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1998 ANNUAL REPORT
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                           HORIZON FINANCIAL SERVICES
                                   CORPORATION



<PAGE>
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TABLE OF CONTENTS
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         President's Letter to Shareholders............................ 1
         Selected Consolidated Financial Information................... 2
         Management's Discussion and Analysis of Financial
           Condition and Results of Operation.......................... 4
         Consolidated Financial Statements.............................17
         Stockholder Information.......................................41
         Corporate Information.........................................42



























                          Annual Report on Form 10-KSB

A copy of Horizon Financial Services  Corporation's Annual Report on Form 10-KSB
for the year ended June 30,  1998,  as filed with the  Securities  and  Exchange
Commission,  may be obtained  without  charge by  contacting  Robert W.  DeCook,
President and Chief Executive Officer,  Horizon Financial Services  Corporation,
301 First Avenue East, Oskaloosa, Iowa, (515) 673-8328.
<PAGE>
                         [HORIZON FINANCIAL LETTERHEAD]








                               September 25, 1998


Dear Stockholder:

I am very pleased to report to you that the Company's fiscal year ended June 30,
1998, was again one of increased  profitability from recurring  operations.  Net
interest  income  after  provision  for  losses on loans was $2.63  million,  an
increase of $388,000 or 17.3 percent.

Net income  increased to $589,000 in fiscal 1998, which represents a .67 percent
return on average  assets.  This  represents  an increase  of $311,000  over the
previous year's net income, an increase  substantially in excess of 100 percent.
Included in current  year net income was a write down of $475,000 on an interest
only mortgage-backed security resulting from a decline in fair market value that
was judged to be other than temporary.  Fiscal 1997 net income was affected by a
$331,000  special  assessment by the Federal  Deposit  Insurance  Corporation to
recapitalize the Savings Association Insurance Fund.

Loans receivable increased by $3.8 million as residential real estate,  consumer
and commercial business loans increased. Total assets increased by $4.0 million,
an increase of 4.7 percent.  During fiscal 1998, the Company's  average interest
rate spread (the difference between the yields earned on interest-earning assets
and the rates paid on  interest-bearing  liabilities) was a healthy 2.96 percent
and its net interest margin was 3.23 percent,  compared to 3.12 percent and 3.41
percent, respectively, for fiscal 1997.

Your Board and  management  are committed to continue  building value in Horizon
Financial  and  are  gratified   that  the  Company's   share  price  has  risen
impressively  over last years value,  even with the recent market  downturn.  We
will  also  continue  to  be  an  organization  which  builds  family  financial
relationships   and  demonstrates   commitment  to  our  customers  and  to  the
communities we serve.

On behalf of all us at Horizon  Financial and Horizon Federal,  we thank you for
your support of and your investment in Horizon Financial.

Yours very truly,



Robert W. DeCook
President and Chief Executive Officer
<PAGE>
<TABLE>
<CAPTION>
                                  SELECTED CONSOLIDATED FINANCIAL INFORMATION(1)


                                                                               At June 30,
                                                      --------------------------------------------------------------
                                                        1998        1997           1996         1995          1994
                                                      -------      -------        -------      -------       -------
                                                                              (In Thousands)
Selected Financial Condition Data:
<S>                                                   <C>          <C>            <C>          <C>           <C>    
Total assets.....................................     $89,947      $85,969        $73,464      $69,624       $60,589
Cash and cash equivalents........................       6,367        5,621          3,471        3,812         5,081
Securities available for sale....................      23,922       24,942         18,049        5,170         2,079
Loans receivable, net............................      55,996       52,193         49,104       46,478        40,409
Deposits.........................................      60,145       57,641         54,759       51,330        49,969
Advances from FHLB...............................      20,038       19,102          9,661        8,718         1,447
Stockholders' equity.............................       8,488        8,412          8,390        8,786         8,584
<CAPTION>
                                                                            Year Ended June 30,
                                                          ----------------------------------------------------------
                                                           1998         1997        1996          1995         1994
                                                          ------      ------       ------        ------       ------
                                                                    (In Thousands, Except Per Share Data)
Selected Operations Data:
<S>                                                       <C>         <C>          <C>           <C>          <C>   
Total interest income..............................       $6,744      $5,895       $5,454        $4,752       $4,147
Total interest expense.............................        4,021       3,402        3,144         2,443        2,160
                                                          ------      ------       ------        ------       ------
  Net interest income..............................        2,723       2,493        2,310         2,309        1,987
Provision for losses on loans......................           94         252          328             2          ---
                                                          ------      ------       ------        ------       ------
Net interest income after
 provision for losses on loans.....................        2,629       2,241        1,982         2,307        1,987
Noninterest income
  Fees, commissions and service charges............          448         338          345           238          230
  Gain (loss) on sale of securities, net...........        (167)          81           39           ---        (273)
  Other noninterest income.........................           27          19           94            23           21
                                                          ------      ------       ------        ------       ------
Total noninterest income...........................          308         438          478           261         (22)
Total noninterest expense..........................        2,031    2,255(2)        1,886         1,904        1,526
                                                          ------      ------       ------        ------       ------
Earnings before taxes on income....................          906         424          573           664          439
Taxes on income ...................................          317         146          197           245          166
                                                          ------      ------       ------        ------       ------
Net earnings before change in accounting
  principle........................................          589         278          376           419          273
Cumulative effect from change in accounting
  principle, net of taxes on income................         ---          ---          ---           ---          160
                                                          ------      ------       ------        ------       ------
Net earnings ......................................      $   589      $  278       $  376        $  419       $  433
                                                         =======      ======       ======        ======       ======

Basic earnings per common share....................       $ 0.71      $ 0.34       $ 0.43        $ 0.44          N\A
Diluted earnings per common share..................       $ 0.69      $ 0.33       $ 0.42        $ 0.44          N\A
Dividends per share................................       $ 0.18      $ 0.16       $ 0.16        $ 0.08          N\A
</TABLE>
<PAGE>
 (1)     All per share information has been restated for the 2-for-1 stock split
         paid by the  Company on  November  10, 1997 in the form of a 100% stock
         dividend.

 (2)     Includes the special  assessment of $331,000 paid by the Company to the
         Federal Deposit  Insurance Fund (the"FDIC") to recapitalize the Savings
         Association Insurance Fund (the "SAIF").

                                        2
<PAGE>
<TABLE>
<CAPTION>
                                                                                       Year Ended June 30,
                                                                   -----------------------------------------------------
                                                                    1998        1997       1996        1995        1994
                                                                   ------     ------      ------     ------      ------ 
<S>                                                                <C>        <C>         <C>        <C>         <C>    
Selected Financial Ratios and Other Data:

Performance Ratios:
  Return on assets (ratio of net earnings to average
     total assets).........................................           .67%       .35(1)      .53%       .64%        .74%
  Interest rate spread information:
   Average during year.....................................          2.96       3.12        3.09       3.42        3.59
   End of year.............................................          3.05       3.07        3.06       2.59        3.41
  Net interest margin(2)...................................          3.23       3.41        3.44       3.82        3.70
  Ratio of operating expense to average total
    assets.................................................          2.31       2.83(1)     2.64       2.92        2.61
  Return on stockholders' equity (ratio of net
    earnings to average equity)............................          6.97       3.31(1)     4.38       4.82        9.84
 Efficiency ratio(3).......................................         63.51      67.51       68.61      74.09       68.19

Asset Quality Ratios:
 Non-performing assets to total assets at end of
   year(4).................................................          1.02       1.22        1.27       1.06        1.21
 Allowance for losses on loans to non-performing
    loans(4)...............................................         37.74      50.51       34.01      39.27       51.85
 Allowance for losses on loans  to total loans.............           .61        .65         .63        .62         .91

Other Ratios:
 Stockholders' equity to total assets at end of
   year....................................................          9.44       9.78       11.42      12.62       14.17
 Average stockholders' equity to average assets............          9.61      10.54       12.00      13.34        7.54
 Average interest-earning assets to average
    interest-bearing liabilities...........................        105.65%    106.13%     107.31%    109.88%     102.58%

Number of full-service offices.............................             3          3           3          3           3
--------------
</TABLE>

(1)      Includes  one-time  SAIF  assessment  paid in fiscal  1997 of  $331,000
         ($207,000,  net of taxes).  Excluding  the SAIF  assessment,  return on
         assets,  operating expenses to total assets and return on stockholder's
         equity was .61%, 2.41% and 5.77%, respectively, for fiscal 1997.

(2)      Net interest income divided by average interest-earning assets.

(3)      Noninterest  expense (not including  one-time SAIF  assessment  paid in
         fiscal  1997)  divided  by  net  interest   income  and  other  income,
         (excluding gain (loss) on sale of securities, net).

(4)      Nonperforming  assets  consist of  nonaccruing  loans,  accruing  loans
         past-due 90 or more days and real estate owned. Nonperforming loans are
         nonperforming assets less real estate owned.

                                        3
<PAGE>
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS

General

         Horizon Financial Services Corporation (the "Company") is a savings and
loan holding  company the primary asset of which is Horizon Federal Savings Bank
(the "Bank"). The Company was incorporated in March 1994 and sold 506,017 shares
of common stock on June 28, 1994 for the purpose of acquiring all of the capital
stock of the Bank in connection with the Bank's  conversion from mutual to stock
form of ownership (the "Conversion"). On November 10, 1997, the Company effected
a 2-for-1  stock split paid in the form of a 100% stock  dividend  ("1997  Stock
Split"). All information  presented herein,  except as otherwise indicated,  has
been  adjusted to reflect the 1997 Stock Split.  All  references  to the Company
prior to June 28, 1994,  except where otherwise  indicated,  are to the Bank and
its subsidiary on a consolidated basis.

         The  principal  business of the Company has  historically  consisted of
attracting  deposits  from the  general  public  and  making  loans  secured  by
residential and, to a lesser extent, other properties.  The Company's results of
operations  are primarily  dependent on net interest  rate spread,  which is the
difference  between the average yield on loans,  mortgage-backed  securities and
investments  and the average  rate paid on deposits  and other  borrowings.  The
interest rate spread is affected by regulatory, economic and competitive factors
that influence  interest rates, loan demand and deposit flows. In addition,  the
Company,  like other non-diversified  savings institution holding companies,  is
subject to  interest  rate risk to the degree that its  interest-earning  assets
mature  or  reprice  at  different  times,  or on a  different  basis,  than its
interest-bearing liabilities.

         The Company's  results of operations  are also affected by, among other
things,  fee income received,  loss or profit on securities  available for sale,
the  establishment  of provisions for possible  losses on loans,  income derived
from subsidiary  activities,  the level of operating  expenses and income taxes.
The Company's operating expenses  principally  consist of employee  compensation
and benefits,  occupancy  expenses,  federal deposit  insurance  premiums,  data
processing expenses and other general and administrative expenses.

         The Company is significantly affected by prevailing economic conditions
including  federal  monetary  and fiscal  policies  and  federal  regulation  of
financial  institutions.  Deposit balances are influenced by a number of factors
including interest rates paid on competing personal investments and the level of
personal  income and  savings  within the  institution's  market  area.  Lending
activities are influenced by the demand for housing as well as competition  from
other lending institutions.  The primary sources of funds for lending activities
include   deposits,   loan  repayments,   borrowings  and  funds  provided  from
operations.

         Some local economic conditions in the Bank's market are weakening.  The
farm economy has been strong for over five years but is now beginning to soften.
As a result of an  over-supply  of grain,  farm prices for grain and  livestock,
which are  currently  depressed,  may continue to remain  depressed and possibly
even drop further. In addition, the Bank is experiencing difficulty, as are most
businesses in the area, in hiring and retaining  experienced  personnel as labor
shortages  in the area  continue to exist.  In the event  current  economic  and
market  conditions  persist or worsen,  loan  demand and  existing  loans may be
affected.  No assurances  can be given that the Bank will be able to maintain or
increase  its  loan  portfolio,  which  could  adversely  affect  the  financial
condition and results of operations of the Company and the Bank.
<PAGE>
         Certain  statements  in this report  that  relate to the  Corporation's
plans,  objectives  or future  performance  may be deemed to be  forward-looking
statements within the meaning of the Private Securities Litigation Reform Act of
1995.  Such statements are based on Management's  current  expectations.  Actual
strategies  and  results  in future  periods  may differ  materially  from those
currently  expected  because  of  various  risks and  uncertainties.  Additional
discussion  of factors  affecting  the  Corporation's  business and prospects is
contained in the Corporation's periodic filings with the Securities and Exchange
Commission.

                                        4
<PAGE>
Financial Condition

         June 30, 1998 Compared to June 30, 1997.  Total assets  increased  $4.0
million,  or 4.7%,  to $89.9 million at June 30, 1998 from $85.9 million at June
30,  1998.  The increase  was  reflected  in a $3.8  million  increase net loans
receivable,  a $700,000  increase in cash and cash  equivalents,  and a $400,000
increase in deferred  income tax. The increase  was  partially  offset by a $1.0
million  decrease in securities  available for sale.  The increases  were funded
primarily through a $2.5 million increase in deposits and additional advances of
$900,000 from the Federal Home Loan Bank (the "FHLB") of Des Moines. The Company
continued  to  leverage  its capital  through  FHLB  advances  to  increase  the
Company's earnings. See "Asset\Liability Management."

