##### Table of Contents

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D. C. 20549



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FORM 10 - Q



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|x | Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
|- | ---------------------------------------------------------------------------------------



For the quarterly period ended September 30, 2004



| ̈ | Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
|- | ----------------------------------------------------------------------------------------



For the transition period from  to



Commission File Number: 0-20750



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STERLING BANCSHARES, INC.

(Exact name of registrant as specified in its charter)



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|                                                               |  |                                        
|-------------------------------------------------------------- |  | ---------------------------------------
|Texas                                                          |  | 74-2175590                             
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification Number)



|                                               |  |           
|---------------------------------------------- |  | ----------
|2550 North Loop West, Suite 600 Houston, Texas |  | 77092     
|(Address of principal executive office)        |  | (Zip Code)



713-466-8300

(Registrants telephone number, including area code)



---



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



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



As of November 2, 2004, there were outstanding 44,926,552 shares of common stock, par value $1.00 per share, of the registrant.



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##### Table of Contents

STERLING BANCSHARES, INC.

FORM 10-Q

FOR THE QUARTER ENDED SEPTEMBER 30, 2004

TABLE OF CONTENTS



|           |  |                                                                                       |  |   
|---------- |  | ------------------------------------------------------------------------------------- |  | --
|PART I.    |  | FINANCIAL INFORMATION                                                                 |  |   
|           |  |                                                                                      
|Item 1.    |  | Financial Statements                                                                  |  |   
|           |  |                                                                                      
|           |  | Consolidated Balance Sheets                                                           |  | 2 
|           |  |                                                                                      
|           |  | Consolidated Statements of Income                                                     |  | 3 
|           |  |                                                                                      
|           |  | Consolidated Statements of Shareholders Equity                                       |  | 4 
|           |  |                                                                                      
|           |  | Consolidated Statements of Cash Flows                                                 |  | 5 
|           |  |                                                                                      
|           |  | Notes to Consolidated Financial Statements                                            |  | 6 
|           |  |                                                                                      
|Item 2.    |  | Managements Discussion and Analysis of Financial Condition and Results of Operations |  | 16
|           |  |                                                                                      
|Item 3.    |  | Quantitative and Qualitative Disclosures about Market Risk                            |  | 30
|           |  |                                                                                      
|Item 4.    |  | Controls and Procedures                                                               |  | 30
|           |  |                                                                                      
|PART II.   |  | OTHER INFORMATION                                                                     |  |   
|           |  |                                                                                      
|Item 1.    |  | Legal Proceedings                                                                     |  | 30
|           |  |                                                                                      
|Item 2.    |  | Unregistered Sales of Equity Securities and Use of Proceeds                           |  | 30
|           |  |                                                                                      
|Item 3.    |  | Defaults Upon Senior Securities                                                       |  | 30
|           |  |                                                                                      
|Item 4.    |  | Submission of Matters to a Vote of Security Holders                                   |  | 30
|           |  |                                                                                      
|Item 5.    |  | Other Information                                                                     |  | 30
|           |  |                                                                                      
|Item 6.    |  | Exhibits                                                                              |  | 30
|           | 
|SIGNATURES |  | 32                                                                                   



1



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##### Table of Contents

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS



STERLING BANCSHARES, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

(In thousands, except
share amounts)



|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------- | --------- | - | ---------------- | - | --------- | -
|                                                                                                                                                                      |  | September 30,2004 |           |   | December 31,2003 |  
|ASSETS                                                                                                                                                                |  |                   |           |   |                  |   |           |  
|Cash and cash equivalents                                                                                                                                             |  | $                 | 94,802    |   |                  | $ | 136,764   |  
|Interest-bearing deposits in financial institutions                                                                                                                   |  |                   | 1,175     |   |                  |   | 1,358     |  
|Trading assets                                                                                                                                                        |  |                   | 123,880   |   |                  |   | 172,825   |  
|Available-for-sale securities, at fair value                                                                                                                          |  |                   | 531,702   |   |                  |   | 522,936   |  
|Held-to-maturity securities, at amortized cost                                                                                                                        |  |                   | 78,087    |   |                  |   | 42,157    |  
|                                                                                                                                                                      |  |                  
|Loans held for sale                                                                                                                                                   |  |                   | 7,036     |   |                  |   | 26,308    |  
|Loans held for investment                                                                                                                                             |  |                   | 2,219,397 |   |                  |   | 2,130,731 |  
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|Total loans                                                                                                                                                           |  |                   | 2,226,433 |   |                  |   | 2,157,039 |  
|Allowance for credit losses                                                                                                                                           |  |                   | (27,959   | ) |                  |   | (30,722   | )
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|Loans, net                                                                                                                                                            |  |                   | 2,198,474 |   |                  |   | 2,126,317 |  
|                                                                                                                                                                      |  |                  
|Premises and equipment, net                                                                                                                                           |  |                   | 41,683    |   |                  |   | 48,541    |  
|Real estate acquired by foreclosure                                                                                                                                   |  |                   | 3,731     |   |                  |   | 2,124     |  
|Goodwill                                                                                                                                                              |  |                   | 62,480    |   |                  |   | 62,933    |  
|Core deposit intangibles, net                                                                                                                                         |  |                   | 1,954     |   |                  |   | 2,326     |  
|Accrued interest receivable                                                                                                                                           |  |                   | 10,986    |   |                  |   | 12,046    |  
|Other assets                                                                                                                                                          |  |                   | 85,095    |   |                  |   | 76,553    |  
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|TOTAL ASSETS                                                                                                                                                          |  | $                 | 3,234,049 |   |                  | $ | 3,206,880 |  
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                                                  |  |                   |           |   |                  |   |           |  
|LIABILITIES:                                                                                                                                                          |  |                   |           |   |                  |   |           |  
|Deposits:                                                                                                                                                             |  |                   |           |   |                  |   |           |  
|Noninterest-bearing demand                                                                                                                                            |  | $                 | 879,125   |   |                  | $ | 834,313   |  
|Interest-bearing demand                                                                                                                                               |  |                   | 919,822   |   |                  |   | 929,577   |  
|Certificates and other time deposits                                                                                                                                  |  |                   | 593,236   |   |                  |   | 654,479   |  
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|Total deposits                                                                                                                                                        |  |                   | 2,392,183 |   |                  |   | 2,418,369 |  
|Other borrowed funds                                                                                                                                                  |  |                   | 377,750   |   |                  |   | 324,160   |  
|Subordinated debt                                                                                                                                                     |  |                   | 47,360    |   |                  |   | 46,533    |  
|Junior subordinated debt                                                                                                                                              |  |                   | 82,475    |   |                  |   | 82,475    |  
|Accrued interest payable and other liabilities                                                                                                                        |  |                   | 26,916    |   |                  |   | 42,747    |  
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|Total liabilities                                                                                                                                                     |  |                   | 2,926,684 |   |                  |   | 2,914,284 |  
|                                                                                                                                                                      |  |                  
|COMMITMENTS AND CONTINGENCIES                                                                                                                                         |  |                   |          |   |                  |   |          |  
|                                                                                                                                                                      |  |                  
|SHAREHOLDERS EQUITY:                                                                                                                                                 |  |                   |           |   |                  |   |           |  
|Convertible preferred stock, $1 par value, 1,000,000 shares authorized, 20,000 issued and outstanding                                                                 |  |                   | 20        |   |                  |   | 20        |  
|Common stock, $1 par value, 100,000,000 shares authorized, 44,916,625 and 44,642,109 issued and outstanding at September 30, 2004 and December
31, 2003, respectively |  |                   | 44,917    |   |                  |   | 44,642    |  
|Capital surplus                                                                                                                                                       |  |                   | 51,565    |   |                  |   | 48,953    |  
|Retained earnings                                                                                                                                                     |  |                   | 209,893   |   |                  |   | 197,819   |  
|Accumulated other comprehensive income, net of tax                                                                                                                    |  |                   | 970       |   |                  |   | 1,162     |  
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|Total shareholders equity                                                                                                                                            |  |                   | 307,365   |   |                  |   | 292,596   |  
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  
|TOTAL LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                                            |  | $                 | 3,234,049 |   |                  | $ | 3,206,880 |  
|                                                                                                                                                                      |  |                   |           |   |                  |   |           |  



See Notes to Consolidated Financial
Statements.



2



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##### Table of Contents

STERLING BANCSHARES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(UNAUDITED)

(In thousands, except
per share amounts)



|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|------------------------------------------------------- |  | ------------------------------- | ------ | ------------------------------ | ---- | - | ------ |  | ---- | ------- |  | - | -------
|                                                        |  | Three Months EndedSeptember 30, |        | Nine Months EndedSeptember 30,
|                                                        |  | 2004                            |        |                                | 2003 |   | 2004   |  | 2003
|Interest income:                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Loans, including fees                                   |  | $                               | 34,635 |                                |      | $ | 40,396 |  | $    | 100,892 |  | $ | 121,592
|Securities:                                             |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Taxable                                                 |  |                                 | 5,560  |                                |      |   | 2,162  |  |      | 15,557  |  |   | 7,087  
|Non-taxable                                             |  |                                 | 520    |                                |      |   | 529    |  |      | 1,439   |  |   | 1,773  
|Trading assets                                          |  |                                 | 1,084  |                                |      |   | 857    |  |      | 3,537   |  |   | 2,590  
|Federal funds sold                                      |  |                                 | 25     |                                |      |   | 27     |  |      | 68      |  |   | 113    
|Deposits in financial institutions                      |  |                                 | 13     |                                |      |   | 17     |  |      | 44      |  |   | 53     
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Total interest income                                   |  |                                 | 41,837 |                                |      |   | 43,988 |  |      | 121,537 |  |   | 133,208
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Interest expense:                                       |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Demand and savings deposits                             |  |                                 | 1,239  |                                |      |   | 987    |  |      | 3,272   |  |   | 3,736  
|Certificates and other time deposits                    |  |                                 | 3,006  |                                |      |   | 3,461  |  |      | 9,646   |  |   | 11,514 
|Other borrowed funds                                    |  |                                 | 1,047  |                                |      |   | 1,491  |  |      | 2,314   |  |   | 4,417  
|Notes payable                                           |  |                                 |       |                                |      |   | 137    |  |      |        |  |   | 457    
|Subordinated debt                                       |  |                                 | 678    |                                |      |   | 589    |  |      | 1,893   |  |   | 1,305  
|Junior subordinated debt                                |  |                                 | 1,616  |                                |      |   | 1,590  |  |      | 4,794   |  |   | 4,787  
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Total interest expense                                  |  |                                 | 7,586  |                                |      |   | 8,255  |  |      | 21,919  |  |   | 26,216 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Net interest income                                     |  |                                 | 34,251 |                                |      |   | 35,733 |  |      | 99,618  |  |   | 106,992
|Provision for credit losses                             |  |                                 | 2,115  |                                |      |   | 4,150  |  |      | 8,396   |  |   | 14,698 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Net interest income after provision for credit losses   |  |                                 | 32,136 |                                |      |   | 31,583 |  |      | 91,222  |  |   | 92,294 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Noninterest income:                                     |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Customer service fees                                   |  |                                 | 3,589  |                                |      |   | 4,061  |  |      | 11,198  |  |   | 12,361 
|Net gain on the sale of banking offices                 |  |                                 |       |                                |      |   |       |  |      |        |  |   | 3,240  
|Net gain on the sale of securities                      |  |                                 | 310    |                                |      |   |       |  |      | 4,581   |  |   | 374    
|Net gain (loss) on trading assets                       |  |                                 | (192   | )                              |      |   | 405    |  |      | 310     |  |   | 1,032  
|Other                                                   |  |                                 | 3,088  |                                |      |   | 3,012  |  |      | 8,700   |  |   | 8,834  
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Total noninterest income                                |  |                                 | 6,795  |                                |      |   | 7,478  |  |      | 24,789  |  |   | 25,841 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Noninterest expense:                                    |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Salaries and employee benefits                          |  |                                 | 17,510 |                                |      |   | 16,583 |  |      | 52,372  |  |   | 49,916 
|Occupancy expense                                       |  |                                 | 3,945  |                                |      |   | 3,996  |  |      | 11,285  |  |   | 11,708 
|Technology                                              |  |                                 | 1,643  |                                |      |   | 1,289  |  |      | 4,568   |  |   | 3,718  
|Professional fees                                       |  |                                 | 1,333  |                                |      |   | 1,317  |  |      | 3,790   |  |   | 3,300  
|Postage, delivery and supplies                          |  |                                 | 746    |                                |      |   | 831    |  |      | 2,437   |  |   | 2,636  
|Marketing                                               |  |                                 | 250    |                                |      |   | 195    |  |      | 1,175   |  |   | 1,080  
|Core deposit intangible amortization                    |  |                                 | 125    |                                |      |   | 111    |  |      | 372     |  |   | 339    
|Other                                                   |  |                                 | 3,943  |                                |      |   | 3,607  |  |      | 12,643  |  |   | 10,827 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Total noninterest expense                               |  |                                 | 29,495 |                                |      |   | 27,929 |  |      | 88,642  |  |   | 83,524 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Income from continuing operations before income taxes   |  |                                 | 9,436  |                                |      |   | 11,132 |  |      | 27,369  |  |   | 34,611 
|Provision for income taxes                              |  |                                 | 2,950  |                                |      |   | 3,707  |  |      | 8,576   |  |   | 11,454 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Income from continuing operations                       |  |                                 | 6,486  |                                |      |   | 7,425  |  |      | 18,793  |  |   | 23,157 
|Income from discontinued operations before income taxes |  |                                 |       |                                |      |   | 44,426 |  |      |        |  |   | 44,719 
|Provision for income taxes                              |  |                                 |       |                                |      |   | 24,510 |  |      |        |  |   | 24,657 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Income from discontinued operations                     |  |                                 |       |                                |      |   | 19,916 |  |      |        |  |   | 20,062 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Net income                                              |  | $                               | 6,486  |                                |      | $ | 27,341 |  | $    | 18,793  |  | $ | 43,219 
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Earnings per share from continuing operations:          |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Basic                                                   |  | $                               | 0.14   |                                |      | $ | 0.17   |  | $    | 0.42    |  | $ | 0.53   
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Diluted                                                 |  | $                               | 0.14   |                                |      | $ | 0.17   |  | $    | 0.42    |  | $ | 0.52   
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Earnings per share from discontinued operations:        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Basic                                                   |  | $                               |       |                                |      | $ | 0.45   |  | $    |        |  | $ | 0.45   
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Diluted                                                 |  | $                               |       |                                |      | $ | 0.44   |  | $    |        |  | $ | 0.45   
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Earnings per share:                                     |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Basic                                                   |  | $                               | 0.14   |                                |      | $ | 0.62   |  | $    | 0.42    |  | $ | 0.98   
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        
|Diluted                                                 |  | $                               | 0.14   |                                |      | $ | 0.61   |  | $    | 0.42    |  | $ | 0.97   
|                                                        |  |                                 |        |                                |      |   |        |  |      |         |  |   |        



See Notes to Consolidated Financial
Statements.



