%  | 

52



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)


|                                                       |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |        | 
|------------------------------------------------------ | ------------------- | ------ | - | ----------------- |  | ----------------------- |  | ---------------------- |  | ------- | - | ------ |  |  |  | ----- |  |  | - | ------ |  |  |  | ------ | 
|                                                       |                     |        |   |                   |  |                         |  | To be well-capitalized
|                                                       |                     |        |   | For capital       |  | under prompt corrective
|                                                       |                     | Actual |   | adequacy purposes |  | action provisions      
|                                                       |                     |        |   |                   |  |                        
|                                                       |                     |        |   |                   |  | Minimum                 |  |                        |  | Minimum
|                                                       |                     | Amount |   | Ratio             |  | Amount                  |  | ratio                  |  | Amount  |   | ratio 
|                                                       |                     |        |   |                   |  |                        
|December 31, 2004:                                     |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |       
|Total risk-based capital
    (to risk-weighted assets) |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |       
|                                                       | Consolidated        |        | $ | 72,346            |  |                         |  | 11.40%                 |  |         | $ | 50,771 |  |  |  | 8.00% |  |  | $ | N/A    |  |  |  |        | 
|                                                       | Whidbey Island Bank |        |   | 69,913            |  |                         |  | 11.03%                 |  |         |   | 50,694 |  |  |  | 8.00% |  |  |   | 63,368 |  |  |  | 10.00% | 
|Tier 1 capital (to risk-weighted assets)               |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |       
|                                                       | Consolidated        |        |   | 64,443            |  |                         |  | 10.15%                 |  |         |   | 25,386 |  |  |  | 4.00% |  |  |   | N/A    |  |  |  |        | 
|                                                       | Whidbey Island Bank |        |   | 62,010            |  |                         |  | 9.79%                  |  |         |   | 25,347 |  |  |  | 4.00% |  |  |   | 38,021 |  |  |  | 6.00%  | 
|Tier 1 capital (to average assets)                     |                     |        |   |                   |  |                         |  |                        |  |         |   |        |  |  |  |       |  |  |   |        |  |  |  |       
|                                                       | Consolidated        |        |   | 64,443            |  |                         |  | 9.87%                  |  |         |   | 26,119 |  |  |  | 4.00% |  |  |   | N/A    |  |  |  |        | 
|                                                       | Whidbey Island Bank |        |   | 62,010            |  |                         |  | 9.51%                  |  |         |   | 26,079 |  |  |  | 4.00% |  |  |   | 32,599 |  |  |  | 5.00%  | 





|     |                                    
|---- | -----------------------------------
|(14) | Fair Value of Financial Instruments













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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)






























54



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)




|                       |                                |                    |   |         |        |          |   |         |        |  |   |         |        |  |   |         |        | 
|---------------------- | ------------------------------ | ------------------ | - | ------- | ------ | -------- | - | ------- | ------ |  | - | ------- | ------ |  | - | ------- | ------ | 
|                       |                                | December 31       
|                       |                                |                   
|                       |                                | 2005               |   | 2004   
|                       |                                |                    |   |        
|                       |                                | Carrying           |   | Fair    |        | Carrying |   | Fair   
|                       |                                | value              |   | value   |        | value    |   | value  
|                       |                                |                    |   |         |        |          |   |        
|Financial assets:      |                                |                    |   |         |        |          |   |         |        |  |   |         |        |  |   |        
|                       | Cash and cash equivalents      |                    | $ | 19,949  |        |          | $ | 19,949  |        |  | $ | 16,814  |        |  | $ | 16,814  |       
|                       | Interest-earning deposits      |                    |   | 983     |        |          |   | 983     |        |  |   | 1,119   |        |  |   | 1,119   |       
|                       | Federal funds sold             |                    |   | 21,095  |        |          |   | 21,095  |        |  |   |        |        |  |   |        |       
|                       | FHLB stock                     |                    |   | 1,984   |        |          |   | 1,984   |        |  |   | 1,976   |        |  |   | 1,976   |       
|                       | Investment securities:         |                    |   |         |        |          |   |         |        |  |   |         |        |  |   |         |       
|                       |                                | Available for sale |   |         | 19,077 |          |   |         | 19,077 |  |   |         | 19,304 |  |   |         | 19,304 | 
|                       | Loans held for sale            |                    |   | 2,829   |        |          |   | 2,829   |        |  |   | 8,311   |        |  |   | 8,311   |       
|                       | Loans                          |                    |   | 630,258 |        |          |   | 623,698 |        |  |   | 579,980 |        |  |   | 578,048 |       
|Financial liabilities: |                                |                    |   |         |        |          |   |         |        |  |   |         |        |  |   |        
|                       | Deposits                       |                    |   | 637,489 |        |          |   | 636,676 |        |  |   | 563,001 |        |  |   | 562,507 |       
|                       | FHLB overnight borrowings      |                    |   |        |        |          |   |        |        |  |   | 22,000  |        |  |   | 22,000  |       
|                       | Junior subordinated debentures |                    |   | 15,007  |        |          |   | 15,007  |        |  |   | 15,007  |        |  |   | 15,007  |       
|                       | Other borrowed funds           |                    |   | 10,000  |        |          |   | 10,000  |        |  |   | 5,000   |        |  |   | 5,000   |       