         Total liabilities  increased $3.9 million, or 5.0%, to $81.5 million at
June 30, 1998 from $77.6  million at June 30,  1997,  primarily as a result of a
$2.5 million increase in deposits and a $900,000 increase in FHLB advances.  The
increase in deposits was due to the deposit of short-term  public funds with the
Company, of which  approximately $2.0 million were withdrawn  subsequent to June
30, 1998.

         Stockholder's  equity increased  $75,000,  or .89%, during fiscal 1998,
primarily  through  the  retention  of net  income,  net  proceeds  received  in
connection with the exercise of Company stock options and the  amortization  for
the  allocated  portion  of  shares  held  by the  ESOP,  offset  by a  negative
adjustment of net  unrealized  losses on  securities  available for sale and the
payment of cash  dividends  by the  Company.  The  Company  paid cash  dividends
totaling approximately $145,000 or $.175 per share.

         June 30, 1997 Compared to June 30, 1996.  Total assets  increased $12.5
million,  or 17.0%, to $85.9 million at June 30, 1997 from $73.4 million at June
30, 1996.  The increase was  reflected in a $6.9 million  increase in securities
available  for sale, a $3.1  million  increase in net loans  receivable,  a $2.1
million  increase  in cash and cash  equivalents,  and a  $400,000  increase  in
Federal  Home Loan Bank  stock.  The  increases  were funded  primarily  through
additional  advances  of $9.4  million  from the FHLB of Des  Moines  and a $2.9
million  increase in deposits.  During  fiscal 1997,  the Company  leveraged its
capital through FHLB advances in an effort to increase earnings.

         Total liabilities  increased $12.5 million,  or 19.2%, to $77.6 million
at June 30, 1997 from $65.1  million at June 30, 1996,  primarily as a result of
the $9.4  million  increase  in FHLB  advances  and a $2.9  million  increase in
deposits.

         Stockholders'  equity increased  $22,000,  or .27%, during fiscal 1997,
primarily  through the retention of net income and a positive  adjustment of net
unrealized losses on securities  available for sale, offset by the repurchase of
the  Company's  common  stock and the  payment of  dividends  declared on common
stock. The Company paid cash dividends totaling  approximately  $130,000 or $.16
per share.  The Company  repurchased  five percent of its common  stock,  22,397
shares,  under a stock repurchase  program  completed during fiscal 1997. Common
stock was repurchased during 1997 at a cost of $337,354, or $7.53 per share.

Results of Operations

Comparison of Years Ended June 30, 1998 and June 30, 1997

         General.  Net  earnings  for the year  ended  June 30,  1998  increased
$311,000  to  $589,000  from  $278,000  for the year ended June 30,  1997.  This
increase was  primarily  due to an increase of $388,000 in net  interest  income
after provision for loan losses,  a decrease in FDIC premiums,  primarily due to
the absence of the one-time SAIF assessment paid in fiscal 1997,of $331,000, and
an  increase  of  $110,000  in  fee  income.  Net  earnings,  without  the  SAIF
assessment, for the year ended June 30, 1997 would have been

                                        5
<PAGE>
$485,000  as  compared to  $589,000  for the same  period  ended June 30,  1998,
resulting in an increase of $104,000 or 21% for the year ended June 30, 1998.

         During fiscal 1998, the Company's return on average assets ("ROAA") and
return  on  average   stockholder's   equity   ("ROAA")   was  .67%  and  6.97%,
respectively,  compared  to .35% and 2.83% for  fiscal  1997.  ROAA and ROAE for
fiscal 1997 were  affected by the one-time  SAIF  assessment of $207,000 (net of
taxes) paid by the Company.  The Company's ROAA and ROAE for fiscal 1997 without
the SAIF assessment,  was .61% and 5.77%,  respectively.  Average  stockholders'
equity to average  assets was 9.61% during fiscal 1998 compared to 10.54% during
fiscal 1997.  The  Company's  dividend  payout ratio was 26% during  fiscal 1998
compared to 48% during fiscal 1997.

         Interest Income. Interest income increased $849,000 to $6.7 million for
the year ended June 30, 1998  compared  to $5.9  million for the year ended June
30, 1997. The increase was  attributable  primarily to interest  earned on loans
receivable and  securities  available for sale as a result of an increase in the
average  outstanding balance of these assets. The average outstanding balance of
loans  receivable  increased  $3.8 million to $55.0  million and the  securities
increased  $5.9 million to $25.4  million  during  fiscal  1998.  An increase of
$900,000 in the average  outstanding  balance of the  Company's  other  interest
earning  assets also  contributed  to the  increase in  interest  income.  These
increases were funded with customer deposits and FHLB advances. The yield on all
average  interest-earning  assets decreased slightly during fiscal 1998 to 8.00%
from 8.06% during fiscal 1997.

         Interest Expense.  Interest expense increased  $619,000 to $4.0 million
for the year ended June 30, 1998 compared to $3.4 million for the ended June 30,
1997. The increase in interest  expense was primarily  attributable to increases
in the average outstanding balance of FHLB advances and deposits,  combined with
increased  rates  paid on FHLB  advances.  The  average  rate  paid on  advances
increased  by 15 basis  points to 5.69%  during  fiscal  1998 from 5.54%  during
fiscal 1997. The average rate paid on all interest-bearing liabilities increased
ten basis points to 5.04% during fiscal 1998 from 4.94% during fiscal 1997.

         Net Interest  Income.  Net interest income  increased  $230,000 to $2.7
million  in fiscal  1998  from $2.5  million  in fiscal  1997.  The ratio of the
Company's   average   interest-bearing   assets  to   average   interest-bearing
liabilities  decreased to 105.65%  during fiscal 1998 from 106.13% during fiscal
1997.  During  this same period the  Company's  interest  rate spread  decreased
slightly to 2.96% from 3.12%.

         Provision  for Losses on Loans.  The provision for losses on loans is a
result of  management's  periodic  analysis  of the  adequacy  of the  Company's
allowances for losses on loans. During the year ended June 30, 1998, the Company
had a $94,000  addition  to its  allowance  for  losses on loans  compared  to a
$252,000  provision in fiscal 1997. The Company  continues to monitor and adjust
its  allowances  for  losses  on  loans  as  management's  analysis  of its loan
portfolio and economic conditions dictate.  The Company believes it has taken an
appropriate  approach toward reserve levels,  consistent with the Company's loss
experiences  and  considering,  among  other  factors,  the  composition  of the
Company's   loan   portfolio,   the  level  of  the  Company's   classified  and
non-performing assets and their estimated values.  However,  future additions to
the  Company's  allowances  for losses on loans and any  changes in the  related
ratio of the  allowances for losses to  non-performing  loans are dependent upon
the  economy,  changes in real estate  values and interest  rates,  and might be
necessary in the event conditions deteriorate.  In addition,  federal regulators
may require additional reserves as a result of their examination of the Company.
The allowances for losses on loans reflects what the Company currently  believes
is an adequate  level of reserves.  There can be no  assurances,  however,  that
future losses will not occur,  thereby  adversely  affecting  future  results of
operations.  As of June 30, 1998 and June 30, 1997 the Company's  allowances for
losses on loans was $348,000.

                                        6
<PAGE>
         As of June 30, 1998, the Company's non-performing assets, consisting of
nonaccruing loans, accruing loans 90 days or more delinquent,  real estate owned
and repossessed consumer property,  totaled $922,000,  or 1.02% of total assets,
compared to $1,045,000, or 1.22% of total assets, as of June 30, 1997.

         Noninterest  Income.  Noninterest income decreased $130,000 to $308,000
for the year ended June 30, 1998 from $438,000 for the year ended June 30, 1997.
The decrease was primarily attributable to a $167,000 loss realized on the sales
of securities in fiscal 1998 compared to an $81,000 gain realized on the sale of
securities in fiscal 1997.  The loss  realized on the sale of securities  during
fiscal  1998  primarily  was the result of a $475,000  write down on an interest
only  mortgage-backed  security  resulting from a decline in fair value that was
judged to be other than  temporary.  This decline in fair value  resulted from a
sustained increase in the prepayment speeds of the underlying mortgage loans.

         The decrease in noninterest  income was partially  offset by a $110,000
increase in fees, service charges and commission,  resulting from increased fees
charged on checking  accounts and  increased  commission  income on the sales of
insurance,  annuity and mutual fund products through the wholly-owned  financial
services subsidiary of the Bank.

         Noninterest Expense.  Noninterest expense decreased $224,000,  or 9.9%,
to $2.0  million for the year ended June 30, 1998 from $2.3 million for the year
ended June 30, 1997.  The decrease  was  primarily  the result of the absence in
fiscal 1998 of the one time special  assessment  of $331,000 paid by the Company
to recapitalize the SAIF in fiscal 1997. This decrease was partially offset by a
$186,000 increase in compensation costs generally  associated with the Company's
stock-based compensation plans as a result of an increase in the Company's stock
price.

         The Company also anticipates incurring costs in connection with testing
and documenting the readiness of its electronic systems,  programs and processes
to recognize properly the year 2000. While the Company does not believe that the
process of making its systems,  programs and  processes  ready for the year 2000
will  result in  material  cost,  it is expected  that a  substantial  amount of
management and staff time will be required on the year 2000 project. The Company
currently  expects to spend  approximately  $10,000 in connection  with its year
2000 readiness efforts. It is impossible to predict the exact expenses associate
with year 2000  preparedness,  as  additional  funds may be needed  for  unknown
expenses related to year 2000 testing, potential charges by third party software
vendors  for  product  enhancements,  and,  if  necessary,  for  developing  and
implementing  any  contingency  plans in the event such  enhancements  cannot be
made.  Furthermore,  the readiness of our service  provider,  as well as certain
vendors and customers,  may affect our preparedness.  No assurance can be given,
that the Company's third party service  providers' or other outside parties year
2000  readiness  efforts  will  proceed as  anticipated,  or that the results of
operations  of the Company will not be  adversely  affected by  difficulties  or
delays in the  Company's or third  parties'  year 2000  readiness  efforts.  See
"-Year 2000 Issues."

         Income Tax Expense. Income taxes increased $171,000 to $317,000 for the
year ended June 30, 1998 from $146,000 for the same period in 1997. The increase
was  primarily due to an increase in earnings  prior to taxes on income.  Income
tax expense was reduced by low income housing credits of approximately  $42,000,
which will continue annually through 2005.
 
Comparison of Years Ended June 30, 1997 and June 30, 1996

         General.  Net  earnings  for the year  ended  June 30,  1997  decreased
$98,000  to  $278,000  from  $376,000  for the year ended  June 30,  1996.  This
decrease was primarily due to the one time special  assessment of $207,000,  net
of taxes, by the FDIC to recapitalize  the SAIF. Net earnings,  without the SAIF
assessment,  for the year  ended  June 30,  1997  would  have been  $485,000  as
compared to $376,000 for the same period  ended June 30,  1996,  resulting in an
increase of $109,000 or 29.0%.

                                        7
<PAGE>
         During fiscal 1997,  the Company's  return on average assets and return
on average  stockholders' equity was .35% (.61% without the SAIF assessment) and
3.31% (5.77% without the SAIF  assessment),  respectively,  compared to .53% and
4.38% during fiscal 1996.  Average  stockholders'  equity to average  assets was
10.54% during  fiscal 1997 compared to 12.00% during fiscal 1996.  The Company's
dividend  payout ratio was 48% during  fiscal 1997 compared to 38% during fiscal
1996.

         Interest Income. Interest income increased $441,000 to $5.9 million for
the year ended June 30, 1997  compared  to $5.5  million for the year ended June
30, 1996. The increase was  attributable  primarily to interest  earned on loans
receivable  as a result of an  increase in the  average  outstanding  balance of
loans,  and to a lesser  extent,  the yield  earned on such  loans.  The average
outstanding balance of loans receivable  increased $3.2 million to $51.2 million
during  fiscal  1997,  while the yield  earned on such loans  increased  8 basis
points to 8.62%. An increase of $2.7 million in the average  outstanding balance
of the Company's  securities available for sale also contributed to the increase
in interest income.  These increases were funded with FHLB advances and customer
deposits.  The yield on all average  interest-earning  assets decreased slightly
during fiscal 1997 to 8.06% from 8.11% during fiscal 1996.

         Interest Expense.  Interest expense increased  $258,000 to $3.4 million
for the year ended June 30,  1997  compared  to $3.1  million for the year ended
June 30, 1996. The increase in interest  expense was primarily  attributable  to
increases in the average  outstanding  balance of FHLB  advances  and  deposits,
combined with increased rates paid on savings deposits. The average rate paid on
savings  deposits  increased by 60 basis points to 4.43% during fiscal 1997 from
3.83%  during  fiscal  1996.  The  average  rate  paid  on all  interest-bearing
liabilities  decreased  8 basis  points to 4.94%  during  fiscal 1997 from 5.02%
during fiscal 1996.

         Net Interest  Income.  Net interest income  increased  $183,000 to $2.5
million  in fiscal  1997  from $2.3  million  in fiscal  1996.  The ratio of the
Company's   average   interest-earning   assets  to   average   interest-bearing
liabilities  decreased to 106.14%  during fiscal 1997 from 107.31% during fiscal
1996.  During  this same period the  Company's  interest  rate spread  increased
slightly to 3.12% from 3.09%.

         Provision for Losses on Loans. During the year ended June 30, 1997, the
Company had a $252,000 addition to its allowance for losses on loans compared to
a $328,000 provision in fiscal 1996. As of June 30, 1997 the Company's allowance
for losses on loans was $348,000 compared to $318,000 at June 30, 1996.