3



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##### Table of Contents

STERLING BANCSHARES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY

(UNAUDITED)

(In
thousands)



|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|------------------------------------------------------------------------------------------------ |  | -------------------------- | - |  | ------------ | --- | -------------- | ------ | ------ | ---------------- | - | ------ | ------------------------------------ | - | ------ | ----- |  | - | ------- | - |  | - | ------ | - |  | - | ------- | -
|                                                                                                 |  | ConvertiblePreferred Stock |   |  | Common Stock |     | CapitalSurplus |        |        | RetainedEarnings |   |        | Accumulated OtherComprehensiveIncome |   |        | Total | 
|                                                                                                 |  | Shares                     |   |  | Amount       |     |                | Shares |        | Amount           |   |        |                                      |  
|BALANCE AT JANUARY 1, 2003                                                                       |  | 59                         |   |  | $            | 59  |                |        | 43,983 |                  | $ | 43,983 |                                      | $ | 44,633 |       |  | $ | 156,664 |   |  | $ | 3,988  |   |  | $ | 249,327 |  
|                                                                                                 |  |                            |   |  |              |     |                |       
|Comprehensive income:                                                                            |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|Net income                                                                                       |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   | 43,219  |   |  |   |        |   |  |   | 43,219  |  
|Net change in unrealized gains and losses on available-for-sale securities, net of taxes of $605 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   | (1,124 | ) |  |   | (1,124  | )
|Less: Reclassification adjustment for gains included in net income, net of taxes of $131         |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   | (243   | ) |  |   | (243    | )
|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|Total comprehensive income                                                                       |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   | 41,852  |  
|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|Issuance of common stock                                                                         |  |                            |   |  |              |     |                |        | 185    |                  |   | 185    |                                      |   | 1,722  |       |  |   |         |   |  |   |        |   |  |   | 1,907   |  
|Conversion of preferred stock                                                                    |  | (39                        | ) |  |              | (39 | )              |        | 64     |                  |   | 64     |                                      |   | (25    | )     |  |   |         |   |  |   |        |   |  |   |        |  
|Cash dividends paid                                                                              |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   | (5,956  | ) |  |   |        |   |  |   | (5,956  | )
|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|BALANCE AT SEPTEMBER 30, 2003                                                                    |  | 20                         |   |  | $            | 20  |                |        | 44,232 |                  | $ | 44,232 |                                      | $ | 46,330 |       |  | $ | 193,927 |   |  | $ | 2,621  |   |  | $ | 287,130 |  
|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|BALANCE AT JANUARY 1, 2004                                                                       |  | 20                         |   |  |              | 20  |                |        | 44,642 |                  |   | 44,642 |                                      |   | 48,953 |       |  |   | 197,819 |   |  |   | 1,162  |   |  |   | 292,596 |  
|                                                                                                 |  |                            |   |  |              |     |                |       
|Comprehensive income:                                                                            |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|Net income                                                                                       |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   | 18,793  |   |  |   |        |   |  |   | 18,793  |  
|Net change in unrealized gains and losses on available-for-sale securities, net of taxes of $352 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   | (654   | ) |  |   | (654    | )
|Less: Reclassification adjustment for losses included in net income, net of taxes of $248        |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   | 462    |   |  |   | 462     |  
|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|Total comprehensive income                                                                       |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   | 18,601  |  
|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|Issuance of common stock                                                                         |  |                            |   |  |              |     |                |        | 275    |                  |   | 275    |                                      |   | 2,612  |       |  |   |         |   |  |   |        |   |  |   | 2,887   |  
|Cash dividends paid                                                                              |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   | (6,719  | ) |  |   |        |   |  |   | (6,719  | )
|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  
|BALANCE AT SEPTEMBER 30, 2004                                                                    |  | 20                         |   |  | $            | 20  |                |        | 44,917 |                  | $ | 44,917 |                                      | $ | 51,565 |       |  | $ | 209,893 |   |  | $ | 970    |   |  | $ | 307,365 |  
|                                                                                                 |  |                            |   |  |              |     |                |        |        |                  |   |        |                                      |   |        |       |  |   |         |   |  |   |        |   |  |   |         |  



See Notes to Consolidated Financial
Statements.



4



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##### Table of Contents

STERLING BANCSHARES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(In
thousands)



|                                                                                                         |  |                                 |          |   |      |   |          |  
|-------------------------------------------------------------------------------------------------------- |  | ------------------------------- | -------- | - | ---- | - | -------- | -
|                                                                                                         |  | Nine Months Ended September 30, |         
|                                                                                                         |  | 2004                            |          |   | 2003 |  
|CASH FLOWS FROM OPERATING ACTIVITIES:                                                                    |  |                                 |          |   |      |   |          |  
|Income from continuing operations                                                                        |  | $                               | 18,793   |   |      | $ | 23,157   |  
|Adjustments to reconcile income from continuing operations to net cash provided by operating activities: |  |                                 |          |   |      |   |          |  
|Amortization and accretion of premiums and discounts on securities, net                                  |  |                                 | 5,430    |   |      |   | 6,469    |  
|Net gain on the sale of securities                                                                       |  |                                 | (4,581   | ) |      |   | (374     | )
|Net gain on the sale of premises and equipment                                                           |  |                                 | (55      | ) |      |   |         |  
|Net gain on trading assets                                                                               |  |                                 | (310     | ) |      |   | (1,032   | )
|Net gain on the sale of banking offices                                                                  |  |                                 |         |   |      |   | (3,240   | )
|Net gain on sale of land held for sale                                                                   |  |                                 | (38      | ) |      |   |         |  
|Provision for credit losses                                                                              |  |                                 | 8,396    |   |      |   | 14,698   |  
|Writedowns, less gains on sale, of real estate acquired by foreclosure                                   |  |                                 | (18      | ) |      |   | (416     | )
|Writedowns of premises and equipment                                                                     |  |                                 | 1,109    |   |      |   |         |  
|Depreciation and amortization                                                                            |  |                                 | 6,917    |   |      |   | 6,565    |  
|Proceeds from sales of trading assets                                                                    |  |                                 | 340,809  |   |      |   | 359,092  |  
|Purchases of trading assets                                                                              |  |                                 | (313,439 | ) |      |   | (350,285 | )
|Proceeds from principal paydowns of trading securities                                                   |  |                                 | 2,945    |   |      |   | 3,431    |  
|Net decrease in loans held for sale                                                                      |  |                                 | 1,285    |   |      |   | 389,572  |  
|Net (increase) decrease in accrued interest receivable and other assets                                  |  |                                 | (4,637   | ) |      |   | 84,507   |  
|Net (decrease) increase in accrued interest payable and other liabilities                                |  |                                 | (15,007  | ) |      |   | 24,427   |  
|                                                                                                         |  |                                 |          |   |      |   |          |  
|Net cash provided by operating activities from continuing operations                                     |  |                                 | 47,599   |   |      |   | 556,571  |  
|                                                                                                         |  |                                
|CASH FLOWS FROM INVESTING ACTIVITIES:                                                                    |  |                                 |          |   |      |   |          |  
|Proceeds from the maturities or calls of securities and paydowns of held-to-maturity securities          |  |                                 | 6,013    |   |      |   | 15,799   |  
|Proceeds from the sale of available-for-sale securities                                                  |  |                                 | 161,332  |   |      |   | 16,870   |  
|Proceeds from maturities and paydowns of available-for-sale securities                                   |  |                                 | 108,348  |   |      |   | 160,553  |  
|Purchases of available-for-sale securities                                                               |  |                                 | (260,501 | ) |      |   | (246,344 | )
|Purchases of held-to-maturity securities                                                                 |  |                                 | (42,034  | ) |      |   |         |  
|Net increase in loans held for investment                                                                |  |                                 | (85,909  | ) |      |   | (113,397 | )
|Proceeds from sale of real estate acquired by foreclosure                                                |  |                                 | 2,482    |   |      |   | 5,544    |  
|Proceeds from sale of land held for sale                                                                 |  |                                 | 729      |   |      |   |         |  
|Net decrease (increase) in interest-bearing deposits in financial institutions                           |  |                                 | 183      |   |      |   | (36      | )
|Cash and cash equivalents related to sales of banking offices                                            |  |                                 |         |   |      |   | (95,909  | )
|Proceeds from sale of premises and equipment                                                             |  |                                 | 618      |   |      |   | 1,665    |  
|Purchase of premises and equipment                                                                       |  |                                 | (4,394   | ) |      |   | (2,779   | )
|                                                                                                         |  |                                 |          |   |      |   |          |  
|Net cash used in investing activities from continuing operations                                         |  |                                 | (113,133 | ) |      |   | (258,034 | )
|                                                                                                         |  |                                
|CASH FLOWS FROM FINANCING ACTIVITIES:                                                                    |  |                                 |          |   |      |   |          |  
|Net decrease in deposits                                                                                 |  |                                 | (26,186  | ) |      |   | (118,974 | )
|Repayment of notes payable                                                                               |  |                                 |         |   |      |   | (4,402   | )
|Issuance of subordinated debt                                                                            |  |                                 |         |   |      |   | 49,940   |  
|Net increase (decrease) in other borrowed funds                                                          |  |                                 | 53,590   |   |      |   | (277,634 | )
|Proceeds from issuance of common stock and preferred stock                                               |  |                                 | 2,887    |   |      |   | 1,907    |  
|Dividends paid                                                                                           |  |                                 | (6,719   | ) |      |   | (5,956   | )
|                                                                                                         |  |                                 |          |   |      |   |          |  
|Net cash provided by (used in) financing activities from continuing operations                           |  |                                 | 23,572   |   |      |   | (355,119 | )
|                                                                                                         |  |                                
|Net cash provided by discontinued operations                                                             |  |                                 |         |   |      |   | 43,715   |  
|                                                                                                         |  |                                
|NET DECREASE IN CASH AND CASH EQUIVALENTS                                                                |  |                                 | (41,962  | ) |      |   | (12,867  | )
|CASH AND CASH EQUIVALENTS:                                                                               |  |                                 |          |   |      |   |          |  
|Beginning of period                                                                                      |  |                                 | 136,764  |   |      |   | 147,000  |  
|                                                                                                         |  |                                 |          |   |      |   |          |  
|End of period                                                                                            |  | $                               | 94,802   |   |      | $ | 134,133  |  
|                                                                                                         |  |                                 |          |   |      |   |          |  
|Supplemental information:                                                                                |  |                                 |          |   |      |   |          |  
|Income taxes paid                                                                                        |  | $                               | 28,009   |   |      | $ | 21,199   |  
|Interest paid                                                                                            |  |                                 | 21,460   |   |      |   | 21,343   |  
|Noncash investing and financing activities-Acquisitions of real estate through foreclosure of collateral |  |                                 | 4,071    |   |      |   | 4,439    |  



See Notes to Consolidated Financial
Statements



5



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##### Table of Contents

STERLING BANCSHARES, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)



1. ACCOUNTING POLICIES



Basis of Presentation



The
accompanying Consolidated Financial Statements are unaudited and include the accounts of Sterling Bancshares, Inc. and its subsidiaries (the Company) except for those subsidiaries where it has been determined that the Company is not the
primary beneficiary. The Companys accounting and financial reporting policies are in accordance with accounting principles generally accepted in the United States of America for interim financial information and in accordance with the
instructions to Form 10-Q. The information furnished in these interim statements reflects all adjustments that are, in the opinion of management, necessary for a fair statement of the results for such periods. Such adjustments are of a normal
recurring nature unless otherwise disclosed in this Form 10-Q. The results of operations in the interim statements are not necessarily indicative of the results that may be expected for the full year. The interim financial information should be read
in conjunction with the Companys 2003 Annual Report on Form 10-K. Certain prior period amounts have been reclassified to conform to current period classifications. These reclassifications had no affect on net income or shareholders
equity.



Recent Accounting Standards



On January 1, 2004, the Company adopted FIN 46R, Consolidation of Variable Interest
Entities. Upon adoption, the trusts that previously issued the outstanding company-obligated mandatorily redeemable trust preferred securities were deconsolidated from the Companys Consolidated Financial Statements. Instead, the junior
subordinated debentures issued by the Company to these subsidiary trusts are shown as liabilities in the consolidated balance sheets and interest expense associated with the junior subordinated debentures are shown in the consolidated statements of
income. The Consolidated Financial Statements have been restated to reflect the adoption of FIN 46R. Adoption of FIN 46R did not affect previously reported amounts for net income or shareholders equity.



In December 2003, the Accounting Standards Executive Committee of the AICPA issued Statement
of Position No. 03-3 (SOP 03-3), Accounting for Certain Loans or Debt Securities Acquired in a Transfer. SOP 03-3 addresses the accounting for differences between the contractual cash flows and the cash flows expected to be
collected from purchased loans or debt securities if those differences are attributable, in part, to credit quality. SOP 03-3 requires purchased loans and debt securities to be recorded initially at fair value based on the present value of the cash
flows expected to be collected with no carryover of any valuation allowance previously recognized by the seller. Interest income should be recognized based on the effective yield from the cash flows expected to be collected. To the extent that the
purchased loans experience subsequent deterioration in credit quality, a valuation allowance would be established for any additional cash flows that are not expected to be received. However, if more cash flows subsequently are expected to be
received than originally estimated, the effective yield would be adjusted on a prospective basis. Adoption of SOP 03-3 did not have a material impact on the Companys financial condition or results of operations.



SEC Staff Accounting Bulletin No. 105, Application of Accounting Principles to Loan
Commitments(SAB 105) addresses the application of generally accepted accounting principles to loan commitments accounted for as derivative instruments. SAB 105 provides that the fair value of recorded loan commitments to be
held for sale that are accounted for as derivatives should not incorporate the expected future cash flows related to the associated servicing of the future loan. In addition, SAB 105 requires registrants to disclose their accounting policy for loan
commitments. The provisions of SAB 105 must be applied to loan commitments accounted for as derivatives that are entered into after March 31, 2004. SAB 105 did not have a material impact on the Companys Consolidated Financial Statements.



In March 2004, the Emerging Issues Task Force reached a consensus on Issue No.
03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.This Issue provides guidance for determining when an investment is other-than-temporarily impaired. This Issue specifically addresses whether an
investor has the ability and intent to hold an investment until recovery. In addition, Issue 03-1 contains disclosure requirements that provide useful information about impairments that have not been recognized as other-than-temporary for
investments within the scope of this Issue. On September 30, 2004, the Financial Accounting Standards Board deferred the effective date of this Issues guidance on how to evaluate and recognize an impairment loss that is other-than-temporary.
This Issues guidance is pending the issuance of a final FASB Staff Position (FSP) relating to the draft FSP EITF Issue 03-1-a, Implementation Guidance for the Application of Paragraph 16 of EITF Issue No. 03-1,The
Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. This deferral did not change the disclosure guidance which remains effective for fiscal years ending after December 15, 2003.



6



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##### Table of Contents

Stock-Based Compensation



The Company accounts for stock-based employee compensation plans using the intrinsic value-based method of accounting, as permitted, and
discloses pro forma information as if accounted for using the fair value-based method as prescribed by accounting principles. Because the exercise price of the Companys employee stock options equals the market price of the underlying stock on
the date of grant, no compensation expense is recognized on options granted. Compensation expense for restricted stock awards is based on the market price of the stock on the date of grant and is recognized ratably over the vesting period of the
award.