(15) Washington Banking Company Information




|                         |                                             |                                            |   |        |        |  |   |        |        | 
|------------------------ | ------------------------------------------- | ------------------------------------------ | - | ------ | ------ |  | - | ------ | ------ | 
|                         |                                             | December 31                               
|                         |                                             |                                           
|                         |                                             | 2005                                       |   | 2004  
|Condensed Balance Sheets |                                             |                                            |   |       
|Assets:                  |                                             |                                            |   |        |        |  |   |       
|                         | Cash and cash equivalents                   |                                            | $ | 895    |        |  | $ | 1,343  |       
|                         | Other assets                                |                                            |   | 1,277  |        |  |   | 477    |       
|                         | Investment in subsidiaries                  |                                            |   | 70,684 |        |  |   | 62,778 |       
|                         |                                             |                                            |   |        |        |  |   |       
|                         |                                             | Total assets                               |   | $      | 72,856 |  |   | $      | 64,598 | 
|                         |                                             |                                            |   |        |        |  |   |       
|                        
|Liabilities:             |                                             |                                            |   |        |        |  |   |       
|                         | Junior subordinated debentures              |                                            | $ | 15,007 |        |  | $ | 15,007 |       
|Shareholders equity:    |                                             |                                            |   |        |        |  |   |       
|                         | Common stock                                |                                            |   | 32,106 |        |  |   | 31,516 |       
|                         | Retained earnings                           |                                            |   | 25,789 |        |  |   | 17,928 |       
|                         | Accumulated other comprehensive income, net |                                            |   | (46    | )      |  |   | 147    |       
|                         |                                             |                                            |   |        |        |  |   |       
|                         |                                             | Total shareholders equity                 |   |        | 57,849 |  |   |        | 49,591 | 
|                         |                                             |                                            |   |        |        |  |   |       
|                         |                                             | Total liabilities and shareholders equity |   | $      | 72,856 |  |   | $      | 64,598 | 
|                         |                                             |                                            |   |        |        |  |   |       

55



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)