         As of June 30, 1997, the Company's non-performing assets, consisting of
nonaccruing loans, accruing loans 90 days or more delinquent,  real estate owned
and repossessed consumer property, totaled $1,045,000, or 1.22% of total assets,
compared  to  $935,000,  or 1.27%  of total  assets,  as of June 30,  1996.  The
increase in  non-performing  assets related  primarily to a $119,000 increase to
foreclosed  assets and a $220,000 increase in accruing loans past-due 90 or more
days. The increase was partially  offset by a $229,000  decrease in non-accruing
loans.

         Noninterest  Income.  Noninterest  income decreased $40,000 to $438,000
for the year ended June 30, 1997 from $478,000 for the year ended June 30, 1996.
The decrease was  primarily  attributable  to the $37,000  nonrecurring  special
patronage dividend received by the Company from its data processing servicer and
a $33,000  gain on the sale of the data  processing  center  during  fiscal 1996
while no similar  noninterest income was received for fiscal 1997. This decrease
was partially  offset by a $42,000 increase in the gain on sale of securities to
$81,000 for fiscal 1997 as compared to $39,000 for the year ended June 30, 1996.


                                        8
<PAGE>
         Noninterest Expense.  Noninterest expense increased $369,000, or 19.6%,
to $2.3  million for the year ended June 30, 1997 from $1.9 million for the year
ended June 30,  1996.  The  increase  was  primarily  the result of the one time
special  assessment  of  $331,000  by the FDIC to  recapitalize  the SAIF.  Also
contributing to the increase in noninterest  expense was a $121,000  increase in
compensation   costs  generally   associated  with  the  Company's   stock-based
compensation  plans as a result of an increase  in the  Company's  stock  price,
partially offset by a $51,000 decrease in other general expense.

         Income Tax Expense.  Income taxes decreased $52,000 to $145,000 for the
year ended June 30, 1997 from $197,000 for the same period in 1996. The decrease
was primarily due to a decrease in earnings prior to taxes on income. Income tax
expense was reduced by low income housing credits of approximately $42,000.

Year 2000 Issues

         A great deal of information has been disseminated  about the widespread
computer  problems that may arise in the year 2000.  Computer  programs that can
only distinguish the final two digits of the year entered (a common  programming
practice in earlier years) are expected to read entries for the year 2000 as the
year 1900 and compute payment,  interest or delinquency based on the wrong date,
or are expected to be unable to compute payment, interest or delinquency.  Rapid
and accurate  data  processing  is essential to the operation of the Company and
the Bank. Data processing is also essential to most other financial institutions
and many other companies. An internal committee of the Company, comprised of six
officers and one outside director, has been formed to address the potential risk
that year 2000 poses for the Company and the Bank.

         Accurate data  processing is essential to the operations of the Company
and the  Bank,  and a lack of  accurate  processing  by its  vendors  (or by the
Company or the Bank) could have a  significant  adverse  impact on the Company's
financial condition and results of operations.  The Bank is currently undergoing
a data processing service bureau conversion. The conversion will be completed on
October 26, 1998.  The Bank has been  assured by its current and newly  selected
data  processing  service  bureaus that their  computer  services  will function
properly on and after January 1, 2000. The Bank's newly selected data processing
service bureau has advised  Management  that it, in fact, is currently year 2000
compliant with no programming  corrections  needed, and will commence testing in
December  1998.  If by the end of this year it appears  that the Bank's  primary
data  processing  service bureau in not year 2000 compliant or will be unable to
resolve this problem in a timely manner, then the Bank will identify a secondary
data processing  service provider to complete the task. If the Bank is unable to
do this, it will identify those steps  necessary to minimize the negative impact
the computer problems could have on the Bank.  Notwithstanding the foregoing, if
the Company and the Bank are unable to resolve this  potential  problem in time,
the Bank will likely experience significant data processing delays,  mistakes or
failures.  These delays,  mistakes or failures could have a significant  adverse
impact on the financial condition and results of operations of the Company.

         The  Company  has also  received  year  2000  updates  from most of its
material non-information system providers, including but not limited to security
cameras,  credit card and ATM card processors,  the vault alarm, check printers,
telephone systems, participation loan servicers, and institutions the Company or
the Bank invests  through or with,  and based on these updates do not anticipate
any significant year 2000 issues.

         In addition to expenses  related to our own systems,  the Company could
incur losses if loan  payments are delayed due to year 2000  problems  affecting
any of our  significant  borrowers  or  impairing  the payroll  systems of large
employers in the  Company's  market area.  We have been  communicating  with the
Bank's  vendors  to assess  their  progress  in  evaluating  their  systems  and
implementing any corrective

                                        9
<PAGE>
measures  required by them to be prepared for the year 2000. Year 2000 readiness
request  letters  have also been sent to certain  borrowers  of the Bank.  These
borrowers  were selected  based on the aggregate  amounts owed to the Bank,  the
type  of  loans  outstanding,   and  the  perceived  Year  2000  risk  based  on
management's knowledge of the loan customers and their operations.  To date, the
Bank has not been  advised by such  parties that they do not have plans in place
to  address  and  correct  the  issues  associated  with the year 2000  problem;
however,  no  assurance  can be given as to the adequacy of such plans or to the
timeliness of their implementation.

Average Balances, Interest Rates and Yields

         The following table presents for the periods indicated the total dollar
amount of interest  income earned on average  interest-earning  assets and total
dollar amount of interest expense paid on average interest-bearing  liabilities,
as well as their  resultant  yields and rates,  respectively.  No tax equivalent
adjustments  were made.  All  average  balances  are monthly  average  balances.
Non-accruing  loans  have been  included  in the table as loans  carrying a zero
yield.
<TABLE>
<CAPTION>
                                                                           Year Ended June 30,
                                     --------------------------------------------------------------------------------------------
                                                   1998                            1997                         1996
                                        Average  Interest             Average    Interest            Average   Interest
                                     Outstanding  Earned/    Yield/  Outstanding  Earned/   Yield/ Outstanding  Earned/   Yield/
                                       Balance     Paid       Rate     Balance     Paid      Rate    Balance    Paid      Rate(2)
                                       -------     ----       ----     -------     ----      ----    -------    ----      -------
                                                                     (Dollars in Thousands)
<S>                                     <C>       <C>          <C>     <C>       <C>          <C>    <C>       <C>          <C>  
Interest-Earning Assets:
 Loans receivable(1)...............     $55,015   $4,745       8.62%   $51,166   $4,408       8.62%  $47,993   $4,101       8.54%
 Securities available for sale.....      25,394    1,699       6.69     19,445    1,332       6.85    16,779    1,159       6.91
 Other interest-earning assets.....       2,786      222       7.98      1,814      108       5.96     1,954      158       8.09
 FHLB stock........................       1,143       78       6.85        666       47       7.03       507       36       7.10
  Total interest-earning assets(1).      84,338    6,744       8.00     73,091    5,895       8.06    67,233    5,454       8.11

Interest-Bearing Liabilities:
 Savings deposits..................      17,118      743       4.34     15,829      701       4.43    11,577      443       3.83
 Money market deposits.............         747       18       2.50        935       22       2.42     1,163       28       2.41
 Demand and NOW deposits...........       5,863      104       1.71      5,371       93       1.66     4,590       83       1.81
 Certificates of deposit...........      33,989    1,899       5.59     33,759    1,866       5.53    35,820    2,040       5.70
 FHLB Advances.....................      22,109    1,257       5.69     12,978      720       5.54     9,502      550       5.79
   Total interest-bearing liabilities  $ 79,826    4,021       5.04    $68,872    3,402       4.94   $62,652    3,144       5.02

Net interest income................               $2,723                         $2,493                        $2,310

Net interest rate spread...........                            2.96%                          3.12%                         3.09%

Net interest-earning assets........   $  4,512                         $ 4,219                       $ 4,581

Net interest margin(2).............                            3.23%                          3.41%                         3.44%

Average interest-earning assets to               105.65%
 average interest-bearing liabilities                                           106.13%                       107.31%
</TABLE>
  -------------------------------
   (1) Calculated net of deferred loan fees,  loan  discounts,  loans in process
       and loss reserves
   (2) Net interest income divided by average interest-earning assets.

                                       10
<PAGE>
Rate/Volume Analysis of the Net Interest Income

         The following  table  presents the dollar amount of changes in interest
income and interest expense for major components of interest-earning  assets and
interest-bearing  liabilities.  For each category of interest-earning assets and
interest-bearing liabilities, information is provided on changes attributable to
(i) changes in volume (i.e.,  changes in volume multiplied by old rate) and (ii)
changes in rate (i.e.,  changes in rate multiplied by old volume).  For purposes
of this table,  changes  attributable  to both rate and volume  which  cannot be
segregated have been allocated  proportionately  to the change due to volume and
the change due to rate.
<TABLE>
<CAPTION>
                                                                             Year Ended June 30,
                                               -------------------------------------------------------------------------
                                                          1998 vs. 1997                        1997 vs. 1996
                                               ---------------------------------     ------------------------------------
                                                    Increase                              Increase        
                                                   (Decrease)                            (Decrease)       
                                                      Due to            Total              Due to                Total      
                                               -------------------     Increase      ------------------        Increase    
                                               Volume         Rate    (Decrease)      Volume      Rate        (Decrease)   
                                               ------         ----    ----------      ------      ----        ----------   
                                                                         (In Thousands)                     
<S>                                           <C>         <C>           <C>          <C>       <C>           <C>     
Interest-earning assets:
  Loans receivable......................      $   408     $    (71)     $   337      $   217   $     90      $    307
  Securities available for sale.........          355           12          367          153         20           173
  Other interest-earning assets.........          107            7          114          (49)        (1)          (50)
  FHLB Stock............................           32           (1)          31           11       ---             11
                                              -------     --------      -------      -------   --------      --------
    Total interest-earning assets.......      $   902     $    (53)     $   849      $   332     $  109       $   441
                                              =======     ========      =======      =======     ======       =======

Interest-bearing liabilities:
  Savings deposits......................           28           14           42          199         59           258
  Money market deposits.................           (3)          (1)          (4)          (5)       ---            (5)
  Demand and NOW deposits...............           (2)          13           11           60        (50)           10
  Certificates of deposits..............           40           (7)          33       (1,248)     1,074          (174)
  FHLB advances.........................          507           30          537          162          7           169
                                              -------     --------      -------      -------   --------      --------
    Total interest-bearing liabilities..       $  570        $  49      $   619      $  (832)   $ 1,090       $   258
                                               ======        =====      =======      =======    =======       =======

Net interest income.....................                                $   230                               $   183
                                                                        =======                               =======
</TABLE>
                                       11
<PAGE>
Interest Rate Spread

         The  following  table  sets  forth  the  weighted   average  yields  on
interest-earning   assets,  the  weighted  average  rates  on   interest-bearing
liabilities  and the interest rate spread  between  weighted  average yields and
rates at the end of each of the years  presented.  Non-accruing  loans have been
included in the table as carrying a zero yield.
<TABLE>
<CAPTION>
                                                               At June 30,
                                                      ----------------------------
                                                      1998        1997        1996
                                                      ----        ----        ----
<S>                   <C>                             <C>         <C>         <C>  
Weighted average yield on:

 Loans receivable, net(1) ..................          8.54%       8.65%       8.43%
 Securities available for sale .............          6.98        6.99        6.66
 Other interest-earning assets .............          5.54        5.45        5.15
 FHLB stock ................................          6.92        7.00        7.00
   Combined weighted average yield on
   interest-earning assets .................          7.95        8.00        7.90

Weighted average rate paid on:

 Savings deposits ..........................          4.42        4.24        4.06
 Money market deposits .....................          2.37        2.43        2.41
 Demand and NOW deposits ...................          1.87        1.39        1.79
 Certificates of Deposit ...................          5.57        5.62        5.54
 FHLB advances .............................          5.24        5.71        5.49
   Combined weighted average rate paid
   on interest-bearing liabilities .........          4.90        4.93        4.84

 Spread ....................................          3.05%       3.07%       3.06%
</TABLE>
              (1) Calculated net of deferred loan fees, loan discounts, loans in
process and loan loss reserves.

Asset/Liability Management

         The  Company  currently  focuses  lending  efforts  toward  originating
competitively priced  adjustable-rate loan products and fixed-rate loan products
with relatively short terms to maturity,  generally  fifteen years or less. This
allows the Company to maintain a portfolio  of loans which will be  sensitive to
changes in the level of interest  rates while  providing a reasonable  spread to
the cost of liabilities used to fund the loans. The Company, however, also makes
long-term, fixed-rate mortgage loans which are sold in the secondary market.

         The  Company's  primary  objective for its  investment  portfolio is to
provide the liquidity  necessary to meet loan funding  needs.  This portfolio is
used in the ongoing management of changes to the Company's assets/liability mix,
while contributing to profitability through earnings flow. The investment policy
generally  calls for funds to be invested  among various  categories of security
types and  maturities  based upon the Company's  need for  liquidity,  desire to
achieve a proper balance between  minimizing risk while  maximizing  yield,  the
need  to  provide  collateral  for  borrowings,  and to  fulfill  the  Company's
asset/liability management goals.