On a pro-forma basis, if compensation cost for the Companys
stock-based compensation plans had been determined based on the fair value method there would have been no material impact on the Companys reported net income or earnings per share. Pro forma information regarding net income and earnings per
share has been determined as if the Company accounted for its employee stock option plans under the fair value-based method. The fair value of options was estimated using a Black-Scholes option pricing model. Because employee stock options have
differing characteristics and changes in the subjective input assumptions can materially affect the fair value estimate, the Black-Scholes valuation model does not necessarily provide a reliable measure of the fair value of employee stock options.
The following table shows information related to stock-based compensation in both the reported and pro-forma earnings per share amounts (dollars in thousands except for per share amounts):



|                                                                                                                     |  |                                  |       |   |                                 |   |        |      |  |   |        |   |  |   |        |  
|-------------------------------------------------------------------------------------------------------------------- |  | -------------------------------- | ----- | - | ------------------------------- | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                                                                                                     |  | Three months ended September 30, |       |   | Nine months ended September 30, |  
|                                                                                                                     |  | 2004                             |       |   | 2003                            |   |        | 2004 |  |   | 2003   |  
|Net income, as reported                                                                                              |  | $                                | 6,486 |   |                                 | $ | 27,341 |      |  | $ | 18,793 |   |  | $ | 43,219 |  
|                                                                                                                     |  |                                  |       |  
|Add: Stock-based employee compensation expense included in reported net income, net of related taxes                 |  |                                  | 72    |   |                                 |   | 152    |      |  |   | 440    |   |  |   | 166    |  
|                                                                                                                     |  |                                  |       |  
|Less: Total stock-based employee compensation expense determined under fair value-based method, net of related taxes |  |                                  | (221  | ) |                                 |   | (420   | )    |  |   | (979   | ) |  |   | (917   | )
|                                                                                                                     |  |                                  |       |   |                                 |   |        |      |  |   |        |   |  |   |        |  
|Pro-forma net income                                                                                                 |  | $                                | 6,337 |   |                                 | $ | 27,073 |      |  | $ | 18,254 |   |  | $ | 42,468 |  
|                                                                                                                     |  |                                  |       |   |                                 |   |        |      |  |   |        |   |  |   |        |  
|Earnings per share:                                                                                                  |  |                                  |       |   |                                 |   |        |      |  |   |        |   |  |   |        |  
|Basic- as reported                                                                                                   |  | $                                | 0.14  |   |                                 | $ | 0.62   |      |  | $ | 0.42   |   |  | $ | 0.98   |  
|                                                                                                                     |  |                                  |       |   |                                 |   |        |      |  |   |        |   |  |   |        |  
|Basic- pro-forma                                                                                                     |  | $                                | 0.14  |   |                                 | $ | 0.61   |      |  | $ | 0.41   |   |  | $ | 0.96   |  
|                                                                                                                     |  |                                  |       |   |                                 |   |        |      |  |   |        |   |  |   |        |  
|Diluted - as reported                                                                                                |  | $                                | 0.14  |   |                                 | $ | 0.61   |      |  | $ | 0.42   |   |  | $ | 0.97   |  
|                                                                                                                     |  |                                  |       |   |                                 |   |        |      |  |   |        |   |  |   |        |  
|Diluted - pro-forma                                                                                                  |  | $                                | 0.14  |   |                                 | $ | 0.60   |      |  | $ | 0.40   |   |  | $ | 0.95   |  
|                                                                                                                     |  |                                  |       |   |                                 |   |        |      |  |   |        |   |  |   |        |  



The Financial Accounting Standards
Board has issued a proposed statement, Share-Based Payment, that addresses the accounting for share-based payment transactions in which an enterprise receives employee services in exchange for (a) equity instruments of the enterprise or (b)
liabilities that are based on the fair value of the enterprises equity instruments or that may be settled by the issuance of such equity instruments. The proposed statement would eliminate the ability to account for share-based compensation
transactions using the intrinsic value-based method of accounting, and generally would require instead that such transactions be accounted for using a fair value-based method. The proposed statement would permit use of option pricing models other
than the Black-Scholes option pricing model. Management has not determined the impact of the proposed statement on the Companys Consolidated Financial Statements.



7



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##### Table of Contents

2. SECURITIES



The amortized cost and fair value of securities are as follows (in thousands):



|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|------------------------------------------------------------------ |  | ------------------ | ------- | -------------------- | - | --------------------- |  | - | ---------- | - |  | - | -------
|                                                                   |  | September 30, 2004
|                                                                   |  | AmortizedCost      |         | GrossUnrealizedGains |   | GrossUnrealizedLosses |  |   | Fair Value
|Available-for-Sale                                                 |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Obligations of U.S. government agencies                            |  | $                  | 8,757   |                      | $ | 6                     |  | $ | (36        | ) |  | $ | 8,727  
|Obligations of states and political subdivisions                   |  |                    | 4,036   |                      |   | 128                   |  |   |           |   |  |   | 4,164  
|Mortgage-backed securities and collateralized mortgage obligations |  |                    | 510,287 |                      |   | 3,318                 |  |   | (1,925     | ) |  |   | 511,680
|Other securities                                                   |  |                    | 7,130   |                      |   | 205                   |  |   | (204       | ) |  |   | 7,131  
|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Total                                                              |  | $                  | 530,210 |                      | $ | 3,657                 |  | $ | (2,165     | ) |  | $ | 531,702
|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Held-to-Maturity                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Obligations of states and political subdivisions                   |  | $                  | 53,106  |                      | $ | 2,262                 |  | $ | (49        | ) |  | $ | 55,319 
|Mortgage-backed securities and collateralized mortgage obligations |  |                    | 24,981  |                      |   | 93                    |  |   | (2         | ) |  |   | 25,072 
|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Total                                                              |  | $                  | 78,087  |                      | $ | 2,355                 |  | $ | (51        | ) |  | $ | 80,391 
|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|                                                                   | 
|                                                                   |  | December 31, 2003 
|                                                                   |  | AmortizedCost      |         | GrossUnrealizedGains |   | GrossUnrealizedLosses |  |   | Fair Value
|Available-for-Sale                                                 |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Obligations of U.S. government agencies                            |  | $                  | 86,006  |                      | $ | 141                   |  | $ | (39        | ) |  | $ | 86,108 
|Obligations of states and political subdivisions                   |  |                    | 4,255   |                      |   | 178                   |  |   |           |   |  |   | 4,433  
|Mortgage-backed securities and collateralized mortgage obligations |  |                    | 397,146 |                      |   | 2,793                 |  |   | (1,165     | ) |  |   | 398,774
|Other securities                                                   |  |                    | 33,798  |                      |   |                      |  |   | (177       | ) |  |   | 33,621 
|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Total                                                              |  | $                  | 521,205 |                      | $ | 3,112                 |  | $ | (1,381     | ) |  | $ | 522,936
|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Held-to-Maturity                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Obligations of states and political subdivisions                   |  | $                  | 38,336  |                      | $ | 2,367                 |  | $ |           |   |  | $ | 40,703 
|Mortgage-backed securities and collateralized mortgage obligations |  |                    | 3,821   |                      |   | 41                    |  |   | (4         | ) |  |   | 3,858  
|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        
|Total                                                              |  | $                  | 42,157  |                      | $ | 2,408                 |  | $ | (4         | ) |  | $ | 44,561 
|                                                                   |  |                    |         |                      |   |                       |  |   |            |   |  |   |        



8



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##### Table of Contents

The contractual maturities of securities available-for-sale and securities held-to-maturity at September 30, 2004, are
shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Dollar amounts are shown in thousands.



|                                                                   |  |                  |        |                    |   |               |  |            |         |  |   |        
|------------------------------------------------------------------ |  | ---------------- | ------ | ------------------ | - | ------------- |  | ---------- | ------- |  | - | -------
|                                                                   |  | Held-to-Maturity |        | Available-for-Sale
|                                                                   |  | AmortizedCost    |        | Fair Value         |   | AmortizedCost |  | Fair Value
|Due in one year or less                                            |  | $                | 6,144  |                    | $ | 6,216         |  | $          | 1,849   |  | $ | 1,854  
|Due after one year through five years                              |  |                  | 24,564 |                    |   | 26,175        |  |            | 9,655   |  |   | 9,691  
|Due after five years through ten years                             |  |                  | 22,059 |                    |   | 22,592        |  |            | 1,022   |  |   | 1,071  
|Due after ten years                                                |  |                  | 339    |                    |   | 336           |  |            | 267     |  |   | 275    
|Mortgage-backed securities and collateralized mortgage obligations |  |                  | 24,981 |                    |   | 25,072        |  |            | 510,287 |  |   | 511,680
|Other securities                                                   |  |                  |       |                    |   |              |  |            | 7,130   |  |   | 7,131  
|                                                                   |  |                  |        |                    |   |               |  |            |         |  |   |        
|Total                                                              |  | $                | 78,087 |                    | $ | 80,391        |  | $          | 530,210 |  | $ | 531,702
|                                                                   |  |                  |        |                    |   |               |  |            |         |  |   |        



The following table summarizes the
proceeds received and gross realized gains and losses on the sales of the available-for-sale securities (dollars in thousands):



|                      |  |                                  |        |                                 |   |      |  |   |         |   |  |   |       
|--------------------- |  | -------------------------------- | ------ | ------------------------------- | - | ---- |  | - | ------- | - |  | - | ------
|                      |  | Three months ended September 30, |        | Nine months ended September 30,
|                      |  | 2004                             |        | 2003                            |   | 2004 |  |   | 2003   
|Proceeds from sales   |  | $                                | 15,595 |                                 | $ |     |  | $ | 161,332 |   |  | $ | 16,870
|Gross realized gains  |  |                                  | 310    |                                 |   |     |  |   | 5,434   |   |  |   | 374   
|Gross realized losses |  |                                  |       |                                 |   |     |  |   | (853    | ) |  |   |      



During the nine months ended September
30, 2004, the Company sold $75.6 million of certain interest-only securities held in its available-for-sale portfolio in two separate securitization transactions. The Company received proceeds of $83.9 million and recognized net after-tax
securitization gains totaling $3.4 million for these transactions. The Company did not retain any interests in these securities and neither the investors in the securitization trusts nor the trusts have any recourse other than for a breach of
customary representations as to ownership and origination, but not for credit loss or default.



All of the Companys securities with unrealized losses as of September 30, 2004 have been in an unrealized loss position for less than twelve months. Information about such securities is as follows (dollars in
thousands):



|                                                                   |  |                    |         |                        |   |        |            |  |   |        
|------------------------------------------------------------------ |  | ------------------ | ------- | ---------------------- | - | ------ | ---------- |  | - | -------
|                                                                   |  | September 30, 2004
|                                                                   |  | AmortizedCost      |         | Gross UnrealizedLosses |   |        | Fair Value
|Available-for-Sale                                                 |  |                    |         |                        |   |        |            |  |   |        
|Obligations of U.S. government agencies                            |  | $                  | 6,699   |                        | $ | (36    | )          |  | $ | 6,663  
|Mortgage-backed securities and collateralized mortgage obligations |  |                    | 201,813 |                        |   | (1,925 | )          |  |   | 199,888
|Other securities                                                   |  |                    | 5,900   |                        |   | (204   | )          |  |   | 5,696  
|                                                                   |  |                    |         |                        |   |        |            |  |   |        
|Total                                                              |  | $                  | 214,412 |                        | $ | (2,165 | )          |  | $ | 212,247
|                                                                   |  |                    |         |                        |   |        |            |  |   |        
|Held-to-Maturity                                                   |  |                    |         |                        |   |        |            |  |   |        
|Obligations of U.S. government agencies                            |  | $                  | 3,314   |                        | $ | (49    | )          |  | $ | 3,265  
|Mortgage-backed securities and collateralized mortgage obligations |  |                    | 755     |                        |   | (2     | )          |  |   | 753    
|                                                                   |  |                    |         |                        |   |        |            |  |   |        
|Total                                                              |  | $                  | 4,069   |                        | $ | (51    | )          |  | $ | 4,018  
|                                                                   |  |                    |         |                        |   |        |            |  |   |        



Declines in the fair value of
individual securities below their cost that are other-than-temporary would result in writedowns, as a realized loss, of the individual securities to their fair value. Management believes that the unrealized losses on the Companys



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securities portfolio were caused primarily by interest rate increases. The Company does not consider these investments to
be other-than-temporarily impaired at September 30, 2004.



The Company does not
own any securities of any one issuer (other than U.S. government and its agencies) of which aggregate adjusted cost exceeds 10% of the consolidated shareholders equity at September 30, 2004.



Securities with carrying values totaling $245.8 million and fair values totaling $249.3
million at September 30, 2004 were pledged to secure public deposits.



3.
LOANS



The loan portfolio consists of various types of loans made
principally to borrowers located in the Houston, San Antonio and Dallas metropolitan areas, and is classified by major type as follows (dollars in thousands):



|                                           |  |                    |           |   |                   |   |        |   |           |  |       |  
|------------------------------------------ |  | ------------------ | --------- | - | ----------------- | - | ------ | - | --------- |  | ----- | -
|                                           |  | September 30, 2004 |           |   | December 31, 2003 |  
|                                           |  | Amount             |           | % |                   |   | Amount |   | %         | 
|Loans held for sale                        |  | $                  | 7,036     |   | 0.3               | % |        | $ | 26,308    |  | 1.2   | %
|Loans held for investment                  |  |                    |           |   |                   |   |        |   |           |  |       |  
|Domestic                                   |  |                    |           |   |                   |   |        |   |           |  |       |  
|Commercial and industrial                  |  |                    | 614,279   |   | 27.6              | % |        |   | 658,881   |  | 30.5  | %
|Real estate - commercial                   |  |                    | 961,553   |   | 43.2              | % |        |   | 829,199   |  | 38.4  | %
|Real estate - construction and development |  |                    | 340,738   |   | 15.3              | % |        |   | 327,295   |  | 15.2  | %
|Real estate - residential mortgage         |  |                    | 193,395   |   | 8.7               | % |        |   | 201,948   |  | 9.4   | %
|Consumer/other                             |  |                    | 91,859    |   | 4.1               | % |        |   | 104,944   |  | 4.9   | %
|Foreign                                    |  |                    |           |   |                   |   |        |   |           |  |       |  
|Commercial and industrial                  |  |                    | 14,008    |   | 0.6               | % |        |   | 7,886     |  | 0.4   | %
|Other loans                                |  |                    | 3,565     |   | 0.2               | % |        |   | 578       |  | 0.0   | %
|                                           |  |                    |           |   |                   |   |        |   |           |  |       |  
|Total loans held for investment            |  |                    | 2,219,397 |   | 99.7              | % |        |   | 2,130,731 |  | 98.8  | %
|                                           |  |                    |           |   |                   |   |        |   |           |  |       |  
|Total loans                                |  | $                  | 2,226,433 |   | 100.0             | % |        | $ | 2,157,039 |  | 100.0 | %
|                                           |  |                    |           |   |                   |   |        |   |           |  |       |  



Loan maturities and rate sensitivities
of the loans held for investment excludes real estate - residential mortgage and consumer loans, at September 30, 2004 are as follows (in thousands):



|                                           |  |                        |           |                                    |   |                     |  |       |        |  |   |          
|------------------------------------------ |  | ---------------------- | --------- | ---------------------------------- | - | ------------------- |  | ----- | ------ |  | - | ---------
|                                           |  | Due in OneYear or Less |           | Due AfterOne YearThrough FiveYears |   | Due AfterFive Years |  | Total
|Commercial and industrial                  |  | $                      | 482,548   |                                    | $ | 126,498             |  | $     | 5,233  |  | $ | 614,279  
|Real estate - commercial                   |  |                        | 634,498   |                                    |   | 261,949             |  |       | 65,106 |  |   | 961,553  
|Real estate - construction and development |  |                        | 271,616   |                                    |   | 54,217              |  |       | 14,905 |  |   | 340,738  
|Foreign loans                              |  |                        | 6,679     |                                    |   | 10,894              |  |       |       |  |   | 17,573   
|                                           |  |                        |           |                                    |   |                     |  |       |        |  |   |          
|Total                                      |  | $                      | 1,395,341 |                                    | $ | 453,558             |  | $     | 85,244 |  | $ | 1,934,143
|                                           |  |                        |           |                                    |   |                     |  |       |        |  |   |          
|Loans with a fixed interest rate           |  | $                      | 203,360   |                                    | $ | 451,426             |  | $     | 85,244 |  | $ | 740,030  
|Loans with a floating interest rate        |  |                        | 1,191,981 |                                    |   | 2,132               |  |       |       |  |   | 1,194,113
|                                           |  |                        |           |                                    |   |                     |  |       |        |  |   |          
|Total                                      |  | $                      | 1,395,341 |                                    | $ | 453,558             |  | $     | 85,244 |  | $ | 1,934,143
|                                           |  |                        |           |                                    |   |                     |  |       |        |  |   |          



As of September 30, 2004 and December
31, 2003, loans from Sterling Bank outstanding to directors, officers and their affiliates were $15.7 million and $11.9 million, respectively. In the opinion of management, all transactions entered into between Sterling Bank and such related parties
have been and are, in the ordinary course of business, made on the same terms and conditions as similar transactions with unaffiliated persons. For the nine months ended September 30, 2004, total principal additions were $5.5 million and principal
payments were $1.7 million related to these loans.



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The recorded investment in impaired loans is $13.3 million and $35.7 million, at September 30, 2004 and December 31,
2003, respectively. Such impaired loans required an allowance for credit losses of approximately $8.4 million and $17.6 million, respectively. The average recorded investment in impaired loans for the nine months ended September 30, 2004 was $5.6
million. Interest income on impaired loans of $86 thousand was recognized for cash payments received for the nine months ended September 30, 2004.