|                                                                              |                                |                            |        |       |        |      |        |     |       |   |        |     |       |  
|----------------------------------------------------------------------------- | ------------------------------ | -------------------------- | ------ | ----- | ------ | ---- | ------ | --- | ----- | - | ------ | --- | ----- | -
|                                                                              |                                | Years Ended December 31   
|                                                                              |                                |                           
|                                                                              |                                | 2005                       |        | 2004  |        | 2003
|Condensed Statements of Income                                                |                                |                            |        |       |        |     
|Interest income:                                                              |                                |                            |        |       |        |      |        |     |       |   |        |    
|                                                                              | Interest-earning deposits      |                            | $      | 18    |        |      | $      | 5   |       |   | $      | 1   |      
|                                                                              | Common securities              |                            |        | 33    |        |      |        | 24  |       |   |        | 23  |      
|                                                                              |                                |                            |        |       |        |      |        |     |       |   |        |    
|                                                                              |                                | Total interest income      |        |       | 51     |      |        |     | 29    |   |        |     | 24    |  
|Interest expense:                                                             |                                |                            |        |       |        |      |        |     |       |   |        |    
|                                                                              | Junior subordinated debentures |                            |        | 1,071 |        |      |        | 782 |       |   |        | 742 |      
|                                                                              |                                |                            |        |       |        |      |        |     |       |   |        |    
|                                                                              |                                | Net interest income (loss) |        |       | (1,020 | )    |        |     | (753  | ) |        |     | (718  | )
|                                                                              | Noninterest expense            |                            |        | 600   |        |      |        | 503 |       |   |        | 591 |      
|                                                                              |                                |                            |        |       |        |      |        |     |       |   |        |    
|Loss before income tax benefit and undistributed earnings of
    subsidiaries |                                |                            | (1,620 | )     |        |      | (1,256 | )   |       |   | (1,309 | )  
|Income tax benefit                                                            |                                |                            | 556    |       |        |      | 479    |     |       |   | 445    |    
|                                                                              |                                |                            |        |       |        |      |        |     |       |   |        |    
|Loss before undistributed earnings of subsidiaries                            |                                |                            | (1,064 | )     |        |      | (777   | )   |       |   | (864   | )  
|Undistributed earnings of subsidiaries                                        |                                |                            | 8,182  |       |        |      | 4,173  |     |       |   | 3,880  |    
|Dividend income from the Bank                                                 |                                |                            | 2,350  |       |        |      | 3,150  |     |       |   | 3,007  |    
|Loss from discontinued operations                                             |                                |                            |       |       |        |      | (370   | )   |       |   | (56    | )  
|                                                                              |                                |                            |        |       |        |      |        |     |       |   |        |    
|                                                                              |                                | Net income                 |        | $     | 9,468  |      |        | $   | 6,176 |   |        | $   | 5,967 |  
|                                                                              |                                |                            |        |       |        |      |        |     |       |   |        |    

|                                               |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |        |       |  
|---------------------------------------------- | --------------------------------------------------------------------------------- | ---------------------------------------------------- | ----- | ------ | ------ | ---- | ----- | ------ | ------ | - | --- | ------ | ----- | -
|                                               |                                                                                   | Years Ended December 31                             
|                                               |                                                                                   |                                                     
|                                               |                                                                                   | 2005                                                 |       | 2004   |        | 2003
|Condensed Statements of Cash Flows             |                                                                                   |                                                      |       |        |        |     
|Operating activities:                          |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |       
|                                               | Net income from continuing operations                                             |                                                      | $     | 9,468  |        |      | $     | 6,546  |        |   | $   | 6,023  |      
|                                               | Adjustments to reconcile net income to net cash used in
    operating activities: |                                                      |       |        |        |      |       |        |        |   |     |        |      
|                                               | Equity in undistributed earnings of subsidiaries                                  |                                                      |       | (8,182 | )      |      |       | (4,173 | )      |   |     | (3,880 | )    
|                                               | Stock option compensation                                                         |                                                      |       | 24     |        |      |       | 23     |        |   |     | 23     |      
|                                               | Other assets                                                                      |                                                      |       | (801   | )      |      |       | 375    |        |   |     | (451   | )    
|                                               |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |       
|                                               |                                                                                   | Cash flows provided by operating activities          |       |        | 509    |      |       |        | 2,771  |   |     |        | 1,715 |  
|                                               |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |       
|Investing activities:                          |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |       
|                                               | Investment in subsidiaries                                                        |                                                      |       | (293   | )      |      |       | (247   | )      |   |     | (773   | )    
|Financing activities:                          |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |       
|                                               | Dividends paid to shareholders                                                    |                                                      |       | (1,607 | )      |      |       | (1,521 | )      |   |     | (1,303 | )    
|                                               | Proceeds from exercise of stock options and stock issuances                       |                                                      |       | 357    |        |      |       | 208    |        |   |     | 323    |      
|                                               |                                                                                   | Cash flows provided by financing activities          |       |        | (1,250 | )    |       |        | (1,313 | ) |     |        | (980  | )
|                                               |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |       
|                                               |                                                                                   | Net increase (decrease) in cash and cash equivalents |       |        | (488   | )    |       |        | 1,211  |   |     |        | (38   | )
|Cash and cash equivalents at beginning of year |                                                                                   |                                                      | 1,343 |        |        |      | 132   |        |        |   | 170 |       
|                                               |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |       
|Cash and cash equivalents at end of year       |                                                                                   | $                                                    | 895   |        |        | $    | 1,343 |        |        | $ | 132 |       
|                                               |                                                                                   |                                                      |       |        |        |      |       |        |        |   |     |       