                                       12
<PAGE>
         The  Company's  cost of funds are  typically  responsive  to changes in
interest rates due to the relatively short-term nature of its deposit portfolio.
Consequently,  the  results  of  operations  are  influenced  by the  levels  of
short-term  interest  rates.  The Company  offers a range of  maturities  on its
deposit products at competitive  rates and monitors the maturities on an ongoing
basis.

         The Company emphasizes and promotes its savings,  money market,  demand
and NOW accounts and, subject to market conditions, certificates of deposit with
maturities  of six months  through  five years,  principally  within its primary
market area.  The savings and NOW accounts tend to be less  susceptible to rapid
changes in interest rates.

         In managing its asset/liability  mix, the Company, at times,  depending
on  the  relationship  between  long-  and  short-term  interest  rates,  market
conditions  and consumer  preference,  may place  somewhat  greater  emphasis on
maximizing its net interest  margin than on strictly  matching the interest rate
sensitivity  of its assets and  liabilities.  In this  regard,  the  Company has
borrowed  and may continue to borrow from the FHLB to purchase  securities  when
advantageous interest rate spreads can be obtained. Management believes that the
increased net income which may result from an acceptable  mismatch in the actual
maturity or repricing of its asset and liability  portfolios can, during periods
of declining or stable interest rates, provide sufficient returns to justify the
increased  exposure to sudden and  unexpected  increases in interest rates which
may result from such a mismatch.  The Company has established limits,  which may
change from time to time, on the level of acceptable  interest rate risk.  There
can be no assurance, however, that in the event of an adverse change in interest
rates the Company's efforts to limit interest rate risk will be successful.

         Net Portfolio  Value.  The OTS provides a Net  Portfolio  Value ("NPV")
approach to the  quantification of interest rate risk. This approach  calculates
the difference  between the present value of expected cash flows from assets and
the present value of expected cash flows from liabilities, as well as cash flows
from  off-balance   sheet  contracts.   Management  of  the  Bank's  assets  and
liabilities  is done  within the  context of the  marketplace,  but also  within
limits  established  by the Board of  Directors  on the  amount of change in NPV
which is acceptable given certain interest rate changes.

         The OTS issued a regulation  which uses a net market value  methodology
to measure the interest  rate risk  exposure of thrift  institutions.  Under OTS
regulations,  an institution's "normal" level of interest rate risk in the event
of an assumed change in interest rates is a decrease in the institution's NPV in
an  amount  not  exceeding  2% of  the  present  value  of  its  assets.  Thrift
institutions  with greater than  "normal"  interest  rate  exposure  must take a
deduction  from their total  capital  available to meet their risk based capital
requirement.  The amount of that deduction is one-half of the difference between
(a) the institution's  actual calculated  exposure to a 200 basis point interest
rate increase or decrease  (whichever  results in the greater pro forma decrease
in NPV) and (b) its "normal"  level of exposure which is 2% of the present value
of its assets. The regulation,  however, will not become effective until the OTS
evaluates the process by which savings  associations may appeal an interest rate
risk deduction determination.  It is uncertain as to when this evaluation may be
completed.  Notwithstanding the foregoing and the fact that the Bank, due to its
asset size and level of  risk-based  capital,  is exempt from this  requirement,
utilizing this measuring  concept,  a deduction to risk-based capital would have
been  required  as of June  30,  1998 if the  regulation  applied  to the  Bank.
However,  even if such  deduction  was applied,  the Bank would still meet their
risk-based capital requirement under current regulatory guidelines.

         Presented  below,  as of June 30,  1998,  is an  analysis of the Bank's
interest rate risk as measured by changes in NPV for instantaneous and sustained
parallel shifts in the yield curve, in 100 basis point  increments,  up and down
400 basis points and compared to Board policy limits and in accordance  with OTS
regulations.  Such limits have been established with consideration of the dollar
impact of various rate

                                       13
<PAGE>
changes and the Bank's strong capital position. As illustrated in the table, NPV
is more sensitive to declining rates than rising rates.
<TABLE>
<CAPTION>
         Change in                                 At June 30, 1998
       Interest Rate        Board Limit      --------------------------- 
      (Basis Points)         % Change        $ Change           % Change
      --------------         --------        --------           --------
                               (Dollars in Thousands)
<S>                             <C>           <C>                  <C>  
            +400                (75)%         $(3,769)             (45)%
            +300                (60)           (3,259)             (39)
            +200                (45)           (1,030)             (12)
            +100                (25)             (200)              (2)
               0                ---               ---              ---
            -100                (25)           (3,706)             (44)
            -200                (45)           (5,278)             (63)
            -300                (60)           (5,843)             (69)
            -400                (75)           (6,403)             (76)
</TABLE>
         Management  reviews the OTS  measurements  on a quarterly  basis.  In a
declining interest rate environment,  at June 30, 1998, the Bank's interest rate
risk was in excess of the Board's prescribed guidelines.  The Bank, in an effort
to reduce its present  interest rate risk exposure and in order to bring its NPV
within  Board policy  limits,  has  eliminated  and is  continuing  to eliminate
certain investments which have proven to be more interest rate sensitive than is
currently  acceptable  to the Bank.  In  addition,  the Bank has  purchased  new
software to assist  management  in its efforts to monitor and control the Bank's
exposure to interest rate risk in the future.

         Certain  shortcomings are inherent in the method of analysis  presented
in the foregoing table. For example, although certain assets and liabilities may
have similar  maturities  or periods to  repricing,  they may react in different
degrees to changes in market interest rates. Also, the interest rates on certain
types of assets and  liabilities  may  fluctuate in advance of changes in market
interest  rates,  while  interest rates on other types may lag behind changes in
market rates.  Additionally,  certain assets,  such as adjustable-rate  mortgage
loans,  have features which  restrict  changes in interest rates on a short-term
basis  and over the life of the  asset.  Further,  in the  event of a change  in
interest  rates,  prepayments and early  withdrawal  levels would likely deviate
significantly from those assumed in calculating the tables. Finally, the ability
of many borrowers to service their debt may decrease in the event of an interest
rate increase.

Liquidity and Capital Resources

         The OTS  requires  minimum  levels of liquid  assets.  OTS  regulations
presently require the Bank to maintain an average daily balance of liquid assets
(United  States  Treasury and federal agency  securities  and other  investments
having  maturities  of five years or less)  equal to at least 4.0% of the sum of
its average daily balance of net  withdrawable  deposit  accounts and borrowings
payable in one year or less. Such  requirements may be changed from time to time
by the  OTS to  reflect  changing  economic  conditions.  Such  investments  are
intended to provide a source of relatively  liquid funds upon which the Bank may
rely, if necessary,  to fund deposit  withdrawals and other  short-term  funding
needs.  The Bank has  historically  maintained its liquidity  ratio in excess of
that required. The Bank's liquidity ratios were 10.4%, 7.1% and 6.1% at June 30,
1998, 1997 and 1996, respectively.

         Liquidity  management is both a daily and long-term  responsibility  of
management.  The Bank  adjusts  its  investments  in liquid  assets  based  upon
management's assessment of (i) expected loan demand,

                                       14
<PAGE>
(ii)  expected  deposit  flows,  (iii)  yields  available  on   interest-bearing
investments and (iv) the objectives of its  asset/liability  management program.
Excess liquidity  generally is invested in  interest-bearing  overnight deposits
and other  short-term  government and agency  obligations.  If the Bank requires
additional  funds  beyond its  internal  ability to  generate  such funds it has
additional  borrowing  capacity  with  the  FHLB of Des  Moines  and  collateral
eligible for repurchase agreements.

         The Company  principally  uses its liquidity  resources to meet ongoing
commitments,  to fund maturing  certificates of deposit and deposit withdrawals,
to invest, to fund existing and future loan commitments,  to maintain liquidity,
and to meet other operating needs. At June 30, 1998, the Company had $690,000 of
loan  commitments.  The Company  anticipates  that it will have sufficient funds
available to meet outstanding loan  commitments.  Management  believes that loan
repayments  and other  sources of funds will be  adequate to meet and exceed the
Bank's foreseeable short- and long-term liquidity needs.

         Certificates  of deposit  scheduled to mature in a year or less at June
30, 1998 totaled $22.8 million or 65.5% of the Company's  total  certificates of
deposit. Based on historical experience,  management believes that a significant
portion  of  such  deposits  will  remain  with  the  Company.  There  can be no
assurance,  however,  that the Company can retain all such deposits. At June 30,
1998, the Company had  outstanding  borrowings of $20.0 million from the FHLB of
Des Moines and had the capacity to borrow up to approximately $23.6 million.

         The primary investing activities of the Company include the origination
of loans and the purchase of mortgage-backed securities. At June 30, 1998, these
assets accounted for over 84.1% of the Company's total assets.  Such origination
and  purchases  are  funded  primarily  from  loan  repayments,   repayments  of
mortgage-backed and investment  securities,  FHLB advances, net income and, to a
lesser extent, increases in deposits.

         At June 30,  1998,  the  Bank had  tangible  and core  capital  of $6.5
million, or 7.3% of adjusted total assets,  which was approximately $5.1 million
and $2.9 million above the minimum requirements of 1.5% and 4.0%,  respectively,
of the adjusted  total assets in effect on that date. At June 30, 1998, the Bank
had total  risk-based  capital of $6.7 million  (including  $6.5 million in core
capital),  or 13.2% of  risk-weighted  assets of $51.1 million.  This amount was
$2.6  million  above the 8%  requirement  in effect  on that  date.  The Bank is
presently in compliance with its regulatory capital requirements.

Impact of Inflation and Changing Prices

         The  Consolidated  Financial  Statements  and Notes  thereto  presented
herein have been  prepared in  accordance  with  generally  accepted  accounting
principles  which require the  measurement of financial  position and results of
operations in terms of historical  dollars  without  considering  changes in the
relative purchasing power of money over time because of inflation. The impact of
inflation is reflected in the increased cost of the Company's operations. Unlike
most  industrial  companies,  virtually all of the assets and liabilities of the
Company  are  monetary  in  nature.  As a  result,  interest  rates  have a more
significant  impact on the  Company's  performance  than the  effects of general
levels  of  inflation.  Interest  rates  do not  necessarily  move  in the  same
direction or in the same magnitude as the prices of goods and services.

                                       15
<PAGE>
Effect of New Accounting Standards

         Statement of Financial Accounting Standards ("SFAS") No. 130, Reporting
Comprehensive  Income,  will be effective for the Company for the year beginning
July 1, 1998,  and  establishes  the  standards for the reporting and display of
comprehensive   income  in  the  financial   statements.   Comprehensive  income
represents net earnings and certain amounts  reported  directly in stockholders'
equity,  such  as  the  net  unrealized  gain  or  loss  on   available-for-sale
securities. The Company expects to adopt SFAS No. 130 when required.

         SFAS No. 131,  Disclosure  About  Segments of an Enterprise and Related
Information,  will be effective for the Company for the year  beginning  July 1,
1998 and establishes disclosure  requirements for segment operation disclosures.
The Company expects to adopt SFAS No. 131 when required.

         SFAS  No.  132,   Employers'   Disclosures  about  Pensions  and  Other
Postretirement  Benefits,  will be  effective  for  the  Company  for  the  year
beginning July 1, 1998, and revises the disclosure  requirements for pension and
other post-retirement  benefits plans. The Company expects to adopt SFAS No. 132
when required.

         SFAS  No.  133,  Accounting  for  Derivative  Instruments  and  Hedging
Activities, will be effective for the Company beginning July 1, 1999. Management
is evaluating the impact the adoption of SFAS No. 133 will have on the Company's
consolidated financial statements and expects to adopt SFAS 133 when required.



                                       16

<PAGE>


                  HORIZON FINANCIAL SERVICES
                  CORPORATION AND SUBSIDIARIES

                  Consolidated Financial Statements

                  June 30, 1998 and 1997

                  (With Independent Auditors' Report Thereon)

--------------------------------------------------------------------------------



 



<PAGE>

                          Independent Auditors' Report



   The Board of Directors
   Horizon Financial Services Corporation
   Oskaloosa, Iowa:


   We have  audited  the  accompanying  consolidated  balance  sheets of Horizon
   Financial Services  Corporation and subsidiaries as of June 30, 1998 and 1997
   and the related consolidated  statements of operations,  stockholders' equity
   and cash flows for each of the years in the three-year  period ended June 30,
   1998. These consolidated  financial  statements are the responsibility of the
   Company's  management.  Our  responsibility is to express an opinion on these
   consolidated financial statements based on our audits.

   We  conducted  our audits in  accordance  with  generally  accepted  auditing
   standards.  Those  standards  require  that we plan and  perform the audit to
   obtain reasonable  assurance about whether the financial  statements are free
   of  material  misstatement.  An audit  includes  examining,  on a test basis,
   evidence supporting the amounts and disclosures in the financial  statements.
   An  audit  also  includes  assessing  the  accounting   principles  used  and
   significant  estimates made by management,  as well as evaluating the overall
   financial  statement  presentation.  We  believe  that our  audits  provide a
   reasonable basis for our opinion.

   In our  opinion,  the  consolidated  financial  statements  referred to above
   present fairly, in all material  respects,  the financial position of Horizon
   Financial Services  Corporation and subsidiaries as of June 30, 1998 and 1997
   and the  results  of their  operations  and their  cash flows for each of the
   years in the  three-year  period  ended June 30,  1998,  in  conformity  with
   generally accepted accounting principles.