Included in impaired loans are nonperforming loans of $12.0 million and $33.9 million at September 30, 2004 and December 31, 2003, respectively, which have been
categorized by management as nonaccrual. For the nine months ended September 30, 2004, interest foregone on nonaccrual loans was approximately $805 thousand. The Company did not have any restructured loans as of September 30, 2004 or December 31,
2003.



Loans 90 days or more past due, not on nonaccrual were $1.2 million and
$35 thousand at September 30, 2004 and December 31, 2003, respectively.



4.
ALLOWANCE FOR CREDIT LOSSES



An analysis of activity in the allowance for
credit losses is as follows (in thousands):



|                                                             |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|------------------------------------------------------------ |  | ------------------------------- | ------ | - | ------------------------------ | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                                             |  | Three Months EndedSeptember 30, |        |   | Nine Months EndedSeptember 30, |  
|                                                             |  | 2004                            |        |   | 2003                           |   |        | 2004 |  |   | 2003   |  
|Balance at beginning of the period                           |  | $                               | 27,329 |   |                                | $ | 31,574 |      |  | $ | 30,722 |   |  | $ | 27,248 |  
|                                                             |  |                                 |        |  
|Loans charged-off                                            |  |                                 | 2,126  |   |                                |   | 4,928  |      |  |   | 13,337 |   |  |   | 11,721 |  
|Loan recoveries                                              |  |                                 | (641   | ) |                                |   | (554   | )    |  |   | (2,178 | ) |  |   | (1,478 | )
|                                                             |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Net loans charged-off                                        |  |                                 | 1,485  |   |                                |   | 4,374  |      |  |   | 11,159 |   |  |   | 10,243 |  
|                                                             |  |                                 |        |  
|Allowance for credit losses associated with divested offices |  |                                 |       |   |                                |   |       |      |  |   |       |   |  |   | (353   | )
|Provision for credit losses                                  |  |                                 | 2,115  |   |                                |   | 4,150  |      |  |   | 8,396  |   |  |   | 14,698 |  
|                                                             |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Balance at end of the period                                 |  | $                               | 27,959 |   |                                | $ | 31,350 |      |  | $ | 27,959 |   |  | $ | 31,350 |  
|                                                             |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  



5. PREMISES AND EQUIPMENT



Premises and equipment are summarized as follows (in thousands):



|                                               |  |                   |         |   |                  |   |         |  
|---------------------------------------------- |  | ----------------- | ------- | - | ---------------- | - | ------- | -
|                                               |  | September 30,2004 |         |   | December 31,2003 |  
|Land                                           |  | $                 | 10,679  |   |                  | $ | 14,173  |  
|Buildings and improvements                     |  |                   | 40,283  |   |                  |   | 39,773  |  
|Furniture, fixtures and equipment              |  |                   | 41,955  |   |                  |   | 40,071  |  
|                                               |  |                   |         |   |                  |   |         |  
|                                               |  |                   | 92,917  |   |                  |   | 94,017  |  
|Less accumulated depreciation and amortization |  |                   | (51,234 | ) |                  |   | (45,476 | )
|                                               |  |                   |         |   |                  |   |         |  
|Total                                          |  | $                 | 41,683  |   |                  | $ | 48,541  |  
|                                               |  |                   |         |   |                  |   |         |  



Depreciation and amortization of
premises and equipment totaled $2.3 million and $6.5 million for the three and nine months ended September 30, 2004, and $2.0 million and $6.2 million for the three and nine months ended September 30, 2003.



The Company evaluates for impairment its long-lived assets to be held and used, and
long-lived assets to be disposed of, whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Impairment is determined



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using the undiscounted operating cash flows estimated over the remaining useful life of the related long-lived asset and
the eventual disposal. In the event of impairment, the asset is written down to its fair market value. Assets to be disposed of are recorded at the lower of net book value or fair market value less cost to sell and are classified as assets held for
sale on the consolidated balance sheet at the date management commits to a plan of disposal. In June 2004, the Company recorded impairment charges of $1.1 million for a bank office building, and one tract of unused land which the Company intends to
sell. At September 30, 2004, the bank office building is included in premises and equipment since the Company does not expect the office building to be sold within one year. The Company reclassified $3.0 million of land to held for sale during the
second quarter of 2004.



6. GOODWILL AND OTHER INTANGIBLES



The changes in the carrying amount of goodwill by reporting unit for the year ended
December 31, 2003, and the period ended September 30, 2004, are as follows (in thousands):



|                                |  |         |        |             |   |        |        |  |            |       |  |       |        |   |  |   |        |  
|------------------------------- |  | ------- | ------ | ----------- | - | ------ | ------ |  | ---------- | ----- |  | ----- | ------ | - |  | - | ------ | -
|                                |  | Houston |        | San Antonio |   |        | Dallas |  | SouthTexas |       |  | Total |       
|Balance, January 1, 2003        |  | $       | 29,613 |             | $ | 15,079 |        |  | $          | 5,662 |  | $     | 5,312  |   |  | $ | 55,666 |  
|Sale of rural banking offices   |  |         |       |             |   |       |        |  |            |      |  |       | (5,312 | ) |  |   | (5,312 | )
|Plaza Bank acquisition          |  |         |       |             |   | 12,579 |        |  |            |      |  |       |       |   |  |   | 12,579 |  
|                                |  |         |        |             |   |        |        |  |            |       |  |       |        |   |  |   |        |  
|Balance, December 31, 2003      |  |         | 29,613 |             |   | 27,658 |        |  |            | 5,662 |  |       |       |   |  |   | 62,933 |  
|Plaza Bank goodwill adjustments |  |         |       |             |   | (453   | )      |  |            |      |  |       |       |   |  |   | (453   | )
|                                |  |         |        |             |   |        |        |  |            |       |  |       |        |   |  |   |        |  
|Balance, September 30, 2004     |  | $       | 29,613 |             | $ | 27,205 |        |  | $          | 5,662 |  | $     |       |   |  | $ | 62,480 |  
|                                |  |         |        |             |   |        |        |  |            |       |  |       |        |   |  |   |        |  



The changes in the carrying amounts of
core deposit intangibles for the year ended December 31, 2003, and nine months ended September 30, 2004, are as follows (in thousands):



|                            |  |             |       |  
|--------------------------- |  | ----------- | ----- | -
|                            |  | Intangibles |      
|Balance, January 1, 2003    |  | $           | 2,096 |  
|Amortization expense        |  |             | (465  | )
|Plaza Bank acquisition      |  |             | 695   |  
|                            |  |             |       |  
|Balance, December 31, 2003  |  |             | 2,326 |  
|Amortization expense        |  |             | (372  | )
|                            |  |             |       |  
|Balance, September 30, 2004 |  | $           | 1,954 |  
|                            |  |             |       |  



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7. EARNINGS PER COMMON SHARE



Earnings per common share (EPS) were computed based on the following (in thousands, except per share amounts):



|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|------------------------------------------------ |  | -------------------------------- | ------ | ------------------------------- | - | ------ |  | ---- | ------ |  | - | ------
|                                                 |  | Three months ended September 30, |        | Nine months ended September 30,
|                                                 |  | 2004                             |        | 2003                            |   | 2004   |  | 2003
|Income from continuing operations                |  | $                                | 6,486  |                                 | $ | 7,425  |  | $    | 18,793 |  | $ | 23,157
|Income from discontinued operations              |  |                                  |       |                                 |   | 19,916 |  |      |       |  |   | 20,062
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Net income                                       |  | $                                | 6,486  |                                 | $ | 27,341 |  | $    | 18,793 |  | $ | 43,219
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Basic:                                           |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Weighted average shares outstanding              |  |                                  | 44,881 |                                 |   | 44,202 |  |      | 44,793 |  |   | 44,097
|Diluted:                                         |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Add incremental shares for:                      |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Assumed exercise of outstanding options          |  |                                  | 459    |                                 |   | 630    |  |      | 446    |  |   | 635   
|Assumed conversion of preferred stock            |  |                                  | 20     |                                 |   | 20     |  |      | 20     |  |   | 33    
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Total                                            |  |                                  | 45,360 |                                 |   | 44,852 |  |      | 45,259 |  |   | 44,765
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Earnings per share from continuing operations:   |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Basic                                            |  | $                                | 0.14   |                                 | $ | 0.17   |  | $    | 0.42   |  | $ | 0.53  
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Diluted                                          |  | $                                | 0.14   |                                 | $ | 0.17   |  | $    | 0.42   |  | $ | 0.52  
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Earnings per share from discontinued operations: |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Basic                                            |  | $                                |       |                                 | $ | 0.45   |  | $    |       |  | $ | 0.45  
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Diluted                                          |  | $                                |       |                                 | $ | 0.44   |  | $    |       |  | $ | 0.45  
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Earnings per share:                              |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Basic                                            |  | $                                | 0.14   |                                 | $ | 0.62   |  | $    | 0.42   |  | $ | 0.98  
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       
|Diluted                                          |  | $                                | 0.14   |                                 | $ | 0.61   |  | $    | 0.42   |  | $ | 0.97  
|                                                 |  |                                  |        |                                 |   |        |  |      |        |  |   |       



The incremental shares for the assumed
exercise of the outstanding options were determined by application of the treasury stock method. The incremental shares for the conversion of the preferred stock were determined assuming applicable performance goals had been met. The calculation of
the diluted EPS excludes 246,357 and 286,707 options for the three and nine months ended September 30, 2004 and 530,918 and 640,928 options outstanding for the three and nine months ended September 30, 2003 which were antidilutive.



8. COMMITMENTS AND CONTINGENCIES



Leases  The Company leases certain office facilities and equipment under
operating leases. Rent expense under all noncancelable operating lease obligations, net of income from noncancelable subleases aggregated, was approximately $965 thousand and $2.7 million for the three and nine months ended September 30, 2004, and
$1.0 million and $3.0 million for the three and nine months period ended September 30, 2003. There have been no significant changes in future minimum lease payments by the Company since December 31, 2003. Refer to the 2003 Form 10-K for information
regarding these commitments.



Litigation  The Company has
been named as a defendant in various legal actions arising in the normal course of business. In the opinion of management, after reviewing such claims with outside counsel, resolution of these matters is not expected to have a material adverse
impact on the Consolidated Financial Statements.



9. FINANCIAL INSTRUMENTS
WITH OFF-BALANCE SHEET RISK



The Company is a party to various financial
instruments with off-balance sheet risk in the normal course of business to meet the financial needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to
varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the consolidated balance sheets. The Companys exposure to credit loss in the event of nonperformance by the other party to the financial
instrument for commitments to extend credit is represented by the contractual or notional amount of these instruments. The Company uses the same credit policies in making these commitments and conditional obligations as it does for on-balance sheet
instruments. The following is a summary of the various financial instruments entered into by the Company (in thousands):



|                             |  |                    |         |                  |   |        
|---------------------------- |  | ------------------ | ------- | ---------------- | - | -------
|                             |  | September 30, 2004 |         | December 31,2003
|Commitments to extend credit |  | $                  | 573,804 |                  | $ | 483,046
|Standby letters of credit    |  |                    | 35,122  |                  |   | 24,455 



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Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition
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 fully drawn upon, the total commitment
amounts disclosed above do not necessarily represent future cash requirements. The Company evaluates each customers creditworthiness on a case-by-case basis. The amount of collateral obtained, if considered necessary by the Company, upon
extension of credit, is based on managements credit evaluation of the customer.



Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. The credit risk to the Company in issuing letters of credit is essentially the same as that involved in
extending loan facilities to its customers.



10. REGULATORY MATTERS



Capital requirements - The Company is subject to various
regulatory capital requirements administered by the state and federal banking agencies. Any institution that fails to meet its minimum capital requirements is subject to actions by regulators that could have a direct material effect on its financial
statements. Under the capital adequacy guidelines and the regulatory framework for prompt corrective action, Sterling Bank must meet specific capital guidelines based on its assets, liabilities, and certain off-balance sheet items as calculated
under regulatory accounting practices. The Companys capital amount and classification under the regulatory framework for prompt corrective action are also subject to qualitative judgments by the regulators.



To meet the capital adequacy requirements, Sterling Bancshares and Sterling Bank must
maintain minimum capital amounts and ratios as defined in the regulations. Management believes, as of September 30, 2004 and December 31, 2003, that Sterling Bancshares and Sterling Bank met all capital adequacy requirements to which they are
subject.



The most recent notification from the regulatory banking agencies
categorized Sterling Bank as well capitalized under the regulatory capital framework for prompt corrective action and there have been no events since that notification that management believes have changed Sterling Banks category.



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|                                         |  |                                           |         |       |                              |   |        |                                                                              |         |  |     |        |  |       |         |  |      |  
|---------------------------------------- |  | ----------------------------------------- | ------- | ----- | ---------------------------- | - | ------ | ---------------------------------------------------------------------------- | ------- |  | --- | ------ |  | ----- | ------- |  | ---- | -
|                                         |  | Actual                                    |         |       | For CapitalAdequacy Purposes |   |        | To Be Categorized asWell Capitalized UnderPrompt CorrectiveAction Provisions |        
|                                         |  | Amount                                    |         | Ratio |                              |   | Amount |                                                                              | Ratio   |  |     | Amount |  | Ratio |        
|                                         |  | (In thousands, except percentage amounts) |        
|CONSOLIDATED:                            |  |                                           |         |       |                              |   |        |                                                                              |         |  |     |        |  |       |         |  |      |  
|As of September 30, 2004:                |  |                                           |         |       |                              |   |        |                                                                              |         |  |     |        |  |       |         |  |      |  
|Total capital (to risk weighted assets)  |  | $                                         | 397,148 |       | 15.2                         | % |        | $                                                                            | 208,601 |  | 8.0 | %      |  |       | N/A     |  | N/A  |  
|Tier 1 capital (to risk weighted assets) |  |                                           | 321,829 |       | 12.3                         | % |        |                                                                              | 104,300 |  | 4.0 | %      |  |       | N/A     |  | N/A  |  
|Tier 1 capital (to average assets)       |  |                                           | 321,829 |       | 10.4                         | % |        |                                                                              | 123,589 |  | 4.0 | %      |  |       | N/A     |  | N/A  |  
|                                         |  |                                           |         |       |                              |  
|As of December 31, 2003:                 |  |                                           |         |       |                              |   |        |                                                                              |         |  |     |        |  |       |         |  |      |  
|Total capital (to risk weighted assets)  |  | $                                         | 383,252 |       | 15.4                         | % |        | $                                                                            | 199,095 |  | 8.0 | %      |  |       | N/A     |  | N/A  |  
|Tier 1 capital (to risk weighted assets) |  |                                           | 305,997 |       | 12.3                         | % |        |                                                                              | 99,547  |  | 4.0 | %      |  |       | N/A     |  | N/A  |  
|Tier 1 capital (to average assets)       |  |                                           | 305,997 |       | 10.4                         | % |        |                                                                              | 117,883 |  | 4.0 | %      |  |       | N/A     |  | N/A  |  
|                                         |  |                                           |         |       |                              |  
|STERLING BANK:                           |  |                                           |         |       |                              |   |        |                                                                              |         |  |     |        |  |       |         |  |      |  
|As of September 30, 2004:                |  |                                           |         |       |                              |   |        |                                                                              |         |  |     |        |  |       |         |  |      |  
|Total capital (to risk weighted assets)  |  | $                                         | 391,681 |       | 15.1                         | % |        | $                                                                            | 208,120 |  | 8.0 | %      |  | $     | 260,150 |  | 10.0 | %
|Tier 1 capital (to risk weighted assets) |  |                                           | 316,362 |       | 12.2                         | % |        |                                                                              | 104,060 |  | 4.0 | %      |  |       | 156,090 |  | 6.0  | %
|Tier 1 capital (to average assets)       |  |                                           | 316,362 |       | 10.3                         | % |        |                                                                              | 123,342 |  | 4.0 | %      |  |       | 154,177 |  | 5.0  | %
|                                         |  |                                           |         |       |                              |  
|As of December 31, 2003:                 |  |                                           |         |       |                              |   |        |                                                                              |         |  |     |        |  |       |         |  |      |  
|Total capital (to risk weighted assets)  |  | $                                         | 372,563 |       | 15.4                         | % |        | $                                                                            | 193,441 |  | 8.0 | %      |  | $     | 241,802 |  | 10.0 | %
|Tier 1 capital (to risk weighted assets) |  |                                           | 296,147 |       | 12.3                         | % |        |                                                                              | 96,721  |  | 4.0 | %      |  |       | 145,081 |  | 6.0  | %
|Tier 1 capital (to average assets)       |  |                                           | 296,147 |       | 10.3                         | % |        |                                                                              | 115,542 |  | 4.0 | %      |  |       | 144,427 |  | 5.0  | %



As discussed in Note 1, the Company
adopted FIN 46R on January 1, 2004. FIN 46R requires that trust preferred securities be deconsolidated from the Companys Consolidated Financial Statements. Trust preferred securities are considered currently in calculating Tier 1 capital
ratios. In May 2004, the Federal Reserve released proposed rules for the capital treatment of trust preferred securities. The proposed rules would limit the aggregate amount of trust preferred securities and certain other capital elements to 25% of
Tier 1 capital, net of goodwill. At September 30, 2004 approximately $60.4 million of the $82.5 million of trust preferred securities would count as Tier 1 capital. The excess amount of trust preferred securities not qualifying for Tier 1 capital
may be included in Tier II capital. This amount is limited to 50% of Tier 1 capital. There is a three-year transition period for banks to become compliant with the new rules. Additionally, the rules provide that trust preferred securities no longer
qualify for Tier 1 capital within 5 years of their maturity. Under the proposed rules, the Companys consolidated capital ratios at September 30, 2004 would have been:



|                                         |  |      |  
|---------------------------------------- |  | ---- | -
|Pro forma ratio:                         |  |      |  
|Total capital (to risk weighted assets)  |  | 15.2 | %
|Tier 1 capital (to risk weighted assets) |  | 11.6 | %
|Tier 1 capital (to average assets)       |  | 9.8  | %



Dividend restrictions -
Dividends paid by Sterling Bank and Sterling Bancshares are subject to certain restrictions imposed by regulatory agencies. Under these restrictions there was an aggregate of approximately $51.2 million and $82.9 million available for payment of
dividends at September 30, 2004, by Sterling Bank and Sterling Bancshares, respectively.