(16) Commitments




|    |                      
|--- | ---------------------
|(a) | Leasing Arrangements:



56



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)




|           |  |                   |       | 
|---------- |  | ----------------- | ----- | 
|           |  | December 31, 2005
|           |  |                  
|2006       |  | $                 | 364   | 
|2007       |  |                   | 319   | 
|2008       |  |                   | 238   | 
|2009       |  |                   | 176   | 
|2010       |  |                   | 92    | 
|Thereafter |  |                   | 712   | 
|           |  |                   |       | 
|Total      |  | $                 | 1,901 | 
|           |  |                   |       | 













|                          |               |                   |       |         | 
|------------------------- | ------------- | ----------------- | ----- | ------- | 
|                          |               | December 31, 2005
|                          |               |                  
|Loan commitments          |               |                   |       |        
|                          | Fixed rate    |                   | $     | 38,554  | 
|                          | Variable rate |                   |       | 140,477 | 
|Standby letters of credit |               |                   | 1,573 |        



|     |                                                  
|---- | -------------------------------------------------
|(17) | Mortgage Loan Commitments and Loans Held for Sale



57



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)


held-for-sale.




|                                                      |  |          |       |       |  |   |     |  
|----------------------------------------------------- |  | -------- | ----- | ----- |  | - | --- | -
|                                                      |  | 2003    
|                                                      |  |         
|                                                      |  | Notional |       | Fair 
|                                                      |  | amount   |       | value
|(Dollars in thousands)                                |  |          |       |      
|Interest-rate-locked loan commitments                 |  | $        | 6,744 |       |  | $ | 2   |  
|Forward sales of loans and mortgage-backed securities |  |          | 6,000 |       |  |   | (46 | )



|     |                           
|---- | --------------------------
|(18) | Related Party Transactions







|     |              
|---- | -------------
|(19) | Contingencies





|     |                  
|---- | -----------------
|(20) | Subsequent Events



58



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)




|     |                                              
|---- | ---------------------------------------------
|(21) | Selected Quarterly Financial Data (Unaudited)



|                                  |                                                     |                              |        |         |  |         |        |         |  |   |        |       |  |   |        |       | 
|--------------------------------- | --------------------------------------------------- | ---------------------------- | ------ | ------- |  | ------- | ------ | ------- |  | - | ------ | ----- |  | - | ------ | ----- | 
|                                  |                                                     | Year Ended December 31, 2005
|                                  |                                                     |                             
|                                  |                                                     | First                        |        | Second  |  | Third   |        | Fourth 
|                                  |                                                     | quarter(1)                   |        | quarter |  | quarter |        | quarter
|                                  |                                                     |                              |        |         |  |         |        |        
|Interest income                   |                                                     | $                            | 10,293 |         |  | $       | 11,137 |         |  | $ | 11,788 |       |  | $ | 12,572 |      
|Interest expense                  |                                                     |                              | 2,513  |         |  |         | 2,796  |         |  |   | 2,975  |       |  |   | 3,282  |      
|                                  |                                                     |                              |        |         |  |         |        |         |  |   |        |       |  |   |        |      
|                                  | Net interest income                                 |                              |        | 7,780   |  |         |        | 8,341   |  |   |        | 8,813 |  |   |        | 9,290 | 
|Provision for loan losses         |                                                     |                              | 425    |         |  |         | 525    |         |  |   | 550    |       |  |   | 750    |      
|                                  |                                                     |                              |        |         |  |         |        |         |  |   |        |       |  |   |        |      
|                                  | Net interest income after provision for loan losses |                              |        | 7,355   |  |         |        | 7,816   |  |   |        | 8,263 |  |   |        | 8,540 | 
|Noninterest income                |                                                     |                              | 1,651  |         |  |         | 1,892  |         |  |   | 1,991  |       |  |   | 1,765  |      
|Noninterest expense               |                                                     |                              | 5,987  |         |  |         | 6,159  |         |  |   | 6,336  |       |  |   | 6,743  |      
|                                  |                                                     |                              |        |         |  |         |        |         |  |   |        |       |  |   |        |      
|                                  | Income before provision for income taxes            |                              |        | 3,019   |  |         |        | 3,549   |  |   |        | 3,918 |  |   |        | 3,562 | 
|                                  |                                                     |                              |        |         |  |         |        |         |  |   |        |       |  |   |        |      
|Provision for income taxes        |                                                     |                              | 976    |         |  |         | 1,200  |         |  |   | 1,239  |       |  |   | 1,165  |      
|                                  |                                                     |                              |        |         |  |         |        |         |  |   |        |       |  |   |        |      
|                                  | Net income                                          |                              | $      | 2,043   |  |         | $      | 2,349   |  |   | $      | 2,679 |  |   | $      | 2,397 | 
|                                  |                                                     |                              |        |         |  |         |        |         |  |   |        |       |  |   |        |      
|Basic earnings per share          |                                                     | $                            | 0.28   |         |  | $       | 0.32   |         |  | $ | 0.37   |       |  | $ | 0.33   |      
|Diluted earnings per share        |                                                     | $                            | 0.27   |         |  | $       | 0.31   |         |  | $ | 0.35   |       |  | $ | 0.32   |      
|Cash dividends declared per share |                                                     | $                            | 0.054  |         |  | $       | 0.055  |         |  | $ | 0.055  |       |  | $ | 0.055  |      