                                                        /s/KPMG Peat Marwick LLP
                                                        ------------------------
                                                           KPMG Peat Marwick LLP

   Des Moines, Iowa
   July 29, 1998


                                       17
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

 (1)    Summary of Significant Accounting Policies

        Description of the Business and Concentration  of Credit

        Horizon Financial Services  Corporation and subsidiaries (the Company or
        the  Parent  Company)  is a  thrift  holding  company  headquartered  in
        Oskaloosa, Iowa. The Company was organized for the purpose of owning the
        outstanding stock of Horizon Federal Savings Bank, FSB, (the Bank).

        The Bank serves Mahaska  County,  Marion County,  and to a lesser extent
        Wapello  County  through  its  three  retail  offices,  two of which are
        located in Oskaloosa, Iowa, and one located in Knoxville, Iowa. The Bank
        is primarily  engaged in  attracting  retail  deposits  from the general
        public and investing  those funds in  residential  and  commercial  real
        estate loans and other consumer and commercial loans in its central Iowa
        market  area.  Although the Bank has a  diversified  loan  portfolio,  a
        substantial  portion of its  borrowers  ability to repay  their loans is
        dependent upon the economic conditions in the Company's market area.

        Consolidation and Basis of Presentation

        The consolidated  financial  statements  include the accounts of Horizon
        Financial Services Corporation and its wholly owned subsidiary, the Bank
        and its wholly  owned  subsidiary,  Horizon  Investment  Services,  Inc.
        Horizon Investment Services, Inc. provides investment products and sells
        credit  life   insurance  to   customers  of  the  Bank.   All  material
        intercompany accounts and transactions have been eliminated.

        The preparation of consolidated  financial statements in conformity with
        generally accepted  accounting  principles  requires  management to make
        estimates and assumptions that affect the reported amounts of assets and
        liabilities  and disclosure of contingent  assets and liabilities at the
        date of the consolidated  financial  statements and the reported amounts
        of revenues and expenses  during the reporting  period.  Actual  results
        could  differ  from  those  estimates.   Material   estimates  that  are
        particularly   susceptible   to   significant   changes  relate  to  the
        determination of the allowance for losses on loans.

        Regulatory Capital

        The Bank is  required  by the  Office  of  Thrift  Supervision  (OTS) to
        maintain  prescribed levels of regulatory capital. At June 30, 1998, the
        requirements   were  met,  and   management   anticipates   meeting  the
        requirements at June 30, 1999.

        Cash and Cash Equivalents

        For purposes of the statements of cash flows, the Company  considers all
        short-term  investments  with a maturity of three months or less at date
        of purchase to be cash  equivalents.  Cash and cash equivalents  include
        interest  earning deposits of $3,581,000 and $2,890,000 at June 30, 1998
        and 1997, respectively.
<PAGE>
        Earnings Per Share

        Basic earnings per share,  pursuant to Statement of Financial Accounting
        Standards  (SFAS) No. 128,  Earnings Per Share, is determined  using net
        income and weighted  average  common  shares  outstanding,  decreased by
        unearned  employee stock ownership plan (ESOP) shares.  Diluted earnings
        per share, as defined by SFAS No. 128 is computed by dividing net income
        by the weighted average common shares, decreased by unearned ESOP shares
        and increased by assumed  incremental common shares issued. All earnings
        per share data has been restated to reflect the two-for-one  stock split
        effected in the form of a stock  dividend on November 10, 1997.  Amounts
        used in the  determination  of basic and diluted  earnings per share for
        the years ended June 30,  1998,  1997 and 1996 are shown in table on the
        following page.


                                                                     (Continued)

                                       22
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
                                                             1998            1997           1996
                                                          ---------        -------        -------  
<S>                                                       <C>              <C>            <C>      
       Net income ........................                $ 589,384        278,492        376,461  
                                                          ---------        -------        -------  
                                                                                                   
       Weighted average common shares outstanding           862,720        863,442        936,718  
       Less - unearned ESOP shares .......                  (31,279)       (44,502)       (59,002) 
                                                          ---------        -------        -------  
                                                                                                   
       Weighted average common shares - basic               831,441        818,940        877,716  
                                                                                                   
       Assumed incremental common shares issued                                                    
           upon exercise of stock options                    29,425         24,410         16,004  
                                                          ---------        -------        -------  
                                                                                                   
       Weighted average common shares - diluted             860,866        843,350        893,720  
                                                          =========        =======        =======  
</TABLE>                                                          
        Securities Available-for-sale

        The Company  classifies  investment  securities  based on the  Company's
        intended holding period.  Securities which may be sold prior to maturity
        to meet liquidity  needs,  to respond to market changes or to adjust the
        Company's asset-liability position are classified as available-for-sale.
        Securities  which the Company intends to hold to maturity are classified
        as held-to-maturity.

        Securities  available-for-sale are recorded at fair value. The aggregate
        unrealized  gains or losses,  net of the effect of taxes on income,  are
        recorded as a component of stockholders' equity.  Discounts and premiums
        are accreted and amortized,  respectively, over the term of the security
        except  for   mortgage-backed   and  related   securities  and  stripped
        mortgage-backed  securities  which are accreted and  amortized  over the
        period of  estimated  cash  flows  using  the  interest  method.  Actual
        prepayment  experience on  mortgage-backed  and related  securities  and
        stripped  mortgage-backed  securities is periodically  reviewed, and the
        timing of accretion or amortization is adjusted accordingly.

        Gain or loss on sale is recognized in the statements of operations using
        the specific identification method.

        Allowance for Losses on Loans

        The  allowance  for losses on loans and real  estate are  maintained  at
        amounts  considered  adequate to provide for such losses.  The allowance
        for losses on loans is based on management's  periodic evaluation of the
        loan portfolio and reflects an amount that, in management's  opinion, is
        adequate to absorb losses in the existing  portfolio.  In evaluating the
        portfolio,   management  takes  into  consideration   numerous  factors,
        including current economic conditions,  prior loan loss experience,  the
        composition  of  the  loan  portfolio  and  management's   estimates  of
        anticipated credit losses.
<PAGE>
        Accrued interest  receivable on loans which become more than ninety days
        in arrears is charged to income.  Subsequently,  interest  income is not
        recognized  on  such  loans  until  collected  or  until  determined  by
        management to be collectable.

        Loans Receivable

        Under the Company's credit  policies,  all loans with interest more than
        ninety days in arrears and restructured loans are considered to meet the
        definition of impaired  loans.  Loan impairment is measured based on the
        present  value of expected  future cash flows  discounted  at the loan's
        effective interest rate except, where more practical,  at the observable
        market price of the loan or the fair value of the collateral if the loan
        is collateral dependent.

        Loans  held for sale  are  stated  at the  lower of  individual  cost or
        estimated  fair  value.  Loans  are  sold on a  nonrecourse  basis  with
        servicing  released  and gains and  losses are  recognized  based on the
        difference between sales proceeds and the carrying value of the loan.

                                                                     (Continued)
                                       23
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        Loan Origination Fees and Related Costs

        Mortgage  loan  origination  fees and certain  direct  loan  origination
        costs,  if material,  are deferred and the net fee or cost is recognized
        in operations using the interest method.  Direct loan origination  costs
        for other loans are expensed, as such costs are not material in amount.

        Real Estate

        Investment real estate  represents a limited  partnership  interest in a
        low income housing apartment  complex.  The investment in the low income
        housing complex is carried at cost,  adjusted for earnings and losses of
        the limited partnership.

        Real estate  acquired in  settlement of loans is carried at the lower of
        cost or fair value.  When property is acquired through  foreclosure or a
        loan is considered impaired, any excess of the related loan balance over
        fair value is charged to the allowance for losses on loans. An allowance
        for real estate is provided as circumstances indicate additional loss on
        the property and is charged to noninterest expense.

        Financial Instruments with Off Balance Sheet Risk

        In the normal  course of  business  to meet the  financing  needs of its
        customers, the Bank is a party to financial instruments with off balance
        sheet risk,  which  include  commitments  to extend  credit.  The Bank's
        exposure  to  credit  loss in the event of  nonperformance  by the other
        party  to  the  commitments  to  extend  credit  is  represented  by the
        contractual amount of those  instruments.  The Bank uses the same credit
        policies  in  making  commitments  as  it  does  for  on  balance  sheet
        instruments.

        Commitments  to extend credit are  agreements to lend to a customer,  as
        long as there  is no  violation  of any  conditions  established  in the
        contract.  Commitments  generally have fixed  expiration  dates or other
        termination  clauses and may require payment of a fee. Since many of the
        commitments  are expected to expire  without being drawn upon, the total
        commitment amounts do not necessarily represent future cash requirements
        (see  note  3).  Each  customer's  creditworthiness  is  evaluated  on a
        case-by-case  basis.  The  amount  of  collateral  obtained,  if  deemed
        necessary by the Bank, upon extension of credit is based on management's
        credit evaluation of the counterparty.

        Office Property and Equipment

        Office property and equipment are recorded at cost, and  depreciation is
        accumulated on a straight-line  basis over the estimated useful lives of
        the related assets. Estimated lives are forty years for office buildings
        and five to ten years for furniture, fixtures, and equipment.

        Maintenance  and repairs are charged  against  income.  Betterments  are
        capitalized  and  subsequently  depreciated.  The cost  and  accumulated
        depreciation  of  properties   retired  or  otherwise  disposed  of  are
        eliminated from the asset and accumulated depreciation accounts. Related
        profit or loss from such transactions is credited or charged to income.
<PAGE>
        Treasury Stock

        Treasury  stock is accounted for by the cost method,  whereby  shares of
        common stock reacquired are recorded at their purchase price.

                                                                     (Continued)
                                       24
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        Taxes on Income

        The  Company  files  a  consolidated  federal  income  tax  return.  For
        financial  statement  purposes,  taxes on income are also presented on a
        consolidated  basis.  For  state  purposes,   the  Company  and  Horizon
        Investment Services, Inc.
        file income tax returns and the Bank files a franchise tax return.

        Generally  accepted  accounting  principles require use of the asset and
        liability method of accounting for income taxes, and deferred tax assets
        and  liabilities   are  recognized  for  the  future  tax   consequences
        attributable  to differences  between the financial  statement  carrying
        amounts of existing  assets and  liabilities  and their  respective  tax
        basis.  Deferred tax assets and  liabilities  are measured using enacted
        tax  rates  expected  to apply to  taxable  income in the years in which
        those temporary differences are expected to be recovered or settled. The
        effect on deferred tax assets and  liabilities  of a change in tax rates
        is recognized in income in the period that includes the enactment date.

        Stock Option Plan

        The Company  has  adopted  the  provisions  of  Statement  of  Financial
        Accounting   Standards   (SFAS)   123,   "Accounting   for   Stock-Based
        Compensation,"  which permits  entities to recognize as expense over the
        vesting period the fair value of all  stock-based  awards on the date of
        grant. Alternatively, SFAS 123 also allows entities to continue to apply
        the  provisions  of  Accounting  Principles  Board (APB) Opinion No. 25,
        "Accounting for Stock Issued to Employees," and related  interpretations
        and provide pro forma net earnings and pro forma net earnings per common
        share  disclosures  for employee stock option grants made  subsequent to
        the adoption date as if the fair-value-based  method defined in SFAS 123
        had been applied. APB Opinion No. 25 requires compensation expense to be
        recorded  only if on the date of grant the current  market  price of the
        underlying  stock exceeded the exercise  price.  The Company has made no
        option grants since the adoption of SFAS 123.

        Fair Value of Financial Instruments

        The Company's  fair value  estimates,  methods and  assumptions  for its
        financial instruments are set forth below:

        o    Cash and Cash  Equivalents  and  Accrued  Interest  Receivable  and
             Payable - The carrying amount approximates the estimated fair value
             due to the short-term nature of those instruments.

        o    Securities  Available-for-sale  -  The  fair  value  of  securities
             available-for-sale  is estimated  based on bid prices  published in
             financial  newspapers,  bid  quotations  received  from  securities
             dealers or quoted  market prices of similar  instruments,  adjusted
             for differences  between the quoted instruments and the instruments
             being valued.
<PAGE>
        o    Loans - Fair  values are  estimated  for  portfolios  of loans with
             similar  financial  characteristics.  Loans are segregated by type,
             such as commercial, real estate and installment.

             The fair value of loans is calculated by discounting scheduled cash
             flows  through the  estimated  maturity  using the current rates at
             which similar loans would be made to borrowers  with similar credit
             ratings.  The  estimate  of  maturity  is based  on the  historical
             experience, with repayments for each loan classification,  modified
             as required by an  estimate of the effect of current  economic  and
             lending conditions. The effect of nonperforming loans is considered
             in assessing the credit risk inherent in the fair value estimate.

        o    Federal  Home Loan Bank (FHLB)  Stock - The value of the FHLB stock
             is equivalent to its carrying value because the stock is redeemable
             at par value.