11. DISCONTINUED OPERATIONS



The
Company sold its mortgage-banking operations on September 30, 2003, to RBC Mortgage Company, an indirect subsidiary of the Royal Bank of Canada. The mortgage-banking operations were previously reported as the Companys mortgage-banking segment
and are now reported as discontinued operations. Income from discontinued operations for the three and nine months ended September 30, 2003, are as follows (in thousands except per share amounts):



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|                                                             |  |                                       |        |   |                                      |   |         |  
|------------------------------------------------------------ |  | ------------------------------------- | ------ | - | ------------------------------------ | - | ------- | -
|                                                             |  | Three Months Ended September 30, 2003 |        |   | Nine Months Ended September 30, 2003 |  
|Net interest income (loss) after provision for credit losses |  | $                                     | (699   | ) |                                      | $ | (4,407  | )
|                                                             |  |                                      
|Noninterest income:                                          |  |                                       |        |   |                                      |   |         |  
|Gain on sale of mortgage loans                               |  |                                       | 9,237  |   |                                      |   | 34,621  |  
|Mortgage origination income                                  |  |                                       | 6,228  |   |                                      |   | 23,823  |  
|Gain on the sale of SCMC                                     |  |                                       | 45,983 |   |                                      |   | 45,983  |  
|Other                                                        |  |                                       | 2,889  |   |                                      |   | 8,064   |  
|                                                             |  |                                       |        |   |                                      |   |         |  
|Total noninterest income                                     |  |                                       | 64,337 |   |                                      |   | 112,491 |  
|                                                             |  |                                      
|Noninterest expense:                                         |  |                                       |        |   |                                      |   |         |  
|Salaries and employee benefits                               |  |                                       | 8,105  |   |                                      |   | 24,246  |  
|Occupancy expense                                            |  |                                       | 3,356  |   |                                      |   | 9,420   |  
|Mortgage servicing rights amortization and impairment        |  |                                       | 1,155  |   |                                      |   | 16,615  |  
|Technology                                                   |  |                                       | 299    |   |                                      |   | 878     |  
|Professional fees                                            |  |                                       | 341    |   |                                      |   | 773     |  
|Postage, delivery and supplies                               |  |                                       | 824    |   |                                      |   | 2,582   |  
|Minority interest expense                                    |  |                                       | 3      |   |                                      |   | 40      |  
|Other                                                        |  |                                       | 5,129  |   |                                      |   | 8,811   |  
|                                                             |  |                                       |        |   |                                      |   |         |  
|Total noninterest expense                                    |  |                                       | 19,212 |   |                                      |   | 63,365  |  
|                                                             |  |                                      
|Income from discontinued operations before income taxes      |  |                                       | 44,426 |   |                                      |   | 44,719  |  
|Provision for income taxes                                   |  |                                       | 24,510 |   |                                      |   | 24,657  |  
|                                                             |  |                                       |        |   |                                      |   |         |  
|Income from discontinued operations                          |  | $                                     | 19,916 |   |                                      | $ | 20,062  |  
|                                                             |  |                                       |        |   |                                      |   |         |  
|Earnings per share from discontinued operations:             |  |                                       |        |   |                                      |   |         |  
|Basic                                                        |  | $                                     | 0.45   |   |                                      | $ | 0.45    |  
|                                                             |  |                                       |        |   |                                      |   |         |  
|Diluted                                                      |  | $                                     | 0.44   |   |                                      | $ | 0.45    |  
|                                                             |  |                                       |        |   |                                      |   |         |  



12. DIVESTITURE OF BANKING OFFICES



On March 20, 2003, the Company sold one of its banking offices located in
a rural area for a pre-tax gain of $3.4 million. At the sale date, this banking office had approximately $18.7 million in assets, $16.8 million in loans and $95.7 million of deposits that were included in the sale transaction.



On May 8, 2003, the Company completed the sale of three banking offices located in rural
areas. Assets of $16.6 million, loans of $15.2 million and deposits of $42.1 million were sold in the transaction. A pre-tax loss of $142 thousand was recorded on the sale during the second quarter of 2003.



On September 16, 2004, the Company closed one of its banking offices and merged the
operations into another location. The Company retained the loans and deposits associated with this location. The bank building and related fixtures were sold for a pre-tax loss of $27 thousand.



These offices were acquired originally as part of previous acquisitions. The net gain (loss)
was determined based on the Companys recorded investment in these offices including allocated goodwill and intangibles.



ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



FORWARD-LOOKING STATEMENTS



This report may contain certain statements relating to the future results of the Company based upon information currently available. These forward-looking
statements (as defined in Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Exchange Act) are typically identified by words such as expects, anticipates, intends,
plans, believes, seeks, estimates, or words of similar meaning, or future or conditional verbs such as will, would, should, could, or may.



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Forward-looking statements provide our expectation or predictions of future conditions, events or results.
Forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from those in such statements. These risks and uncertainties include, but are not limited to, the following:



| |  | general business and economic conditions in the markets we serve may be less favorable than anticipated which could decrease the demand for loan, deposit and other financial
services and increase loan delinquencies and defaults;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | changes in market rates and prices may adversely impact the value of securities, loans, deposits and other financial instruments;
| | - | ---------------------------------------------------------------------------------------------------------------------------------



| |  | our liquidity requirements could be adversely affected by changes in our assets and liabilities;
| | - | ------------------------------------------------------------------------------------------------



| |  | the effect of legislative or regulatory developments including changes in laws concerning taxes, banking, securities, insurance and other aspects of the financial securities
industry;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | competitive factors, including product and pricing pressures among financial services organizations, may increase;
| | - | ------------------------------------------------------------------------------------------------------------------



| |  | the effect of changes in accounting policies and practices, as may be adopted by regulatory agencies, as well as the Financial Accounting Standards Board and other accounting
regulatory agencies; and
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the effect of fiscal and governmental policies of the United States federal government.
| | - | ---------------------------------------------------------------------------------------



For additional discussion of such risks, uncertainties and assumptions, see the Companys Annual Report on Form 10-K for the year ended
December 31, 2003, filed with the Securities and Exchange Commission.



OVERVIEW



We are a bank holding company headquartered in
Houston, Texas that provides a range of commercial and consumer banking services through our subsidiary, Sterling Bank. We operate 36 banking offices in the greater metropolitan areas of Houston, San Antonio and Dallas. At September 30, 2004, the
Company had consolidated total assets of $3.2 billion, total loans of $2.2 billion, deposits of $2.4 billion and shareholders equity of $307.4 million.



The Company reported net income of $6.5 million or $0.14 per diluted share for the third quarter of 2004 compared to $27.3 million or $0.61 per diluted share for the
third quarter of 2003. Net income for the third quarter of 2003 included after-tax income of $19.9 million or $0.44 per diluted share from the Companys mortgage-banking segment which was sold on September 30, 2003 and separately reported as
discontinued operations. Income from continuing operations for the third quarter of 2003 was $7.4 million or $0.17 per diluted share.



For the nine months ended September 30, 2004, net income was $18.8 million or $0.42 per diluted share compared with $43.2 million or $0.97 per diluted share earned for
the same period in 2003. Net income for the nine months ended September 30, 2004, includes after-tax net gains on the sales of securities of $3.0 million or $0.07 per diluted share and impairment charges on certain bank properties of $721 thousand
or $0.02 per diluted share, net of taxes. Net income for the 2003 period included income from discontinued operations of $20.1 million or $0.45 per diluted share and an after-tax net gain on the sale of rural banking offices of $2.1 million or $0.05
per diluted share.



The Company continued its expense management initiative
during the quarter. Numerous expense reduction and alignment projects have been identified including the consolidation of smaller offices, disposition of unprofitable initiatives, modification of certain perquisite benefit programs and continued
reductions of staffing levels through attrition. These projects are expected to continue to reduce the Companys current noninterest expense base during the remainder of 2004 and allow for greater control of expense growth in 2005. As one of
these initiatives, the Company sold one unprofitable banking facility during the third quarter of 2004.



CRITICAL ACCOUNTING POLICIES



The
preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires management to make a number of judgments, estimates and assumptions that affect the reported amount of assets,
liabilities, income and expenses in our Consolidated Financial Statements and accompanying notes. We believe that the judgments, estimates and assumptions used in the preparation of our Consolidated Financial Statements are appropriate given the
factual circumstances as of September 30, 2004.



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Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation
assumptions and other subjective assessments. We have identified two accounting policies that, due to the judgments, estimates and assumptions inherent in those policies, and the sensitivity of our Consolidated Financial Statements to those
judgments, estimates and assumptions, are critical to an understanding of our Consolidated Financial Statements. These policies relate to the methodology that determines our allowance for credit losses and the assumptions used in determining
stock-based compensation.



These policies and the judgments, estimates and
assumptions are described in greater detail in the Companys 2003 Annual Report on Form 10-K in the Critical Accounting Estimates section of Managements Discussion and Analysis and in Note 1 to the Consolidated Financial
Statements  Organization and Summary of Significant Accounting and Reporting Policies. There have been no material changes in these policies since December 31, 2003.



RECENT ACCOUNTING STANDARDS



On January 1, 2004, the Company adopted FIN 46R, Consolidation of Variable Interest Entities. Upon adoption, the trusts that previously issued the outstanding
company-obligated mandatorily redeemable trust preferred securities were deconsolidated from the Companys Consolidated Financial Statements. Instead, the junior subordinated debentures issued by the Company to these subsidiary trusts are shown
as liabilities in the consolidated balance sheets and interest expense associated with the junior subordinated debentures are shown in the consolidated statements of income. The Consolidated Financial Statements have been restated to reflect the
adoption of FIN 46R. Adoption of FIN 46R did not affect previously reported amounts for net income or shareholders equity.



In December 2003, the Accounting Standards Executive Committee of the AICPA issued Statement of Position No. 03-3 (SOP 03-3), Accounting for Certain Loans
or Debt Securities Acquired in a Transfer. SOP 03-3 addresses the accounting for differences between the contractual cash flows and the cash flows expected to be collected from purchased loans or debt securities if those differences are
attributable, in part, to credit quality. SOP 03-3 requires purchased loans and debt securities to be recorded initially at fair value based on the present value of the cash flows expected to be collected with no carryover of any valuation allowance
previously recognized by the seller. Interest income should be recognized based on the effective yield from the cash flows expected to be collected. To the extent that the purchased loans experience subsequent deterioration in credit quality, a
valuation allowance would be established for any additional cash flows that are not expected to be received. However, if more cash flows subsequently are expected to be received than originally estimated, the effective yield would be adjusted on a
prospective basis. Adoption of SOP 03-3 did not have a material impact on the Companys financial condition or results of operations.



SEC Staff Accounting Bulletin No. 105, Application of Accounting Principles to Loan Commitments(SAB 105) addresses the application of generally
accepted accounting principles to loan commitments accounted for as derivative instruments. SAB 105 provides that the fair value of recorded loan commitments to be held for sale that are accounted for as derivatives should not incorporate the
expected future cash flows related to the associated servicing of the future loan. In addition, SAB 105 requires registrants to disclose their accounting policy for loan commitments. The provisions of SAB 105 must be applied to loan commitments
accounted for as derivatives that are entered into after March 31, 2004. SAB 105 did not have a material impact on the Companys Consolidated Financial Statements.



In March 2004, the Emerging Issues Task Force reached a consensus on Issue No. 03-1, The Meaning of Other-Than-Temporary Impairment and
Its Application to Certain Investments.This Issue provides guidance for determining when an investment is other-than-temporarily impaired. This Issue specifically addresses whether an investor has the ability and intent to hold an investment
until recovery. In addition, Issue 03-1 contains disclosure requirements that provide useful information about impairments that have not been recognized as other-than-temporary for investments within the scope of this Issue. On September 30, 2004,
the Financial Accounting Standards Board deferred the effective date of this Issues guidance on how to evaluate and recognize an impairment loss that is other-than-temporary. This Issues guidance is pending the issuance of a final FASB
Staff Position (FSP) relating to the draft FSP EITF Issue 03-1-a, Implementation Guidance for the Application of Paragraph 16 of EITF Issue No. 03-1,The Meaning of Other-Than-Temporary Impairment and Its Application to
Certain Investments. This deferral did not change the disclosure guidance which remains effective for fiscal years ending after December 15, 2003.