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


(Dollars in thousands, except per share data)


|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |      |       | 
|--------------------------------- | ----------------------- | ------------------------------------------------------ | ----- | ------- | ----- | ------- | ----- | ------- | ----- | - | ----- | ---- | ----- | - | ------ | ---- | ----- | 
|                                  |                         | Year Ended December 31, 2004(1)                       
|                                  |                         |                                                       
|                                  |                         | First                                                  |       | Second  |       | Third   |       | Fourth 
|                                  |                         | quarter                                                |       | quarter |       | quarter |       | quarter
|                                  |                         |                                                        |       |         |       |         |       |        
|Interest income                   |                         | $                                                      | 9,085 |         |       | $       | 9,361 |         |       | $ | 9,861 |      |       | $ | 10,157 |     
|Interest expense                  |                         |                                                        | 2,094 |         |       |         | 2,166 |         |       |   | 2,248 |      |       |   | 2,329  |     
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|                                  |                         | Net interest income                                    |       |         | 6,991 |         |       |         | 7,195 |   |       |      | 7,613 |   |        |      | 7,828 | 
|Provision for loan losses         |                         |                                                        | 825   |         |       |         | 775   |         |       |   | 725   |      |       |   | 1,175  |     
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|                                  |                         | Net interest income after provision for loan losses    |       |         | 6,166 |         |       |         | 6,420 |   |       |      | 6,888 |   |        |      | 6,653 | 
|Noninterest income                |                         |                                                        | 1,377 |         |       |         | 1,720 |         |       |   | 1,672 |      |       |   | 1,902  |     
|Noninterest expense               |                         |                                                        | 5,705 |         |       |         | 5,906 |         |       |   | 5,789 |      |       |   | 5,867  |     
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|                                  |                         | Income before provision for income taxes               |       |         | 1,838 |         |       |         | 2,234 |   |       |      | 2,771 |   |        |      | 2,688 | 
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|Provision for income taxes        |                         |                                                        | 620   |         |       |         | 742   |         |       |   | 915   |      |       |   | 708    |     
|                                  |                         | Income from continuing operations, net of tax          |       |         | 1,218 |         |       |         | 1,492 |   |       |      | 1,856 |   |        |      | 1,980 | 
|                                  |                         | Income (loss) from discontinued operations, net of tax |       |         | (123  | )       |       |         | (247  | ) |       |      |      |   |        |      |      | 
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|                                  |                         | Net income                                             |       | $       | 1,095 |         |       | $       | 1,245 |   |       | $    | 1,856 |   |        | $    | 1,980 | 
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|Basic earnings per share          |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|                                  | Continuing operations   |                                                        | $     | 0.15    |       |         | $     | 0.17    |       |   | $     | 0.26 |       |   | $      | 0.27 |      
|                                  | Discontinued operations |                                                        |       | (0.02   | )     |         |       | (0.05   | )     |   |       |     |       |   |        |     |      
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|Net basic earnings per share      |                         | $                                                      | 0.13  |         |       | $       | 0.12  |         |       | $ | 0.26  |      |       | $ | 0.27   |     
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|Diluted earnings per share        |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|                                  | Continuing operations   |                                                        | $     | 0.15    |       |         | $     | 0.17    |       |   | $     | 0.25 |       |   | $      | 0.26 |      
|                                  | Discontinued operations |                                                        |       | (0.02   | )     |         |       | (0.04   | )     |   |       |     |       |   |        |     |      
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|Net diluted earnings per share    |                         | $                                                      | 0.13  |         |       | $       | 0.13  |         |       | $ | 0.25  |      |       | $ | 0.26   |     
|                                  |                         |                                                        |       |         |       |         |       |         |       |   |       |      |       |   |        |     
|Cash dividends declared per share |                         | $                                                      | 0.04  | 7       |       | $       | 0.05  | 4       |       | $ | 0.05  | 4    |       | $ | 0.05   | 4   