                                                                     (Continued)
                                       25
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        o    Deposits - The fair value of deposits with no stated maturity, such
             as  checking,  savings and money market  accounts,  is equal to the
             amount payable on demand. The fair value of certificates of deposit
             is based on the  discounted  value of contractual  cash flows.  The
             discount rate is estimated  using the rates  currently  offered for
             deposits of similar remaining maturities.  The fair value estimates
             do not include the benefit that  results from the low-cost  funding
             provided  by  the  deposit  liabilities  compared  to the  cost  of
             borrowing funds in the market.

        o    Advances  from the FHLB - The fair value of advances  from the FHLB
             is  calculated  by  discounting  the  scheduled   payments  through
             maturity.  The discount rate is estimated using the rates currently
             offered for similar instruments.

        o    Off Balance Sheet  Instruments - The fair value of  commitments  to
             extend  credit and unused  lines of credit is  estimated  using the
             difference  between  current levels of interest rates and committed
             rates.

        o    Limitations - Fair value  estimates are made at a specific point in
             time,  based on relevant market  information and information  about
             the   financial   instrument.   Because  no  market  exists  for  a
             significant  portion of the Company's financial  instruments,  fair
             value  estimates are based on judgments  regarding  future expected
             loss experience,  current economic conditions, risk characteristics
             of various financial instruments and other factors. These estimates
             are subjective in nature and involve  uncertainties  and matters of
             significant  judgment and,  therefore,  cannot be  determined  with
             precision.  Changes in assumptions could  significantly  affect the
             estimates.

        Effect of New Accounting Standards

        SFAS No. 130, Reporting  Comprehensive Income, will be effective for the
        Company  for the  year  beginning  July 1,  1998,  and  establishes  the
        standards for the reporting and display of  comprehensive  income in the
        financial  statements.  Comprehensive income represents net earnings and
        certain amounts reported directly in stockholders'  equity,  such as the
        net  unrealized  gain  or  loss on  available-for-sale  securities.  The
        Company expects to adopt SFAS No 130 when required.

        SFAS No. 131,  Disclosure  About  Segments of an Enterprise  and Related
        Information,  will be effective  for the Company for the year  beginning
        July  1,  1998  and  establishes  disclosure  requirements  for  segment
        operation  disclosures.  The Company  expects to adopt SFAS No. 131 when
        required.

        SFAS  No  132,   Employers'   Disclosures   about   Pensions  and  Other
        Postretirement  Benefits, will be effective for the Company for the year
        beginning  July 1, 1998,  and revises the  disclosure  requirements  for
        pension and other postretirement  benefits plans. The Company expects to
        adopt SFAS 132 when required.
<PAGE>
        SFAS  No.  133,  Accounting  for  Derivative   Instruments  and  Hedging
        Activities,  will be effective for the Company  beginning  July 1, 1999.
        Management  is  evaluating  the impact the adoption of SFAS No. 133 will
        have on the Company's  consolidated  financial statements and expects to
        adopt SFAS 133 when required.

                                                                     (Continued)
                                       26
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

 (2)    Securities Available-for-sale

        Securities available-for-sale at June 30, 1998 and 1997 were as follows:
<TABLE>
<CAPTION>
                                                                                  Gross           Gross
                                                                 Amortized      unrealized      unrealized          Fair
                            Description                            cost            gains          losses            value
---------------------------------------------------------------------------------------------------------------------------
<S>                                                          <C>                 <C>             <C>             <C>    
       1998:
           FHLB bonds - due beyond five years,
              but within ten years                           $    1,000,000            -           131,250          868,750
           Small Business Administration guaranteed
              loan participation certificates                       955,787        16,679               -           972,466
           Mortgage-backed and related securities:
              Mortgage-backed securities                            672,987            -             5,920          667,067
              Collateralized mortgage obligations                11,624,160       101,948            3,089       11,723,019
           Mutual funds                                           1,000,000            -                -         1,000,000
           Equity securities                                      1,430,056        82,300           83,969        1,428,387
----------------------------------------------------------------------------------------------------------------------------

                                                                 16,682,990       200,927          224,228       16,659,689

           Stripped mortgage-backed securities:
              Principal only                                         10,823            -             4,754            6,069
              Interest only                                       8,537,520        13,807        1,295,367        7,255,960
----------------------------------------------------------------------------------------------------------------------------

                                                             $   25,231,333       214,734        1,524,349       23,921,718
----------------------------------------------------------------------------------------------------------------------------

       1997:
           U. S. treasury note, due within one year          $       99,925         2,861               -           102,786
           FHLB bonds - due beyond five years,
              but within ten years                                1,000,000            -           150,946          849,054
           Small Business Administration guaranteed
              loan participation certificates                       983,898            -            12,303          971,595
           Mortgage-backed and related securities:
              Mortgage-backed securities                          3,021,148        29,546           24,018        3,026,676
              Collateralized mortgage obligations                18,131,580        88,307           82,043       18,137,844
           Equity securities                                        579,775         9,800              625          588,950
----------------------------------------------------------------------------------------------------------------------------

                                                                 23,816,326       130,514          269,935       23,676,905

           Stripped mortgage-backed securities:
              Principal only                                         13,862            -             6,089            7,773
              Interest only                                       1,259,083         2,587            4,114        1,257,556
----------------------------------------------------------------------------------------------------------------------------

                                                             $   25,089,271       133,101          280,138       24,942,234
============================================================================================================================
</TABLE>
<PAGE>
        Sales of securities available-for-sale resulted in the following for the
three years ended June 30:
<TABLE>
<CAPTION>
                                                                               1998              1997            1996
----------------------------------------------------------------------------------------------------------------------------
<S>                                                                      <C>                    <C>              <C>      
       Proceeds                                                          $    18,838,215        4,434,596        1,701,971
       Gross realized gains                                                      330,031           87,499           41,442
       Gross realized losses                                                      21,990            6,096            2,244
=============================================================================================================================
</TABLE>
                                                                     (Continued)
                                       27

<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        During  1998,  the  Company  recognized  a write down of  $475,000  on a
        interest only stripped mortgage-backed security resulting from a decline
        in fair value that was judged to be other than temporary.

        The Company has investments in certain  securities  which are classified
        as high risk and are found  within the caption  Interest  Only  Stripped
        Mortgage-backed  Securities.  Such  securities  have a weighted  average
        yield of 9.54% which will be used to accrue income in future periods.

        At June 30,  1998,  certain  securities  available-for-sale  with a fair
        value of approximately  $6,100,000 were pledged as collateral for public
        funds deposits.

 (3)    Loans Receivable

        At June 30, 1998 and 1997, loans receivable consisted of the following:
<TABLE>
<CAPTION>
                                                              1998              1997
-------------------------------------------------------------------------------------------
<S>                                                     <C>                    <C>       
       Residential real estate loans:
           One-to-four-family                           $    33,728,158        34,488,297
           One-to four-family held for sale                     538,300           136,800
           Multifamily                                        1,112,894           657,818
           Construction                                       1,999,818           829,266
-------------------------------------------------------------------------------------------
                                                             37,379,170        36,112,181

       Commercial real estate loans                           4,471,829         3,944,435

       Total real estate                                     41,850,999        40,056,616
-------------------------------------------------------------------------------------------
       Consumer loans:
           Automobile                                         3,840,944         4,051,259
           Home improvement                                   3,150,311         2,352,928
           Deposit accounts                                     178,883           221,613
           Other                                              2,319,831         1,541,457
-------------------------------------------------------------------------------------------
       Total consumer                                         9,489,969         8,167,257
-------------------------------------------------------------------------------------------
       Commercial business loans                              5,682,429         5,123,735
-------------------------------------------------------------------------------------------

                                                             57,023,397        53,347,608
      Less:
           Loans in process                                     597,825           732,186
           Deferred fees and discounts                           80,681            74,109
           Allowance for losses on loans                        348,473           348,028
-------------------------------------------------------------------------------------------

                                                        $    55,996,418        52,193,285
===========================================================================================
</TABLE>
                                                                     (Continued)
                                       28
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        At June 30, 1998, the Bank had committed to originate  $690,000 of fixed
        rate loans.  In addition,  the Bank had  customers  with unused lines of
        credit totaling $870,000 at June 30, 1998.

        At June 30, 1998 and 1997, the Bank had nonaccrual loans of $922,000 and
        $469,000,  respectively.  The  allowance  for losses on loans related to
        these   impaired   loans  was   approximately   $90,000   and   $17,000,
        respectively.  The  average  balances  of such loans for the years ended
        June 30, 1998,  1997 and 1996,  were  $745,000,  $523,000 and  $875,000,
        respectively. For the years ended June 30, 1998, 1997 and 1996, interest
        income which would have been recorded  under the original  terms of such
        loans was approximately $96,000, $57,000 and $82,000,  respectively, and
        interest income actually  recorded  amounted to  approximately  $48,000,
        $37,000 and $43,000, respectively.

        Loan  customers  of the Bank  include  certain  executive  officers  and
        directors and their related interests and associates.  All loans to this
        group were made in the ordinary  course of business at prevailing  terms
        and conditions.  Changes in loans outstanding to executive  officers and
        directors for the years ended June 30, 1998 and 1997 were as follows:
<TABLE>
<CAPTION>
                                                     1998            1997
-------------------------------------------------------------------------------
<S>                                             <C>                   <C>   
       Balance at beginning of year             $     192,106         25,440
       Advances                                       111,000        175,000
       Repayments                                     (18,032)        (8,334)
-------------------------------------------------------------------------------

       Balance at end of year                   $     285,074        192,106
===============================================================================
</TABLE>
 (4)    Allowance for Losses on Loans

        Following  is a summary  of the  allowance  for  losses on loans for the
three years ending June 30, 1998:
<TABLE>
<CAPTION>
                                                      1998             1997            1996
-----------------------------------------------------------------------------------------------
<S>                                             <C>                     <C>            <C>    
       Balance at beginning of year             $      348,028          317,645        291,005
       Provision for losses                             94,000          252,111        328,192
       Charge-offs                                     (96,388)        (226,701)      (319,155)
       Recoveries                                        2,834            4,973         17,603
-----------------------------------------------------------------------------------------------

       Balance at end of year                   $      348,474          348,028        317,645
===============================================================================================
</TABLE>
                                                                     (Continued)

                                       29
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

 (5)    Real Estate

        Following is a summary of real estate as of June 30, 1998 and 1997:
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------
                                                         1998           1997
--------------------------------------------------------------------------------
<S>                                                 <C>                  <C>    
       Real estate acquired through foreclosure     $         -          342,816
       Real estate acquired for investment               190,402         207,874
--------------------------------------------------------------------------------

                                                    $    190,402         550,690
================================================================================
</TABLE>
        There were no  allowances  for losses on real estate for the years ended
        June 30, 1998, 1997 and 1996, respectively.


 (6)    Office Property and Equipment

        At June 30,  1998 and 1997,  the cost and  accumulated  depreciation  of
office property and equipment were as follows:
<TABLE>
<CAPTION>
                                                        1998              1997
-----------------------------------------------------------------------------------
<S>                                               <C>                       <C>    
       Land                                       $       216,595           142,595
       Office buildings                                 1,106,698         1,091,698
       Furniture, fixtures and equipment                1,098,418           994,183
       Automobile                                          20,363            17,380
-----------------------------------------------------------------------------------

                                                        2,442,074         2,245,856

       Less accumulated depreciation                    1,315,558         1,163,843
-----------------------------------------------------------------------------------

                                                  $     1,126,516         1,082,013
===================================================================================
</TABLE>
<PAGE>
 (7)    Accrued Interest Receivable

        At June 30, 1998 and 1997, accrued interest receivable  consisted of the
following:
<TABLE>
<CAPTION>
                                                 1998            1997
------------------------------------------------------------------------ 
<S>                                         <C>                  <C>    
       Loans receivable                     $     498,063        449,104
       Securities available-for-sale              185,057        105,135
------------------------------------------------------------------------ 

                                            $     683,120        554,239
========================================================================
</TABLE>
                                                                     (Continued)

                                       30
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
 (8)    Deposits

        Deposit  account  balances at June 30, 1998 and 1997 are  summarized  as
follows:
<TABLE>
<CAPTION>
                                                        1998               1997
------------------------------------------------------------------------------------ 
<S>                                              <C>                      <C>       
       Balance by account type:
           Savings                               $     18,275,661         16,828,605
           Money market                                   598,734            835,832
           Demand and NOW                               6,453,159          6,752,306
           Certificates of deposit                     34,817,312         33,224,629
------------------------------------------------------------------------------------ 

                                                 $     60,144,866         57,641,372
====================================================================================
</TABLE>

        The  aggregate   amount  of  certificates  of  deposit  with  a  minimum
        denomination of $100,000 was approximately  $5,994,000 and $3,241,000 at
        June 30, 1998 and 1997, respectively.

        At June 30, 1998,  scheduled  maturities of certificates of deposit were
        as follows:
 
       1999                               $     22,796,838
       2000                                      8,272,644
       2001                                      2,864,707
       2002                                        501,337
       2003 and thereafter                         381,786
                                          ---------------- 
                                          $     34,817,312
                                          ================
 
        Interest expense on deposits is summarized as follows:
<TABLE>
<CAPTION>
                                                  Years ended June 30,
                                    ------------------------------------------------
                                          1998             1997            1996
------------------------------------------------------------------------------------ 
<S>                                 <C>                     <C>              <C>    
       Savings                      $      742,894          701,023          442,927
       Money market                         17,843           22,275           28,029
       Demand and NOW                      104,480           93,254           82,600
       Certificates of deposit           1,898,633        1,865,783        2,039,863
------------------------------------------------------------------------------------ 

                                    $    2,763,850        2,682,335        2,593,419
====================================================================================
</TABLE>
        At June 30, 1998 and 1997,  accrued interest payable on deposits totaled
$355,860 and $102,501, respectively.