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SELECTED FINANCIAL DATA



|                                                      |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|----------------------------------------------------- |  | ----------------------------------------------------- | --------- | - | ------------------------------ | - | --------- | --------------------------- |  | - | --------- | - |  | - | --------- | - |  | - | --------- | -
|                                                      |  | Three Months EndedSeptember 30,                       |           |   | Nine Months EndedSeptember 30, |   |           | Year EndedDecember 31, 2003 | 
|                                                      |  | 2004                                                  |           |   | 2003                           |   |           | 2004                        |  |   | 2003      |   | 
|                                                      |  | ( Dollars in thousands, except for per share amounts) |          
|INCOME STATEMENT DATA:                                |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Net interest income                                   |  | $                                                     | 34,251    |   |                                | $ | 35,733    |                             |  | $ | 99,618    |   |  | $ | 106,992   |   |  | $ | 138,235   |  
|Provision for credit losses                           |  |                                                       | 2,115     |   |                                |   | 4,150     |                             |  |   | 8,396     |   |  |   | 14,698    |   |  |   | 17,698    |  
|Noninterest income                                    |  |                                                       | 6,795     |   |                                |   | 7,478     |                             |  |   | 24,789    |   |  |   | 25,841    |   |  |   | 33,270    |  
|Noninterest expense                                   |  |                                                       | 29,495    |   |                                |   | 27,929    |                             |  |   | 88,642    |   |  |   | 83,524    |   |  |   | 111,416   |  
|Income from continuing operations before income taxes |  |                                                       | 9,436     |   |                                |   | 11,132    |                             |  |   | 27,369    |   |  |   | 34,611    |   |  |   | 42,391    |  
|Income from continuing operations                     |  |                                                       | 6,486     |   |                                |   | 7,425     |                             |  |   | 18,793    |   |  |   | 23,157    |   |  |   | 28,354    |  
|Income from discontinued operations                   |  |                                                       |          |   |                                |   | 19,916    |                             |  |   |          |   |  |   | 20,062    |   |  |   | 20,756    |  
|Net income                                            |  |                                                       | 6,486     |   |                                |   | 27,341    |                             |  |   | 18,793    |   |  |   | 43,219    |   |  |   | 49,110    |  
|                                                      |  |                                                       |           |   |                               
|BALANCE SHEET DATA (at period-end):                   |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Total assets                                          |  | $                                                     | 3,234,049 |   |                                | $ | 3,125,929 |                             |  | $ | 3,234,049 |   |  | $ | 3,125,929 |   |  | $ | 3,206,880 |  
|Total loans                                           |  |                                                       | 2,226,433 |   |                                |   | 2,321,982 |                             |  |   | 2,226,433 |   |  |   | 2,321,982 |   |  |   | 2,157,039 |  
|Allowance for credit losses                           |  |                                                       | (27,959   | ) |                                |   | (31,350   | )                           |  |   | (27,959   | ) |  |   | (31,350   | ) |  |   | (30,722   | )
|Total securities                                      |  |                                                       | 609,789   |   |                                |   | 357,978   |                             |  |   | 609,789   |   |  |   | 357,978   |   |  |   | 565,093   |  
|Trading assets                                        |  |                                                       | 123,880   |   |                                |   | 131,597   |                             |  |   | 123,880   |   |  |   | 131,597   |   |  |   | 172,825   |  
|Total deposits                                        |  |                                                       | 2,392,183 |   |                                |   | 2,416,262 |                             |  |   | 2,392,183 |   |  |   | 2,416,262 |   |  |   | 2,418,369 |  
|Other borrowed funds                                  |  |                                                       | 377,750   |   |                                |   | 231,956   |                             |  |   | 377,750   |   |  |   | 231,956   |   |  |   | 324,160   |  
|Notes payable                                         |  |                                                       |          |   |                                |   | 17,028    |                             |  |   |          |   |  |   | 17,028    |   |  |   |          |  
|Subordinated debt                                     |  |                                                       | 47,360    |   |                                |   | 47,453    |                             |  |   | 47,360    |   |  |   | 47,453    |   |  |   | 46,533    |  
|Junior subordinated debt                              |  |                                                       | 82,475    |   |                                |   | 82,475    |                             |  |   | 82,475    |   |  |   | 82,475    |   |  |   | 82,475    |  
|Shareholders equity                                  |  |                                                       | 307,365   |   |                                |   | 287,130   |                             |  |   | 307,365   |   |  |   | 287,130   |   |  |   | 292,596   |  
|                                                      |  |                                                       |           |   |                               
|COMMON SHARE DATA:                                    |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Earnings per share from continuing operations (1)     |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Basic                                                 |  | $                                                     | 0.14      |   |                                | $ | 0.17      |                             |  | $ | 0.42      |   |  | $ | 0.53      |   |  | $ | 0.64      |  
|Diluted                                               |  |                                                       | 0.14      |   |                                |   | 0.17      |                             |  |   | 0.42      |   |  |   | 0.52      |   |  |   | 0.64      |  
|Earnings per share from discontinued operations (1)   |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Basic                                                 |  |                                                       |          |   |                                |   | 0.45      |                             |  |   |          |   |  |   | 0.45      |   |  |   | 0.47      |  
|Diluted                                               |  |                                                       |          |   |                                |   | 0.44      |                             |  |   |          |   |  |   | 0.45      |   |  |   | 0.46      |  
|Earnings per share (1)                                |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Basic                                                 |  |                                                       | 0.14      |   |                                |   | 0.62      |                             |  |   | 0.42      |   |  |   | 0.98      |   |  |   | 1.11      |  
|Diluted                                               |  |                                                       | 0.14      |   |                                |   | 0.61      |                             |  |   | 0.42      |   |  |   | 0.97      |   |  |   | 1.10      |  
|Shares used in computing earnings per common share    |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Basic                                                 |  |                                                       | 44,881    |   |                                |   | 44,202    |                             |  |   | 44,793    |   |  |   | 44,097    |   |  |   | 44,180    |  
|Diluted                                               |  |                                                       | 45,360    |   |                                |   | 44,852    |                             |  |   | 45,259    |   |  |   | 44,765    |   |  |   | 44,648    |  
|End of period common shares outstanding               |  |                                                       | 44,917    |   |                                |   | 44,232    |                             |  |   | 44,917    |   |  |   | 44,232    |   |  |   | 44,642    |  
|Book value per common share at period-end             |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Total                                                 |  | $                                                     | 6.84      |   |                                | $ | 6.49      |                             |  | $ | 6.84      |   |  | $ | 6.49      |   |  | $ | 6.55      |  
|Tangible                                              |  |                                                       | 5.40      |   |                                |   | 5.31      |                             |  |   | 5.40      |   |  |   | 5.31      |   |  |   | 5.09      |  
|Cash dividends paid per common share                  |  |                                                       | 0.050     |   |                                |   | 0.045     |                             |  |   | 0.150     |   |  |   | 0.135     |   |  |   | 0.180     |  
|Common stock dividend payout ratio                    |  |                                                       | 34.59     | % |                                |   | 7.27      | %                           |  |   | 35.74     | % |  |   | 13.77     | % |  |   | 16.19     | %
|                                                      |  |                                                       |           |   |                               
|SELECTED PERFORMANCE RATIOS AND OTHER DATA:           |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Return on average common equity (2)                   |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Total                                                 |  |                                                       | 8.51      | % |                                |   | 40.60     | %                           |  |   | 8.36      | % |  |   | 22.06     | % |  |   | 18.18     | %
|Continuing                                            |  |                                                       | 8.51      | % |                                |   | 11.03     | %                           |  |   | 8.36      | % |  |   | 11.82     | % |  |   | 10.50     | %
|Return on average assets (2)                          |  |                                                       |           |   |                                |   |           |                             |  |   |           |   |  |   |           |   |  |   |           |  
|Total                                                 |  |                                                       | 0.82      | % |                                |   | 3.16      | %                           |  |   | 0.80      | % |  |   | 1.69      | % |  |   | 1.48      | %
|Continuing                                            |  |                                                       | 0.82      | % |                                |   | 0.86      | %                           |  |   | 0.80      | % |  |   | 0.91      | % |  |   | 0.86      | %
|Net interest margin                                   |  |                                                       | 4.75      | % |                                |   | 4.58      | %                           |  |   | 4.63      | % |  |   | 4.72      | % |  |   | 4.68      | %
|Efficiency ratio                                      |  |                                                       | 71.86     | % |                                |   | 64.63     | %                           |  |   | 71.25     | % |  |   | 62.88     | % |  |   | 64.96     | %
|Full-time equivalent employees                        |  |                                                       | 994       |   |                                |   | 985       |                             |  |   | 994       |   |  |   | 985       |   |  |   | 1036      |  
|Number of banking offices                             |  |                                                       | 36        |   |                                |   | 35        |                             |  |   | 36        |   |  |   | 35        |   |  |   | 37        |  



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|                                                                                                           |  |                                 |   |  |                                |   |  |                             |   |  |        |   |  |       |  
|---------------------------------------------------------------------------------------------------------- |  | ------------------------------- | - |  | ------------------------------ | - |  | --------------------------- | - |  | ------ | - |  | ----- | -
|                                                                                                           |  | Three Months EndedSeptember 30, |   |  | Nine Months EndedSeptember 30, |   |  | Year EndedDecember 31, 2003 |  
|                                                                                                           |  | 2004                            |   |  | 2003                           |   |  | 2004                        |   |  | 2003   |   | 
|LIQUIDITY AND CAPITAL RATIOS:                                                                              |  |                                 |   |  |                                |   |  |                             |   |  |        |   |  |       |  
|Average loans to average deposits                                                                          |  | 90.36                           | % |  | 108.42                         | % |  | 88.41                       | % |  | 103.44 | % |  | 99.91 | %
|Period-end shareholders equity to total assets                                                            |  | 9.50                            | % |  | 9.19                           | % |  | 9.50                        | % |  | 9.19   | % |  | 9.13  | %
|Average shareholders equity to average assets                                                             |  | 9.67                            | % |  | 7.78                           | % |  | 9.54                        | % |  | 7.69   | % |  | 8.17  | %
|Period-end tangible capital to total tangible assets                                                       |  | 7.66                            | % |  | 7.65                           | % |  | 7.66                        | % |  | 7.65   | % |  | 7.24  | %
|Tier 1 capital to risk-weighted assets                                                                     |  | 12.34                           | % |  | 11.91                          | % |  | 12.34                       | % |  | 11.91  | % |  | 12.30 | %
|Total capital to risk-weighted assets                                                                      |  | 15.23                           | % |  | 14.92                          | % |  | 15.23                       | % |  | 14.92  | % |  | 15.40 | %
|Tier 1 leverage ratio (Tier 1 capital to total average assets)                                             |  | 10.42                           | % |  | 9.23                           | % |  | 10.42                       | % |  | 9.23   | % |  | 10.38 | %
|                                                                                                           |  |                                 |   |  |                               
|ASSET QUALITY RATIOS:                                                                                      |  |                                 |   |  |                                |   |  |                             |   |  |        |   |  |       |  
|Period-end allowance for credit losses to period-end loans                                                 |  | 1.26                            | % |  | 1.35                           | % |  | 1.26                        | % |  | 1.35   | % |  | 1.42  | %
|Net charge-offs to average loans (2)                                                                       |  | 0.27                            | % |  | 0.65                           | % |  | 0.69                        | % |  | 0.53   | % |  | 0.60  | %
|Period-end allowance for credit losses to nonperforming loans                                              |  | 232.45                          | % |  | 158.43                         | % |  | 232.45                      | % |  | 158.43 | % |  | 90.66 | %
|Nonperforming assets to period-end loans, real estate acquired by foreclosure and other repossessed assets |  | 0.73                            | % |  | 0.98                           | % |  | 0.73                        | % |  | 0.98   | % |  | 1.68  | %
|Nonperforming loans to period-end loans                                                                    |  | 0.54                            | % |  | 0.85                           | % |  | 0.54                        | % |  | 0.85   | % |  | 1.57  | %
|Nonperforming assets to period-end assets                                                                  |  | 0.50                            | % |  | 0.73                           | % |  | 0.50                        | % |  | 0.73   | % |  | 1.13  | %

---

|(1) | Earnings per share in each quarter from continuing operations, discontinued operations and net income is computed individually using the weighted-average number of shares
outstanding during that quarter while earnings per share for the full period is computed using the weighted-average number of shares outstanding during the year. Thus, the sum for the quarters and net income from continuing and discontinued
operations earnings per share does not necessarily equal the full period and net income earnings per share. The calculation of diluted EPS excludes 246,357 and 286,707 options for the three and nine months ended September 30, 2004, 530,918 and
640,928 options for the three and nine months ended September 30, 2003 and 620,431 options for December 31, 2003 which were antidilutive.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | Interim periods annualized
|--- | --------------------------



RESULTS OF OPERATIONS



Net Income
- Net income for the three months ended September 30, 2004 decreased $20.9 million from the comparable period in 2003. Net income for the third quarter of 2003 included after-tax income from discontinued operations of $19.9 million, or $0.44
per diluted share. Included in discontinued operations, was an after-tax gain of $22.1 million from the sale of our mortgage-banking operations on September 30, 2003.



Net income for the nine months ended September 30, 2004 decreased $24.4 million as compared with the same period of 2003. Net income for the
nine months ended September 30 2003, included after-tax income from discontinued operations of $20.1 million or $0.45 per diluted share.



Details of the changes in the various components of net income are further discussed below.



Net Interest Income - Net interest income for the three and nine months ended September 30, 2004 decreased $1.5 million or
4.1% and $7.4 million or 6.9% compared with the same periods in 2003, respectively. Our net interest income and margin are impacted by current interest rates available and the volume and mix of our interest-earning assets. During the third quarter
of 2004, the Federal Open Market Committee increased overnight interest rates by 50 basis points for a total increase of 75 basis points for the year.



The decrease in net interest income for the three-month period was attributable to lower average interest-earning assets partially offset by an increase in net interest
margin. Interest income decreased $2.2 million for the three months ended September 30, 2004, compared to the same period in 2003, due to a decrease in average interest-earning assets. The impact of the decrease in average interest-earning assets
was reduced by a 17 basis point increase in the average yield earned on interest-earning assets. Interest expense decreased $669 thousand due to a decrease in average interest-bearing liabilities. The affect of the decrease in average
interest-bearing liabilities was offset by a modest increase in the average yield paid on interest-bearing liabilities of five basis points.



The decrease in net interest income for the nine-month period was attributable to decreases in both interest-earning assets and net interest margin. Interest income
decreased $11.7 million due to a decrease in average interest-earning assets and a 23 basis point decrease in the average yield earned on interest-earning assets. Interest expense decreased $4.3 million from the nine month period ended September 30,
2003, due to a decrease in average interest-bearing liabilities and a decrease in average yield paid on interest-bearing liabilities of 15 basis points.



Average interest-earning assets for the three and nine-month periods ended September 30, 2004 decreased $231.2 million or 7.5% and $154.7 million or 5.1% over the
comparable periods in 2003, respectively. These decreases were primarily impacted by a decrease in



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average loans held for sale which decreased $606.8 million and $573.6 million for the three and nine-month periods ended
September 30, 2004, respectively. Average loans held for sale for these periods included $613.4 million and $578.2 million, respectively, related to the mortgage warehouse we financed for our mortgage-banking operation. On September 30, 2003, we
completed the sale of our mortgage-banking operations and Sterling Bank lost the benefit of the mortgage warehouse shortly after completing the sale when the buyer decided to pay off this credit facility.



In the fourth quarter of 2003, continuing through the second quarter of 2004, we increased
the size of the investment portfolio for balance sheet liquidity purposes and to replace a portion of the earning assets of the mortgage-banking operation. On average, the securities portfolio for the three and nine month periods ended September 30,
2004 was higher by $266.2 million or 87.9% and $264.4 million or 86.4%, respectively, as compared with the same periods in 2003. Overall, the average yields on these securities are less than the yield previously earned on the mortgage warehouse
credit facility. During the second quarter of 2004, we sold our holdings in lower yielding U.S. Treasury securities. These funds were redeployed into higher earning mortgage-backed securities during the third quarter of 2004.



Average interest-bearing liabilities for the three and nine month periods ended September 30,
2004 decreased $236.5 million or 10.7% and $178.0 million or 8.2%, respectively, from the same periods in 2003. The average balance of other borrowed funds and notes payable decreased $274.6 million or 50.4% and $242.4 million or 49.9% for the three
and nine month periods ended September 30, 2004, respectively, as compared to the same periods in 2003. We repaid certain borrowings and notes payable after the sale of our mortgage-banking operations.



Our net interest margin for the three-month period ended September 30, 2004 was 4.75%
compared to 4.58% for the same period in 2003, an increase of 17 basis points. The increase in net interest margin was primarily due to the yield on interest-earning assets responding to the changes in the investment portfolio noted above and the
recent interest rate increases.



For the nine-month period ended September 30,
2004, our net interest margin was 4.63% compared to 4.72% for the same period in 2003. This decrease was due to the payoff of the higher yielding mortgage warehouse credit facility and declines in market interest rates that occurred prior to 2004.



Certain average balances, together with the total dollar amounts of interest
income and expense and the average interest yields/rates are included below. No tax equivalent adjustments were made (dollars in thousands).