|    |                                                                                                             
|--- | ------------------------------------------------------------------------------------------------------------
|(1) | Per share information adjusted to reflect a 4-for-3 stock split
    distributed by the Company May 17, 2005.

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##### Table of Contents








|        |                                                                                         
|------- | ----------------------------------------------------------------------------------------
|Item 9. | Changes in and Disagreements with Accountants on Accounting
    and Financial Disclosure








|         |                        
|-------- | -----------------------
|Item 9A. | Controls and Procedures



Managements Report on Internal Control Over Financial
Reporting


Financial Statements and
Supplementary Data,





Item 9B. Other Information







PART III







|         |                                                   
|-------- | --------------------------------------------------
|Item 10. | Directors and Executive Officers of the Registrant












|         |                       
|-------- | ----------------------
|Item 11. | Executive Compensation



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##### Table of Contents








|         |                                                                                                   
|-------- | --------------------------------------------------------------------------------------------------
|Item 12. | Security Ownership of Certain Beneficial Owners and
    Management and Related Stockholder Matters








|         |                                               
|-------- | ----------------------------------------------
|Item 13. | Certain Relationships and Related Transactions








|         |                                       
|-------- | --------------------------------------
|Item 14. | Principal Accounting Fees and Services






PART IV







|         |                                        
|-------- | ---------------------------------------
|Item 15. | Exhibits, Financial Statement Schedules

(a) (1) Financial Statements:


(2) Financial Statement Schedules:


(3) Exhibits:


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##### Table of Contents



SIGNATURES






| |                           
| | --------------------------
| | WASHINGTON BANKING COMPANY
| | (Registrant)              



| |    |                   
| | -- | ------------------
| | By | /s/ Michal D. Cann

| |                        
| | -----------------------
| |                        
| | Michal D. Cann         
| | President and          
| | Chief Executive Officer





| |                             
| | ----------------------------
| | Principal Executive Officer:



| |    |                   
| | -- | ------------------
| | By | /s/ Michal D. Cann

| |                        
| | -----------------------
| |                        
| | Michal D. Cann         
| | President and          
| | Chief Executive Officer
|
| | Principal Financial and
| | Accounting Officer:    



| |    |                       
| | -- | ----------------------
| | By | /s/ Richard A. Shields

| |                          
| | -------------------------
| |                          
| | Richard A. Shields       
| | Senior Vice President and
| | Chief Financial Officer  

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##### Table of Contents



10-K, attorney-in














| |                      
| | ---------------------
| | By /s/ Michal D. Cann
| |                      
| | Michal D. Cann       
| | Attorney-in-fact     
| | March 13, 2006       