                                                                     (Continued)
                                       31
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

 (9)    Advances from FHLB

        Advances from FHLB at June 30, 1998 and 1997, were as follows:

<TABLE>
<CAPTION>
                                                                        1998                             1997
                                                          -----------------------------       --------------------------
                                                                              Weighted-                        Weighted-
                                                                               average                          average
                                                               Amount           rates           Amount           rates
------------------------------------------------------------------------------------------------------------------------- 
<S>                                                       <C>                  <C>            <C>               <C>
       Advance maturity:
           Within one year:
              Variable                                    $     6,000,000      various         16,000,000       various
              Fixed                                               937,912        5.90%          2,063,358          6.20%
           Beyond one year, but within five years -
              Fixed                                               100,262        5.80           1,038,175          5.89
           Beyond five years but within ten years -
              Fixed                                            13,000,000        5.03                  -            -
                                                          ---------------                      ---------- 

                                                          $    20,038,174                      19,101,533
                                                          ===============                      ==========
</TABLE>
        Advances from FHLB are secured by stock in FHLB.  In addition,  the Bank
        has agreed to maintain  unencumbered  additional security in the form of
        certain  residential  mortgage  loans  aggregating  no less than 130% of
        outstanding advances. Variable rate advances are based on LIBOR.
<PAGE>
(10)    Taxes on Income

        Taxes on income for the years ended June 30, 1998,  1997 and 1996,  were
        as follows:
<TABLE>
<CAPTION>
                                           1998                                                1997
                      ------------------------------------------------    -----------------------------------------------
                            Federal        State           Total               Federal        State           Total
                            -------        -----           -----               -------        -----           -----
<S>                   <C>                      <C>           <C>                <C>             <C>             <C>    
         Current      $     229,700            65,000        294,700            121,300         24,000          145,300
         Deferred            19,000             3,000          22,000                -              -                 -
                                                                              ---------        -------      -----------
                      $     248,700            68,000        316,700            121,300         24,000          145,300
                                                                              =========        =======      ===========
<CAPTION>
                                                                        1996
                                                  --------------------------------------------------
                                                         Federal          State           Total
<S>                                                        <C>            <C>              <C>    
                                Current                    169,000        28,000           197,000
                                Deferred                        -             -                 -
                                                       -----------     ---------       ----------
                                                           169,000        28,000           197,000
                                                       ===========     =========       ===========
</TABLE>

                                                                     (Continued)

                                       32
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        Taxes on income differ from the amounts computed by applying the federal
        income  tax  rate of 34% to  earnings  before  taxes on  income  for the
        following reasons, expressed in percentages:
<TABLE>
<CAPTION>
                                                                Years ended June 30,
                                                        1998             1997            1996
-----------------------------------------------------------------------------------------------
<S>                                                     <C>              <C>              <C> 
       Federal income tax rate                          34.0%            34.0             34.0
       Items affecting federal income tax rate:
           State tax, net of federal benefit             4.9              3.7              3.2
           Low income housing tax credits               (4.6)            (9.9)            (5.3)
           Other, net                                     .7              6.5              2.5
-----------------------------------------------------------------------------------------------

                                                        35.0%            34.3             34.4
==============================================================================================
</TABLE>
        The tax effects of temporary  differences  that give rise to significant
        portions of the deferred tax assets and deferred tax liabilities at June
        30, 1998 and 1997 are presented below:
<TABLE>
<CAPTION>
                                                                         1998            1997
--------------------------------------------------------------------------------------------------
<S>                                                                 <C>                    <C>   
       Deferred tax assets:
           Accrued expenses not deducted                            $      37,000          44,000
           Unrealized losses on securities available-for-sale             489,000          54,000
           State net operating loss                                         6,000              -
           Loan loss allowance                                              1,000              -
           Other, net                                                       9,000           3,000
--------------------------------------------------------------------------------------------------

       Total gross deferred tax assets                                    542,000         101,000
--------------------------------------------------------------------------------------------------

       Deferred tax liabilities:
           FHLB stock dividends                                            57,000          62,000
           Accrued interest receivable not taxed                            8,000           7,000
           Deferred loan fees                                              71,000          60,000
           Loan loss allowance                                                 -           23,000
--------------------------------------------------------------------------------------------------

       Total gross deferred tax liabilities                               136,000         152,000
--------------------------------------------------------------------------------------------------

       Net deferred tax assets (liabilities)                        $     406,000         (51,000)
=================================================================================================
</TABLE>
<PAGE>
        There was no valuation  allowance  for  deferred  tax assets  during the
        years ended June 30, 1998, 1997 and 1996.

        Based  upon  the  Company's  level  of  historical  taxable  income  and
        anticipated future taxable income over the periods in which the deferred
        tax assets are  deductible,  management  believes it is more likely than
        not the Bank will realize the benefits of these deductible differences.

                                                                     (Continued)

                                       33
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

(11)    Employee Benefits

        Pension Plan

        The  Bank  has a  noncontributory,  nontrusteed  pension  plan  for  all
        eligible employees. The plan's assets include bonds, stocks,  commercial
        and residential mortgages and cash. The Bank's policy is to fund pension
        cost accrued.

        The  following  table sets forth the plan's  funded  status and  amounts
        recognized in the consolidated financial statements at June 30, 1998 and
        1997:
<TABLE>
<CAPTION>
                                                                                1998              1997
-------------------------------------------------------------------------------------------------------------
<S>           <C>      <C>                                                <C>                       <C>    
       Actuarial present value of benefit obligations -
           Accumulated benefit obligations, including vested
              benefits of $554,132 and $507,481 at June 30,
              1998 and 1997, respectively                                 $       617,355           558,929
----------------------------------------------------------------------------------------------------------- 

       Projected benefit obligation for services rendered to date              (1,044,684)         (981,480)
       Plan assets at fair value                                                1,048,560           829,431
------------------------------------------------------------------------------------------------------------ 

       Projected benefit obligation in (excess of) less than plan assets            3,876          (152,049)

       Unrecognized net (gain) loss from past experience different
           from that assumed and effects of changes in assumptions                (84,836)           53,604
       Unrecognized net assets at transition date being recognized
           over eighteen years                                                    (16,586)          (18,347)
------------------------------------------------------------------------------------------------------------ 

       Accrued pension liability                                          $       (97,546)         (116,792)
===========================================================================================================
</TABLE>
<PAGE>
        The  weighted-average  discount  rate and  rate of  increase  in  future
        compensation  levels used in determining the actuarial  present value of
        the projected  benefit  obligation at June 30, 1998 and 1997,  were each
        6.25%. The expected long-term rate of return on assets was 7.75%.
<TABLE>
<CAPTION>
                                                                                        Years ended June 30,
                                                                                1998             1997            1996
--------------------------------------------------------------------------------------------------------------------------
<S>                                                                       <C>                     <C>              <C>   
       Net pension expense included the following components:
           Service cost - benefits earned during the period               $      61,554           55,038           44,511
           Interest cost on projected benefit obligation                         59,256           54,529           46,894
           Actual return on plan assets                                        (179,902)         (80,873)        (103,298)
           Net amortization and deferral                                        114,392           28,880           60,280
--------------------------------------------------------------------------------------------------------------------------

       Net periodic pension expense                                       $      55,300           57,574           48,387
--------------------------------------------------------------------------------------------------------------------------
</TABLE>
                                                                     (Continued)

                                       34
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        ESOP Plan

        All  employees  meeting age and  service  requirements  are  eligible to
        participate in an ESOP established in June 1994.  Contributions  made by
        the Bank to the ESOP are allocated to participants by a formula based on
        compensation.  Participant  benefits become 100% vested after five years
        of service.  The ESOP purchased  80,962 shares (restated for two-for-one
        stock  dividend) in the Bank's  conversion  and is  accounted  for under
        Employers'  Accounting for Employee Stock Ownership Plans (SOP 93-6). At
        June 30, 1998 and 1997,  56,197 and 43,668  shares,  respectively,  were
        committed  to be  released,  and the fair value of the 23,251 and 35,780
        unearned shares was  approximately  $360,000 and $347,000.  ESOP expense
        was  $163,843,  $108,973  and $79,085 for the years ended June 30, 1998,
        1997 and 1996, respectively.

        Employment Agreements

        The Company has entered into employment agreements, which expire in July
        2000, with two of its executive officers.  The agreements provide, among
        other things, for payment to the officers of up to 299% of the officers'
        then  current  annual  compensation  in the  event  there is a change of
        control of the Company  where  employment  terminates  involuntarily  in
        connection with such change of control.

        Stock Options

        Certain  officers and directors of the Company have been granted options
        to purchase up to 89,222 shares of the Company's  $.01 par common stock.
        The  exercise  price is equal to the fair market  value of the shares at
        the date the  options  are  granted.  The options are subject to certain
        vesting  requirements  and, if unused,  the options will expire  October
        2004.
<PAGE>
        Changes in options  outstanding  and  exercisable  during 1998 and 1997,
        were as follows:
<TABLE>
<CAPTION>
                                  Exercisable          Outstanding          Option price
                                    options              options             per share
----------------------------------------------------------------------------------------
<S>                                 <C>                    <C>           <C>       <C>  
       June 30, 1995                 14,808                 74,042        $  5.50 - 6.06

           Vested                    14,808                     -            5.50 - 6.06
----------------------------------------------------------------------------------------

       June 30, 1996                 29,616                 74,042           5.50 - 6.06

           Vested                    14,809                     -            5.50 - 6.06
----------------------------------------------------------------------------------------

       June 30, 1997                 44,425                 74,042           5.50 - 6.06

           Vested                    14,809                     -            5.50 - 6.06
           Exercised                (28,862)               (28,862)          5.50 - 6.06
----------------------------------------------------------------------------------------

       June 30, 1998                 30,372                 45,180        $  5.50 - 6.06
========================================================================================
</TABLE>
                                                                     (Continued)

                                       35
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        Recognition and Retention Plan

        In 1995, the Company  established a recognition and retention plan (RRP)
        for certain executive officers and directors. The Company authorized the
        RRP to award  shares equal to  approximately  4% of the shares of common
        stock of the Company. The employees become vested in the shares of stock
        over a five-year period.  RRP expense for the years ended June 30, 1998,
        1997 and 1996, was $36,216, $36,216 and $36,222, respectively.

(12)    Stockholders' Equity

        Stock Conversion

        In order to grant priority to eligible  account  holders in the event of
        future  liquidation,  the  Bank,  at the time of  conversion  to a stock
        savings bank,  established a liquidation  account in the amount equal to
        the regulatory  capital as of March 31, 1993. In the event of the future
        liquidation  of the Bank,  eligible  account  holders  who  continue  to
        maintain  their  deposit   accounts  shall  be  entitled  to  receive  a
        distribution  from the  liquidation  account.  The  total  amount of the
        liquidation  account  will be  decreased  as the balance of the eligible
        account  holders is reduced  subsequent to the  conversion,  based on an
        annual determination of such balances.

        Regulatory Capital Requirements

        The Financial  Institution Reform,  Recovery and Enforcement Act of 1989
        (FIRREA) and the capital  regulations of the OTS promulgated  thereunder
        require institutions to have a minimum regulatory tangible capital equal
        to 1.5% of total  assets,  a minimum  3%  leverage  capital  ratio and a
        minimum 8% risk-based  capital ratio.  These capital standards set forth
        in the capital  regulations must generally be no less stringent than the
        capital  standards  applicable to national banks.  FIRREA also specifies
        the required  ratio of  housing-related  assets in order to qualify as a
        savings institution.

        The  Federal  Deposit  Insurance  Corporation  Improvement  Act of  1991
        (FDICIA)  established  additional  capital  requirements  which  require
        regulatory  action  against  depository   institutions  in  one  of  the
        undercapitalized categories defined in implementing regulations.  FDICIA
        requires depository  institutions to maintain a tangible equity ratio of
        2%.   Institutions   such  as  the  Bank,  which  are  defined  as  well
        capitalized,  must generally have a leverage  capital (core) ratio of at
        least 5%, a tier I risk-based  capital  ratio of at least 6% and a total
        risk-based  capital  ratio of at least 10%.  FDICIA  also  provides  for
        increased   supervision  by  federal  regulatory   agencies,   increased
        reporting  requirements  for insured  depository  institutions and other
        changes in the legal and regulatory  environment for such  institutions.
        The Bank met the regulatory  capital  requirements  at June 30, 1998 and
        1997.

        The Bank met all regulatory  capital  requirements  at June 30, 1998 and
        1997.

                                                                     (Continued)
                                       36
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

        The Bank's actual and required capital amounts and ratios as of June 30,
1998 were as follows:
<TABLE>
<CAPTION>
                                                                                                          To be well
                                                                                For capital            capitalized under
                                                                                 adequacy              prompt corrective
                                                         Actual                  purposes              action provisions
                                                  Amount       Ratio        Amount       Ratio        Amount        Ratio
-------------------------------------------------------------------------------------------------------------------------- 
<S>                                          <C>                 <C>    <C>               <C>     <C>                <C>        
       Tangible capital (to tangible assets) $   6,456,000       7.3%   $   1,773,000     2.0%    $          -        -  %
       Leverage/equity (core) capital
           (to adjusted tangible assets)         6,456,000       7.3        3,547,000     4.0         4,434,000       5.0
       Tier I risk-based capital
           (to risk-weighted assets)             6,456,000      12.7        2,042,000     4.0         3,063,000       6.0
       Risk-based (total) capital
           (to risk-weighted assets)             6,722,000      13.2        4,084,000     8.0         5,106,000      10.0
=========================================================================================================================
</TABLE>
        At June 30,  1998 and 1997,  the Bank had  federal  income  tax bad debt
        reserves of approximately $1,263,000 which constitute allocations to bad
        debt reserves for federal income tax purposes for which no provision for
        taxes on income had been made. If such allocations are charged for other
        than bad debt  losses,  taxable  income is  created to the extent of the
        charges.  The Bank's  retained  earnings  at June 30, 1998 and 1997 were
        substantially  restricted  because of the effect of these income tax bad
        debt reserves.