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|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|---------------------------------------------- |  | -------------------------------- | --------- | - | -------- | - | ----------------- |  | ---- | -------------- |  | - | --------- | - | ----------------- | - | ------ |  | ---- | -
|                                               |  | Three Months Ended September 30, |          
|                                               |  | 2004                             |           |   | 2003     |  
|                                               |  | AverageBalance                   |           |   | Interest |   | AverageYield/Rate |  |      | AverageBalance |  |   | Interest  |   | AverageYield/Rate |  
|Interest-earning assets:                       |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Loans held for sale (1)                        |  | $                                | 14,356    |   |          | $ | 304               |  | 8.43 | %              |  | $ | 621,113   |   |                   | $ | 8,240  |  | 5.26 | %
|Loans held for investment (1):                 |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Taxable                                        |  |                                  | 2,158,193 |   |          |   | 34,268            |  | 6.32 | %              |  |   | 2,029,679 |   |                   |   | 32,086 |  | 6.27 | %
|Non-taxable                                    |  |                                  | 3,953     |   |          |   | 63                |  | 6.34 | %              |  |   | 4,400     |   |                   |   | 70     |  | 6.31 | %
|Securities:                                    |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Taxable                                        |  |                                  | 520,018   |   |          |   | 5,560             |  | 4.25 | %              |  |   | 254,234   |   |                   |   | 2,162  |  | 3.37 | %
|Non-taxable                                    |  |                                  | 49,108    |   |          |   | 520               |  | 4.21 | %              |  |   | 48,706    |   |                   |   | 529    |  | 4.31 | %
|Trading assets                                 |  |                                  | 113,252   |   |          |   | 1,084             |  | 3.81 | %              |  |   | 126,349   |   |                   |   | 857    |  | 2.69 | %
|Federal funds sold                             |  |                                  | 6,980     |   |          |   | 25                |  | 1.43 | %              |  |   | 12,722    |   |                   |   | 27     |  | 0.84 | %
|Deposits in financial institutions             |  |                                  | 1,471     |   |          |   | 13                |  | 3.58 | %              |  |   | 1,344     |   |                   |   | 17     |  | 5.02 | %
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Total interest-earning assets                  |  |                                  | 2,867,331 |   |          |   | 41,837            |  | 5.80 | %              |  |   | 3,098,547 |   |                   |   | 43,988 |  | 5.63 | %
|                                               |  |                                  |           |   |          |  
|Noninterest-earning assets:                    |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Cash and due from banks                        |  |                                  | 93,958    |   |          |   |                   |  |      |                |  |   | 98,693    |   |                   |   |        |  |      |  
|Premises and equipment, net                    |  |                                  | 43,290    |   |          |   |                   |  |      |                |  |   | 46,174    |   |                   |   |        |  |      |  
|Other assets                                   |  |                                  | 161,943   |   |          |   |                   |  |      |                |  |   | 189,058   |   |                   |   |        |  |      |  
|Allowance for credit losses                    |  |                                  | (27,630   | ) |          |   |                   |  |      |                |  |   | (32,333   | ) |                   |   |        |  |      |  
|Assets related to discontinued operations      |  |                                  |          |   |          |   |                   |  |      |                |  |   | 36,683    |   |                   |   |        |  |      |  
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Total noninterest-earning assets               |  |                                  | 271,561   |   |          |   |                   |  |      |                |  |   | 338,275   |   |                   |   |        |  |      |  
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Total assets                                   |  | $                                | 3,138,892 |   |          |   |                   |  |      |                |  | $ | 3,436,822 |   |                   |   |        |  |      |  
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Interest-bearing liabilities:                  |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Deposits:                                      |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Demand and savings                             |  | $                                | 959,840   |   |          | $ | 1,239             |  | 0.51 | %              |  | $ | 877,274   |   |                   | $ | 987    |  | 0.45 | %
|Certificates and other time                    |  |                                  | 614,241   |   |          |   | 3,006             |  | 1.95 | %              |  |   | 658,217   |   |                   |   | 3,461  |  | 2.09 | %
|Other borrowed funds                           |  |                                  | 270,682   |   |          |   | 1,047             |  | 1.54 | %              |  |   | 527,771   |   |                   |   | 1,491  |  | 1.12 | %
|Notes payable                                  |  |                                  |          |   |          |   |                  |  |     |                |  |   | 17,553    |   |                   |   | 137    |  | 3.10 | %
|Subordinated debt                              |  |                                  | 45,905    |   |          |   | 678               |  | 5.87 | %              |  |   | 46,356    |   |                   |   | 589    |  | 5.04 | %
|Junior subordinated debt                       |  |                                  | 82,475    |   |          |   | 1,616             |  | 7.80 | %              |  |   | 82,475    |   |                   |   | 1,590  |  | 7.65 | %
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Total interest-bearing liabilities             |  |                                  | 1,973,143 |   |          |   | 7,586             |  | 1.53 | %              |  |   | 2,209,646 |   |                   |   | 8,255  |  | 1.48 | %
|                                               |  |                                  |           |   |          |  
|Noninterest-bearing sources:                   |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Demand deposits                                |  |                                  | 834,566   |   |          |   |                   |  |      |                |  |   | 913,403   |   |                   |   |        |  |      |  
|Other liabilities                              |  |                                  | 27,680    |   |          |   |                   |  |      |                |  |   | 10,390    |   |                   |   |        |  |      |  
|Liabilities related to discontinued operations |  |                                  |          |   |          |   |                   |  |      |                |  |   | 35,995    |   |                   |   |        |  |      |  
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Total noninterest-bearing liabilities          |  |                                  | 862,246   |   |          |   |                   |  |      |                |  |   | 959,788   |   |                   |   |        |  |      |  
|                                               |  |                                  |           |   |          |  
|Shareholders equity                           |  |                                  | 303,503   |   |          |   |                   |  |      |                |  |   | 267,388   |   |                   |   |        |  |      |  
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Total liabilities and shareholders equity     |  | $                                | 3,138,892 |   |          |   |                   |  |      |                |  | $ | 3,436,822 |   |                   |   |        |  |      |  
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  
|Net interest income & margin                   |  |                                  |           |   |          | $ | 34,251            |  | 4.75 | %              |  |   |           |   |                   | $ | 35,733 |  | 4.58 | %
|                                               |  |                                  |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |        |  |      |  

---

|(1) | For the purpose of calculating loan yields, average loan balances included nonaccrual loans with no related interest income.
|--- | ----------------------------------------------------------------------------------------------------------------------------



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|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|---------------------------------------------- |  | ------------------------------- | --------- | - | -------- | - | ----------------- |  | ---- | -------------- |  | - | --------- | - | ----------------- | - | ------- |  | ---- | -
|                                               |  | Nine Months Ended September 30, |          
|                                               |  | 2004                            |           |   | 2003     |  
|                                               |  | AverageBalance                  |           |   | Interest |   | AverageYield/Rate |  |      | AverageBalance |  |   | Interest  |   | AverageYield/Rate |  
|Interest-earning assets:                       |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Loans held for sale (1)                        |  | $                               | 11,721    |   |          | $ | 619               |  | 7.06 | %              |  | $ | 585,303   |   |                   | $ | 23,844  |  | 5.45 | %
|Loans held for investment (1):                 |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Taxable                                        |  |                                 | 2,148,655 |   |          |   | 100,078           |  | 6.22 | %              |  |   | 2,000,584 |   |                   |   | 97,525  |  | 6.52 | %
|Non-taxable                                    |  |                                 | 4,068     |   |          |   | 195               |  | 6.40 | %              |  |   | 4,673     |   |                   |   | 223     |  | 6.38 | %
|Securities:                                    |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Taxable                                        |  |                                 | 525,889   |   |          |   | 15,557            |  | 3.95 | %              |  |   | 252,001   |   |                   |   | 7,087   |  | 3.76 | %
|Non-taxable                                    |  |                                 | 44,491    |   |          |   | 1,439             |  | 4.32 | %              |  |   | 53,940    |   |                   |   | 1,773   |  | 4.39 | %
|Trading assets                                 |  |                                 | 130,089   |   |          |   | 3,537             |  | 3.63 | %              |  |   | 118,323   |   |                   |   | 2,590   |  | 2.93 | %
|Federal funds sold                             |  |                                 | 9,193     |   |          |   | 68                |  | 0.98 | %              |  |   | 14,311    |   |                   |   | 113     |  | 1.06 | %
|Deposits in financial institutions             |  |                                 | 1,608     |   |          |   | 44                |  | 3.68 | %              |  |   | 1,262     |   |                   |   | 53      |  | 5.61 | %
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Total interest-earning assets                  |  |                                 | 2,875,714 |   |          |   | 121,537           |  | 5.65 | %              |  |   | 3,030,397 |   |                   |   | 133,208 |  | 5.88 | %
|                                               |  |                                 |           |   |          |  
|Noninterest-earning assets:                    |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Cash and due from banks                        |  |                                 | 99,153    |   |          |   |                   |  |      |                |  |   | 98,781    |   |                   |   |         |  |      |  
|Premises and equipment, net                    |  |                                 | 46,617    |   |          |   |                   |  |      |                |  |   | 48,329    |   |                   |   |         |  |      |  
|Other assets                                   |  |                                 | 158,753   |   |          |   |                   |  |      |                |  |   | 218,002   |   |                   |   |         |  |      |  
|Allowance for credit losses                    |  |                                 | (28,756   | ) |          |   |                   |  |      |                |  |   | (29,961   | ) |                   |   |         |  |      |  
|Assets related to discontinued operations      |  |                                 |          |   |          |   |                   |  |      |                |  |   | 47,600    |   |                   |   |         |  |      |  
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Total noninterest-earning assets               |  |                                 | 275,767   |   |          |   |                   |  |      |                |  |   | 382,751   |   |                   |   |         |  |      |  
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Total assets                                   |  | $                               | 3,151,481 |   |          |   |                   |  |      |                |  | $ | 3,413,148 |   |                   |   |         |  |      |  
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Interest-bearing liabilities:                  |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Deposits:                                      |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Demand and savings                             |  | $                               | 945,246   |   |          | $ | 3,272             |  | 0.46 | %              |  | $ | 894,814   |   |                   | $ | 3,736   |  | 0.56 | %
|Certificates and other time                    |  |                                 | 682,133   |   |          |   | 9,646             |  | 1.89 | %              |  |   | 684,051   |   |                   |   | 11,514  |  | 2.25 | %
|Other borrowed funds                           |  |                                 | 243,632   |   |          |   | 2,314             |  | 1.27 | %              |  |   | 466,660   |   |                   |   | 4,417   |  | 1.27 | %
|Notes payable                                  |  |                                 |          |   |          |   |                  |  |     |                |  |   | 19,343    |   |                   |   | 457     |  | 3.16 | %
|Subordinated debt                              |  |                                 | 46,437    |   |          |   | 1,893             |  | 5.45 | %              |  |   | 30,620    |   |                   |   | 1,305   |  | 5.70 | %
|Junior subordinated debt                       |  |                                 | 82,475    |   |          |   | 4,794             |  | 7.76 | %              |  |   | 82,475    |   |                   |   | 4,787   |  | 7.76 | %
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Total interest-bearing liabilities             |  |                                 | 1,999,923 |   |          |   | 21,919            |  | 1.46 | %              |  |   | 2,177,963 |   |                   |   | 26,216  |  | 1.61 | %
|                                               |  |                                 |           |   |          |  
|Noninterest-bearing sources:                   |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Demand deposits                                |  |                                 | 820,672   |   |          |   |                   |  |      |                |  |   | 925,580   |   |                   |   |         |  |      |  
|Other liabilities                              |  |                                 | 30,290    |   |          |   |                   |  |      |                |  |   | 12,444    |   |                   |   |         |  |      |  
|Liabilities related to discontinued operations |  |                                 |          |   |          |   |                   |  |      |                |  |   | 34,825    |   |                   |   |         |  |      |  
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Total noninterest-bearing liabilities          |  |                                 | 850,962   |   |          |   |                   |  |      |                |  |   | 972,849   |   |                   |   |         |  |      |  
|                                               |  |                                 |           |   |          |  
|Shareholders equity                           |  |                                 | 300,596   |   |          |   |                   |  |      |                |  |   | 262,336   |   |                   |   |         |  |      |  
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Total liabilities and shareholders equity     |  | $                               | 3,151,481 |   |          |   |                   |  |      |                |  | $ | 3,413,148 |   |                   |   |         |  |      |  
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  
|Net interest income & margin                   |  |                                 |           |   |          | $ | 99,618            |  | 4.63 | %              |  |   |           |   |                   | $ | 106,992 |  | 4.72 | %
|                                               |  |                                 |           |   |          |   |                   |  |      |                |  |   |           |   |                   |   |         |  |      |  

---

|(1) | For the purpose of calculating loan yields, average loan balances included nonaccrual loans with no related interest income.
|--- | ----------------------------------------------------------------------------------------------------------------------------



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Noninterest Income - Noninterest income for the three and nine months ended September 30, 2004 and 2003,
respectively, is summarized as follows (in thousands):



|                                        |  |                            |       |                           |                   |   |                   |  |                   |        |  |   |       
|--------------------------------------- |  | -------------------------- | ----- | ------------------------- | ----------------- | - | ----------------- |  | ----------------- | ------ |  | - | ------
|                                        |  | For the Three Months Ended |       | For the Nine Months Ended
|                                        |  | September 30,2004          |       |                           | September 30,2003 |   | September 30,2004 |  | September 30,2003
|Customer service fees                   |  | $                          | 3,589 |                           |                   | $ | 4,061             |  | $                 | 11,198 |  | $ | 12,361
|Net gain (loss) on trading assets       |  |                            | (192  | )                         |                   |   | 405               |  |                   | 310    |  |   | 1,032 
|Net gain on the sale of securities      |  |                            | 310   |                           |                   |   |                  |  |                   | 4,581  |  |   | 374   
|Net gain on the sale of banking offices |  |                            |      |                           |                   |   |                  |  |                   |       |  |   | 3,240 
|Bank owned life insurance               |  |                            | 489   |                           |                   |   | 503               |  |                   | 1,434  |  |   | 1,515 
|Debit card income                       |  |                            | 407   |                           |                   |   | 338               |  |                   | 1,172  |  |   | 1,123 
|Other                                   |  |                            | 2,192 |                           |                   |   | 2,171             |  |                   | 6,094  |  |   | 6,196 
|                                        |  |                            |       |                           |                   |   |                   |  |                   |        |  |   |       
|                                        |  |                            | 6,795 |                           |                   | $ | 7,478             |  | $                 | 24,789 |  | $ | 25,841
|                                        |  |                            |       |                           |                   |   |                   |  |                   |        |  |   |       



Customer service fees for the three
and nine-month periods ended September 30, 2004 decreased $472 thousand and $1.2 million, respectively, compared to the same periods in 2003. Customer service fees decreased primarily due to the sale of banking offices in 2003. These rural offices
had a more retail customer base and their location and growth potential did not align with our business banking strategy. Additionally, insufficient fund fees decreased during 2004 due in part to improvements in asset quality in which certain
marginal relationships exited Sterling Bank.



For the three month period ended
September 30, 2004, losses on trading assets were attributable to a decline in the fair market value. Trading assets are carried at fair market value in our consolidated balance sheets. Net gain on trading assets for the nine months ended September
30, 2004 decreased $722 thousand compared to the same period in 2003. This decrease is attributable to a decrease in trading activity resulting from the current market conditions and the loss incurred in the third quarter of 2004 as previously
noted.



Net gain on the sale of securities increased $310 thousand and $4.2
million for the three and nine-month periods ended September 30, 2004 compared to the same periods in 2003. These gains were the result of two separate securitization transactions which resulted in net gains totaling $5.2 million during 2004. These
gains were offset by a loss of $853 thousand for the sale of lower yielding U.S. Treasury Securities during the second quarter of 2004.



The net gain on the sale of banking offices of $3.2 million for the nine-month period ended September 30, 2003 resulted from the sale of four banking offices.