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##### Table of Contents





| |                  
| | -----------------
| | INDEX TO EXHIBITS

|            |      |                     |  |                                                                                                                                                                                                                                                                                             
|----------- | ---- | ------------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No. |      | Exhibit Description
|            | 3.1  |                     |  | Articles of Amendment to Articles of Incorporation of the
    Company(1)                                                                                                                                                                                                                    
|            | 3.2  |                     |  | Amended and Restated Articles of Incorporation of the Company(1)                                                                                                                                                                                                                            
|           
|            | 3.3  |                     |  | Articles of Amendment to the Amended and Restated Articles of
    Incorporation of the Company(6)                                                                                                                                                                                           
|           
|            | 3.4  |                     |  | Bylaws of the Company(1)                                                                                                                                                                                                                                                                    
|           
|            | 4.1  |                     |  | Form of Common Stock Certificate(1)                                                                                                                                                                                                                                                         
|           
|            | 4.2  |                     |  | Stock Repurchase Plan(3)                                                                                                                                                                                                                                                                    
|           
|            | 4.3  |                     |  | Pursuant to Section 601(b)(4)(iii)(A) of
    Regulation S-K, copies of instruments defining the rights
    of holders of long-term debt and preferred securities are not
    filed. The Company agrees to furnish a copy thereof to the
    Securities and Exchange Commission upon request.
|           
|            | 10.1 |                     |  | 1992 Employee Stock Option Plan(1)                                                                                                                                                                                                                                                          
|           
|            | 10.2 |                     |  | 1993 Director Stock Option Plan(1)                                                                                                                                                                                                                                                          
|           
|            | 10.3 |                     |  | 1998 Stock Option and Restricted Stock Award Plan(2)                                                                                                                                                                                                                                        
|           
|            | 10.4 |                     |  | Form of Severance Agreement(1)                                                                                                                                                                                                                                                              
|           
|            | 10.5 |                     |  | Executive Employment Agreements(4)                                                                                                                                                                                                                                                          
|           
|            | 10.6 |                     |  | 2005 Stock Incentive Plan(5)                                                                                                                                                                                                                                                                
|           
|            | 21   |                     |  | Subsidiaries of the Registrant                                                                                                                                                                                                                                                              
|           
|            | 23   |                     |  | Consent of Moss Adams LLP                                                                                                                                                                                                                                                                   
|           
|            | 24   |                     |  | Power of Attorney                                                                                                                                                                                                                                                                           
|           
|            | 31.1 |                     |  | Certification of Chief Executive Officer required by
    Rule 13a-14(b) or Rule 15d-14(a) and Section 302
    of the Sarbanes Oxley Act of 2002                                                                                                                                             
|           
|            | 31.2 |                     |  | Certification of Chief Financial Officer required by
    Rule 13a-14(b) or Rule 15d-14(a) and Section 302
    of the Sarbanes Oxley Act of 2002                                                                                                                                             
|           
|            | 32.1 |                     |  | Certification of Chief Executive Officer required by
    Rule 13a-14(b) or Rule 15d-14(b) and Section 906
    of the Sarbanes Oxley Act of 2002, 18 U.S.C.
    Section 1350                                                                                                                 
|           
|            | 32.2 |                     |  | Certification of Chief Financial Officer required by
    Rule 13a-14(b) or Rule 15d-14(b) and Section 906
    of the Sarbanes Oxley Act of 2002, 18 U.S.C.
    Section 1350                                                                                                                 






|    |                                                                                                                                                                  
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Incorporated by reference to the
    Form SB-2
    (Registration
    No. 333-49925)
    previously filed by the Company, declared effective on
    June 22, 1998.
|   
|(2) | Incorporated by reference to the definitive proxy statement
    dated August 19, 1998 for the Annual Meeting of
    Shareholders held September 24, 1998.        
|   
|(3) | Incorporated by reference to the
    Form 8-K dated
    April 30, 1999, previously filed by the Company.                                                         
|   
|(4) | Incorporated by reference to
    Forms 8-K dated
    May 12, 2005 and September 30, 2005, previously filed
    by the Company.                                   
|   
|(5) | Incorporated by reference to
    Form S-8 dated
    November 10, 2005, previously filed by the Company.                                                          
|   
|(6) | Incorporated by reference to
    Form 8-K dated
    July 14, 2005, previously filed by the Company.                                                              

65