        Dividend Restrictions

        Federal  regulations  impose  certain  limitations  on  the  payment  of
        dividends  and  other  capital  distributions  by the  Bank.  Under  the
        regulations, a savings institution, such as the Bank, that will meet the
        fully phased-in capital requirements (as defined by the OTS regulations)
        subsequent to a capital distribution is generally permitted to make such
        capital   distribution   without  OTS   approval,   subject  to  certain
        limitations and restrictions as described in the regulations.  A savings
        institution  with total  capital in excess of  current  minimum  capital
        requirements  but not in excess of the fully  phased-in  requirements is
        permitted by the new regulations to make, without OTS approval,  capital
        distributions  of  between  25%  and  75% of its  net  earnings  for the
        previous four quarters less  dividends  already paid for such period.  A
        savings   institution   that  fails  to  meet  current  minimum  capital
        requirements is prohibited from making any capital distributions without
        prior approval from the OTS.
<PAGE>
(13)    Special Deposit Insurance Assessment

        On September 30, 1996, the Deposit Insurance Funds Act of 1996 (the Act)
        was signed into law. The Act imposed a one-time  special  assessment  of
        65.7 basis points on deposits  held as of March 31, 1995,  to capitalize
        the Savings  Association  Insurance Fund (SAIF).  All of the deposits of
        the Bank are SAIF insured.  The special  assessment of $330,875 was paid
        by the Bank on November 27, 1996.  Subsequent to the special assessment,
        the premium for  SAIF-insured  deposits was reduced from 23 basis points
        to 6.4 basis points,  thus reducing  deposit  insurance  expense for the
        Bank.

                                                                     (Continued)
                                       37
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

(14)    Fair Value of Financial Instruments

        The estimated fair values of the Company's  financial  instruments as of
        June 30, 1998 and 1997 were as follows:
<TABLE>
<CAPTION>
                                                                 June 30, 1998                      June 30, 1997
                                                      ---------------------------------      -----------------------------
                                                          Recorded            Fair           Recorded            Fair
                                                           amount            value            amount            value
-------------------------------------------------------------------------------------------------------------------------- 
<S>                                                   <C>                    <C>              <C>               <C>      
       Financial assets:
           Cash and cash equivalents                  $     6,366,619         6,366,619        5,621,242         5,621,242
           Securities available-for-sale                   23,921,718        23,921,718       24,942,234        24,942,234
           Loans                                           55,996,418        56,560,330       52,193,285        51,465,206
           FHLB stock                                       1,202,500         1,202,500          955,600           955,600
           Accrued interest receivable                        683,120           683,120          554,240           554,240
       Financial liabilities:
           Deposits                                        60,144,866        60,486,010       57,641,372        57,884,295
           FHLB advances                                   20,038,174        20,142,145       19,101,534        19,101,534
           Advance payments by borrowers
              for taxes and insurance                         407,050           407,050          400,663           400,663
           Accrued interest payable                           355,860           355,860          131,917           131,917
==========================================================================================================================
<CAPTION>
                                                          Notional         Unrealized        Notional         Unrealized
                                                            value        gains (losses)        value        gains (losses)
-------------------------------------------------------------------------------------------------------------------------- 
<S>                                                   <C>                    <C>              <C>               <C>      
       Off balance sheet assets:
           Commitments to extend credit               $       690,000                -           238,000                -
           Unused lines of credit                             870,000                -           422,000                -
==========================================================================================================================
</TABLE>

(15)    Contingency

        The Bank is involved in various  legal actions and  proceedings  arising
        from  the  normal  course  of  operations.   Management   believes  that
        liability,  if any, arising from such legal actions and proceedings will
        not have a  material  adverse  effect  upon the  consolidated  financial
        statements of the Company.

                                                                     (Continued)

                                       38
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

(16)    Horizon Financial Services  Corporation  (Parent Company Only) Financial
        Information

        The Parent  Company's  principal asset is its 100% ownership of the Bank
        and the Bank's  subsidiary.  The following  are the condensed  financial
        statements for the Parent Company:
<TABLE>
<CAPTION>
                            Condensed Balance Sheets

                                                                    1998              1997
------------------------------------------------------------------------------------------------
<S>                                                           <C>                       <C>    
       Cash and cash equivalents                              $       375,000           189,692
       Securities available-for-sale                                1,395,421         1,561,950
       Loans receivable, net                                          439,207            92,165
       Loans receivable from subsidiary                               129,205           193,798
       Investment in subsidiary                                     5,765,898         6,150,951
       Real estate                                                    190,402           207,874
       Interest receivable                                             18,185            20,834
       Income taxes receivable                                        175,375                -
------------------------------------------------------------------------------------------------

       Total assets                                           $     8,488,693         8,417,264
------------------------------------------------------------------------------------------------

       Accrued expenses and other liabilities                 $           873             4,603
       Common stock                                                    10,462             5,231
       Additional paid-in capital                                   4,894,744         4,795,400
       Retained earnings                                            5,730,257         5,305,946
       Treasury stock, at cost                                     (1,185,924)       (1,360,275)
       Unearned ESOP shares                                          (129,205)         (193,798)
       Unearned RRP shares                                            (11,439)          (47,655)
       Unrealized losses on securities available-for-sale            (821,075)          (92,188)
------------------------------------------------------------------------------------------------

       Total liabilities and equity                           $     8,488,693         8,417,264
------------------------------------------------------------------------------------------------

</TABLE>
                                                                     (Continued)

                                       39
<PAGE>
HORIZON FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
                                          Condensed Statements of Operations

                                                                       1998             1997              1996
-------------------------------------------------------------------------------------------------------------------
<S>                                                              <C>                     <C>                <C>    
       Interest income                                           $      123,091          177,996           178,035
       Equity in earnings of subsidiaries                               814,876          230,579           301,785
       Other income (expense)                                          (334,958)          27,053            29,598
       Other expenses                                                  (187,314)        (150,136)         (118,957)
-------------------------------------------------------------------------------------------------------------------

       Net earnings before tax                                          415,695          285,492           390,461

       Income tax (benefit) expense                                    (173,689)           7,000            14,000
-------------------------------------------------------------------------------------------------------------------

       Net earnings                                              $      589,384          278,492           376,461
===================================================================================================================
<CAPTION>
                                          Condensed Statements of Cash Flows

                                                                       1998             1997              1996
-------------------------------------------------------------------------------------------------------------------
<S>                                                              <C>                     <C>                <C>    
       Operating activities:
           Net earnings                                          $       589,384         278,492            376,461
           Equity in earnings of subsidiary                             (814,876)       (230,579)          (301,785)
           Other, net                                                    288,588          29,809             (8,380)
--------------------------------------------------------------------------------------------------------------------

       Net cash provided by operating activities                          63,096          77,722             66,296
--------------------------------------------------------------------------------------------------------------------

       Investing activities:
           Proceeds from sale of securities available-for-sale         2,647,147         272,962          1,071,422
           Purchase of securities available-for-sale                  (3,445,162)       (577,106)        (1,221,867)
           Principal collected on AFS securities                         599,306              -                  -
           Purchase of real estate                                            -               -             (65,000)
           Proceeds from the sale of real estate                              -           65,233                 -
           Loans receivable, net                                        (282,449)         60,505            738,030
--------------------------------------------------------------------------------------------------------------------

       Net cash (used in) provided by investing activities              (481,158)       (178,406)           522,585
--------------------------------------------------------------------------------------------------------------------

       Financing activities:
           Dividends from subsidiary                                     588,767         750,000            204,440
           Treasury stock acquired                                            -         (337,354)          (699,431)
           Exercise of stock options                                     159,585              -                  -
           Dividends paid                                               (144,982)       (130,032)          (148,580)
--------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
<S>                                                              <C>                     <C>                <C>    
       Net cash provided by (used in) financing activities               603,370         282,614           (643,571)
--------------------------------------------------------------------------------------------------------------------

       Net increase (decrease) in cash and cash equivalents              185,308         181,930            (54,690)

       Cash and cash equivalents at beginning of year                    189,692           7,762             62,452
--------------------------------------------------------------------------------------------------------------------

       Cash and cash equivalents at end of year                  $       375,000         189,692              7,762
====================================================================================================================
</TABLE>
                                                                     (Continued)
                                       40
<PAGE>
                     HORIZON FINANCIAL SERVICES CORPORATION
                             STOCKHOLDER INFORMATION
--------------------------------------------------------------------------------


ANNUAL MEETING

The Annual  Meeting of  Stockholders  will be held at 3:00 p.m.  local time,  on
October 22, 1998, at the main office of Horizon  Federal Savings Bank, 301 First
Avenue East, Oskaloosa, Iowa.


STOCK LISTING

Horizon  Financial  Services  Corporation  common  stock is traded on the Nasdaq
SmallCap Market under the symbol "HZFS."


PRICE RANGE OF COMMON STOCK

The high and low bid  quotations  for the common stock as reported on the Nasdaq
Stock Market, as well as dividends declared per share, is reflected in the table
below.  The  information set forth in the table below was provided by the Nasdaq
Stock Market.  Such  information  reflects  interdealer  prices,  without retail
mark-up, mark-down or commission and may not represent actual transactions.
<TABLE>
<CAPTION>
                                      FISCAL 1998 (1)                                                 FISCAL 1997 (1)
                       -----------------------------------------                             ---------------------------------
                           HIGH            LOW         DIVIDENDS                               HIGH        LOW       DIVIDENDS
                       ----------       --------       ---------                             -------      ------     ---------
<S>                    <C>              <C>             <C>           <C>                     <C>          <C>         <C>  
   First Quarter       $  10.00         $  9.25         $ .04         First Quarter          $ 7.50       $ 7.00      $ .04
   Second Quarter         14.50           10.375          .045        Second Quarter           7.625        7.25        .04
   Third Quarter          16.75           12.125          .045        Third Quarter            9.125        7.50        .04
   Fourth Quarter         16.875          15.50           .045        Fourth Quarter           9.875        8.50        .04
</TABLE>
----------------------------
(1) Restated to reflect the 2-for-1 stock split paid in the form of a 100% stock
dividend by the Company on November 10, 1997.

Cash dividend  payout is  continually  reviewed by  management  and the Board of
Directors.  The  Company  intends to  continue  its  policy of paying  quarterly
dividends;  however, the payment will depend upon a number of factors, including
capital requirements, regulatory limitations, the Company's financial condition,
results of  operations  and the Bank's  ability to pay dividends to the Company.
The Company relies  significantly upon such dividends  originating from the Bank
to accumulate  earnings for payment of cash dividends to its  stockholders.  See
Note 12 to the Notes to  Consolidated  Financial  Statements for a discussion of
restrictions on the Bank's ability to pay dividends.

At September 11, 1998, there were 879,942 shares of Horizon  Financial  Services
Corporation   common  stock  issued  and  outstanding  and   approximately   300
stockholders of record.

STOCKHOLDERS AND GENERAL INQUIRIES            TRANSFER AGENT

Robert W. DeCook, President and CEO           First Bankers Trust Company, N.A.
Horizon Financial Services Corporation        1201 Broadway
301 First Avenue East                         Quincy, IL 62301
Oskaloosa, Iowa  52577                        (217) 228-8000

                                       41
<PAGE>
                     HORIZON FINANCIAL SERVICES CORPORATION
                              CORPORATE INFORMATION
--------------------------------------------------------------------------------

COMPANY AND BANK ADDRESS

  301 First Avenue East                                Telephone:(515) 673-8328
  Oskaloosa, IA  52577                                 Fax:    (515) 673-0074



DIRECTORS OF THE BOARD

Robert W. DeCook
  Chairman of the Board, President and
  Chief Executive Officer of Horizon
  Financial Services Corporation and
  Horizon Federal Savings Bank

Gary L. Rozenboom
  Self-Employed Flooring Business
  Oskaloosa, Iowa

Dwight L. Groves
  Property Manager and Retired Restaurateur
  Oskaloosa, Iowa


Thomas L. Gillespie
  Vice President of Horizon Financial
  Services Corporation and Horizon
  Federal Savings Bank


Norman P. Zimmerman
  Retired Dentist and Former Mayor of the City
  of Oskaloosa
  Oskaloosa, Iowa



HORIZON FINANCIAL SERVICES CORPORATION EXECUTIVE OFFICERS

Robert W. DeCook
  President and Chief Executive Officer

Thomas L. Gillespie
  Vice President

Sharon K. McCrea
  Treasurer and Chief Financial Officer

<TABLE>
<CAPTION>
INDEPENDENT AUDITORS        CORPORATE COUNSEL            SPECIAL COUNSEL
<S>                         <C>                          <C>
KPMG Peat Marwick LLP       McCoy, Faulkner & Broerman   Silver, Freedman & Taff, L.L.P.
2500 Ruan Center            216 South First Street       1100 New York Avenue, N.W.
Des Moines, Iowa  50309     Oskaloosa, Iowa  52577       Seventh Floor
                                                         Washington, D.C.  20005
</TABLE>

                                       42