Noninterest Expense - Noninterest expense for the three and nine months
ended September 30, 2004 and 2003, respectively, is summarized as follows (in thousands):



|                                                                                   |  |                            |        |                   |                           |        |                   |  |                   |        |  |   |        |  
|---------------------------------------------------------------------------------- |  | -------------------------- | ------ | ----------------- | ------------------------- | ------ | ----------------- |  | ----------------- | ------ |  | - | ------ | -
|                                                                                   |  | For the Three Months Ended |        |                   | For the Nine Months Ended |       
|                                                                                   |  | September 30,2004          |        | September 30,2003 |                           |        | September 30,2004 |  | September 30,2003 |       
|Salaries and employee benefits                                                     |  | $                          | 17,510 |                   | $                         | 16,583 |                   |  | $                 | 52,372 |  | $ | 49,916 |  
|Occupancy expense                                                                  |  |                            | 3,945  |                   |                           | 3,996  |                   |  |                   | 11,285 |  |   | 11,708 |  
|Technology                                                                         |  |                            | 1,643  |                   |                           | 1,289  |                   |  |                   | 4,568  |  |   | 3,718  |  
|Professional fees                                                                  |  |                            | 1,333  |                   |                           | 1,317  |                   |  |                   | 3,790  |  |   | 3,300  |  
|Postage, delivery and supplies                                                     |  |                            | 746    |                   |                           | 831    |                   |  |                   | 2,437  |  |   | 2,636  |  
|Marketing                                                                          |  |                            | 250    |                   |                           | 195    |                   |  |                   | 1,175  |  |   | 1,080  |  
|Core deposit intangible amortization                                               |  |                            | 125    |                   |                           | 111    |                   |  |                   | 372    |  |   | 339    |  
|Net losses (gains) and carrying costs of other real estate and foreclosed property |  |                            | 51     |                   |                           | (225   | )                 |  |                   | 53     |  |   | (436   | )
|Other                                                                              |  |                            | 3,892  |                   |                           | 3,832  |                   |  |                   | 12,590 |  |   | 11,263 |  
|                                                                                   |  |                            |        |                   |                           |        |                   |  |                   |        |  |   |        |  
|                                                                                   |  | $                          | 29,495 |                   | $                         | 27,929 |                   |  | $                 | 88,642 |  | $ | 83,524 |  
|                                                                                   |  |                            |        |                   |                           |        |                   |  |                   |        |  |   |        |  



During the second half of 2004, we
have taken additional steps to reduce our overall expense base and control expenses going forward. After a thorough review by management and employees, numerous expense reduction and alignment projects were identified, including the consolidation of
smaller offices, disposition of unprofitable initiatives, modification of certain perquisite benefit programs and continued reductions in staffing levels through attrition. These projects are expected to reduce our current, noninterest expense base
and allow greater control of expense growth in 2005.



Salaries and employee
benefits for the three and nine month periods ended September 30, 2004 increased $927 thousand or 5.6% and $2.5 million or 4.9%, compared to the same periods in 2003. These increases were primarily related to increased staffing levels, merit-based
and market-driven salary increases and increases in incentive pay and profit sharing. Additionally, staffing levels



24



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##### Table of Contents

increased for the operations of three branches obtained in the Plaza Bank acquisition which closed on October 31, 2003.
We had 994 full-time equivalent employees at September 30, 2004 compared with 1036 at December 31, 2003 and 985 at September 30, 2003.



Technology expense increased $354 thousand or 27.5% and $850 thousand or 22.9% for the three and nine month periods ended September 30, 2004 over the comparable periods
in 2003. These increases were due primarily to the costs of upgrading on the banks computer systems.



Professional fees increased slightly for the three-months ended September 30, 2004 compared to the same period of 2003. For the nine-month period ended September 30, 2004, professional fees increased $490 thousand or
14.8% over the same period in 2003. These increases were primarily the result of higher legal and consulting fees incurred in connection with our compliance with the Sarbanes-Oxley Act of 2002.



Other noninterest expense was $3.9 million for the three-months ended September 30, 2004, up
slightly compared with the same period of 2003. For the nine-month period ended September 30, 2004, other noninterest expense increased $1.3 million or 11.8% to $12.6 million from $11.3 million at September 30, 2003. This increase was due, in part,
to an impairment charge of $1.1 million in the second quarter of 2004 on one bank office building and one tract of unused land which we intend to sell.



Income Taxes  The Company recognized federal and state income tax expense on continuing operations for the three and nine months ended September 30,
2004 of $3.0 million and $8.6 million, for both the effective rates of 31.3% compared to $3.7 million and $11.5 million, for effective rates of 33.3% and 33.1%, for the three and nine months ended September 30, 2003. The effective income tax rates
differed from the federal statutory rate of 35% during the comparable periods primarily because of the effect of non-taxable interest income and income on life insurance policies. The provision for income taxes related to discontinued operations for
both the three and nine months ended September 30, 2003 was 55.1%. The higher provision related to discontinued operations was due to the tax election pursuant to Section 338(h)(10) of the Internal Revenue Code related to the sale of our
mortgage-banking operations.



FINANCIAL CONDITION



Loans Held for Investment - The following table summarizes our loan portfolio
by type, excluding loans held for sale (dollars in thousands):



|                                |  |                    |           |   |                   |   |        |   |           |  |       |  
|------------------------------- |  | ------------------ | --------- | - | ----------------- | - | ------ | - | --------- |  | ----- | -
|                                |  | September 30, 2004 |           |   | December 31, 2003 |  
|                                |  | Amount             |           | % |                   |   | Amount |   | %         | 
|Commercial and industrial       |  | $                  | 614,279   |   | 27.7              | % |        | $ | 658,881   |  | 30.9  | %
|Real estate:                    |  |                    |           |   |                   |   |        |   |           |  |       |  
|Commercial                      |  |                    | 961,553   |   | 43.3              | % |        |   | 829,199   |  | 38.9  | %
|Construction and development    |  |                    | 340,738   |   | 15.4              | % |        |   | 327,295   |  | 15.4  | %
|Residential mortgage            |  |                    | 193,395   |   | 8.7               | % |        |   | 201,948   |  | 9.5   | %
|Consumer/other                  |  |                    | 91,859    |   | 4.1               | % |        |   | 104,944   |  | 4.9   | %
|Foreign loans                   |  |                    | 17,573    |   | 0.8               | % |        |   | 8,464     |  | 0.4   | %
|                                |  |                    |           |   |                   |   |        |   |           |  |       |  
|Total loans held for investment |  | $                  | 2,219,397 |   | 100.0             | % |        | $ | 2,130,731 |  | 100.0 | %
|                                |  |                    |           |   |                   |   |        |   |           |  |       |  



At September 30, 2004, loans held for
investment were $2.2 billion, an increase of $88.7 million or 4.2% over loans held for investment at December 31, 2003. This increase was primarily related to growth in the commercial real estate loan category. Our primary lending focus is
commercial loans and owner-occupied real estate loans to local businesses. At September 30, 2004, commercial and industrial loans and commercial real estate loans were 27.7% and 43.3%, respectively of loans held for investment. During the first
quarter of 2004, we sold $10.7 million of non-performing loans. Additionally, the Company has experienced higher than expected loan prepayment activity during 2004, continuing into the third quarter of 2004.



At September 30, 2004, loans held for investment were 92.8% of deposits and 68.6% of total
assets. As of September 30, 2004, we had no material concentrations of loans or material foreign loans outstanding.



Loans Held for Sale - Loans held for sale were $7.0 million at September 30, 2004, as compared with $26.3 million at December 31, 2003. Loans held for sale
at September 30, 2004 consisted primarily of the guaranteed portion of SBA loans we originated. Due to the timing of the sales of these loans to investors, the balance of loans in the held for sale category at any given time may be somewhat
volatile.



Trading Assets  Trading assets were $123.9
million at September 30, 2004, as compared with $172.8 million at December 31, 2003, a decrease of $48.9 million or 28.3%. These assets consist primarily of the government guaranteed portion of SBA loans purchased.



Trading assets are purchased with the anticipation of sale in the near term and are carried
at market value. The size of this portfolio is dependent upon the current market conditions for SBA loans.



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##### Table of Contents

Securities - The Companys securities portfolio at September 30, 2004 totaled $609.8 million, as
compared to $565.1 million at December 31, 2003, an increase of $44.7 million or 7.9%. As mentioned in the Net Interest Income discussion above, the Company increased the size of the investment portfolio for balance sheet liquidity purposes
and to replace a portion of the earning assets related to the mortgage-banking segment which was sold in 2003. Net unrealized gains on the available-for-sale securities were $1.5 million at September 30, 2004 as compared to $1.7 million at December
31, 2003.



Deposits - The following table summarizes the
Companys deposit portfolio by type (dollars in thousands):



|                                     |  |                    |           |   |                   |   |        |   |           |  |       |  
|------------------------------------ |  | ------------------ | --------- | - | ----------------- | - | ------ | - | --------- |  | ----- | -
|                                     |  | September 30, 2004 |           |   | December 31, 2003 |  
|                                     |  | Amount             |           | % |                   |   | Amount |   | %         | 
|Noninterest-bearing demand           |  | $                  | 879,125   |   | 36.7              | % |        | $ | 834,313   |  | 34.5  | %
|Interest-bearing demand              |  |                    | 919,822   |   | 38.5              | % |        |   | 929,577   |  | 38.4  | %
|Certificates and other time deposits |  |                    |           |   |                   |   |        |   |           |  |       |  
|Jumbo                                |  |                    | 344,560   |   | 14.4              | % |        |   | 386,914   |  | 16.0  | %
|Regular                              |  |                    | 202,572   |   | 8.5               | % |        |   | 212,799   |  | 8.8   | %
|Brokered deposits                    |  |                    | 46,104    |   | 1.9               | % |        |   | 54,766    |  | 2.3   | %
|                                     |  |                    |           |   |                   |   |        |   |           |  |       |  
|Total deposits                       |  | $                  | 2,392,183 |   | 100.0             | % |        | $ | 2,418,369 |  | 100.0 | %
|                                     |  |                    |           |   |                   |   |        |   |           |  |       |  



Total deposits as of September 30,
2004 decreased $26.2 million compared to $2.4 billion at December 31, 2003. While interest-bearing deposits and certificates deposits decreased $71.0 million, noninterest-bearing deposits increased $44.8 million. The percentage of noninterest
bearing deposits to total deposits as of September 30, 2004 was 36.7%.



Other Borrowed Funds  As of September 30, 2004, we had $377.8 million in other borrowed funds compared to $324.2 million at December 31, 2003, an increase of $53.6 million or 16.5%. Other borrowed funds are used to fund
a portion of our lending activities. We also utilize these borrowings to meet liquidity needs. Generally, these borrowings have maturities of less than 30 days and are replaced at maturity either with additional borrowings or through increased
customer deposits.



ASSET QUALITY



Risk Elements Nonperforming assets includes restructured loans,
nonaccrual loans, real estate acquired by foreclosure and other repossessed assets. Nonperforming and past-due loans are fully or substantially secured by assets, with any excess of loan balances over collateral values specifically allocated in the
allowance for credit losses.



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##### Table of Contents

Nonperforming assets and potential problem loans consisted of the following (dollars in thousands):



|                                                                                                           |  |                   |        |   |                  |   |        |  
|---------------------------------------------------------------------------------------------------------- |  | ----------------- | ------ | - | ---------------- | - | ------ | -
|                                                                                                           |  | September 30,2004 |        |   | December 31,2003 |  
|Nonperforming loans - nonaccrual                                                                           |  | $                 | 12,028 |   |                  | $ | 33,887 |  
|Real estate acquired by foreclosure                                                                        |  |                   | 3,731  |   |                  |   | 2,124  |  
|Other repossessed assets                                                                                   |  |                   | 552    |   |                  |   | 169    |  
|                                                                                                           |  |                   |        |   |                  |   |        |  
|Total nonperforming assets                                                                                 |  | $                 | 16,311 |   |                  | $ | 36,180 |  
|                                                                                                           |  |                   |        |   |                  |   |        |  
|Potential problem loans                                                                                    |  | $                 | 62,417 |   |                  | $ | 66,482 |  
|                                                                                                           |  |                   |        |   |                  |   |        |  
|                                                                                                           |  |                  
|Accruing loans past due 90 days or more                                                                    |  | $                 | 1,195  |   |                  | $ | 35     |  
|                                                                                                           |  |                   |        |   |                  |   |        |  
|Period-end allowance for credit losses to nonperforming loans                                              |  |                   | 232.45 | % |                  |   | 90.66  | %
|Nonperforming assets to period-end loans, real estate acquired by foreclosure and other repossessed assets |  |                   | 0.73   | % |                  |   | 1.68   | %
|Nonperforming loans to period-end loans                                                                    |  |                   | 0.54   | % |                  |   | 1.57   | %
|Nonperforming assets to period-end assets                                                                  |  |                   | 0.50   | % |                  |   | 1.13   | %



At September 30, 2004, we had $16.3
million in nonperforming assets, a decrease of $19.9 million or 54.9% from $36.2 million at December 31, 2003. During the first quarter of 2004, we sold $10.7 million of nonperforming loans which resulted in an increase in charge-offs of $4.6
million. The Company had provided for the losses on these nonperforming loans during previous periods and decided to sell these loans to minimize its loss exposure.



Separately, we had three large nonperforming relationships at December 31, 2003 that were placed on nonaccrual status during the second half
of 2003. These relationships individually were larger than $3 million. Two of these nonperforming relationships were returned to performing status during the first half of 2004. The third of these relationships was partially charged-off during 2004.
The remainder of this relationship was paid off in the third quarter of 2004.



Accruing loans past due 90 days or more at September 30, 2004 totaled $1.2 million.



Allowance for Credit Losses - The provision for credit losses for the three and nine months ended September 30, 2004 was $2.1 million and $8.4 million as compared to $4.2 million and $14.7 million for
the same periods in 2003. The decrease in provision expense for 2004 is due to the current trends in credit quality including the decrease in nonperforming loans, potential problem loans and charge-offs.



The allowance for credit losses and the related provision for credit losses were determined
based on the historical credit loss experience, changes in the loan portfolio including size, mix and risk of the individual loans and current economic conditions. We continuously monitor economic conditions in our local market areas and the
probable impact on borrowers, on past-due amounts, on related collateral values, on the number and size of the non-performing loans and on the resulting amount of charges-offs for the period.



Net charge-offs were $1.5 million and $11.2 million or 0.27% and 0.69% (annualized) of
average loans for the three and nine month periods ended September 30, 2004. As discussed above, the nonperforming loan sale completed in the first quarter of 2004 resulted in an increase in charge-offs of $4.6 million.



Overall, the allowance for credit losses at September 30, 2004 was $28.0 million and
represented 1.26% of total loans. The allowance for credit losses at September 30, 2004 was 232.4% of nonperforming loans, up favorably from 90.7% at December 31, 2003, principally because of improvements in asset quality.



27



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##### Table of Contents

The following table presents an analysis of the allowance for credit losses and other related data (dollars in
thousands):



|                                                              |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|------------------------------------------------------------- |  | ------------------------------- | ------ | - | ------------------------------ | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                                              |  | Three Months EndedSeptember 30, |        |   | Nine Months EndedSeptember 30, |  
|                                                              |  | 2004                            |        |   | 2003                           |   |        | 2004 |  |   | 2003   |  
|Allowance for credit losses at beginning of period            |  | $                               | 27,329 |   |                                | $ | 31,574 |      |  | $ | 30,722 |   |  | $ | 27,248 |  
|Charge-offs:                                                  |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Commercial, financial, and industrial                         |  |                                 | 1,570  |   |                                |   | 2,514  |      |  |   | 9,050  |   |  |   | 6,315  |  
|Real estate, mortgage and construction                        |  |                                 | 201    |   |                                |   | 1,753  |      |  |   | 3,215  |   |  |   | 4,087  |  
|Consumer                                                      |  |                                 | 355    |   |                                |   | 661    |      |  |   | 1,072  |   |  |   | 1,319  |  
|                                                              |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Total charge-offs                                             |  |                                 | 2,126  |   |                                |   | 4,928  |      |  |   | 13,337 |   |  |   | 11,721 |  
|                                                              |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Recoveries                                                    |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Commercial, financial, and industrial                         |  |                                 | 568    |   |                                |   | 435    |      |  |   | 1,886  |   |  |   | 1,067  |  
|Real estate, mortgage and construction                        |  |                                 | 6      |   |                                |   | 9      |      |  |   | 106    |   |  |   | 151    |  
|Consumer                                                      |  |                                 | 67     |   |                                |   | 110    |      |  |   | 186    |   |  |   | 260    |  
|                                                              |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Total recoveries                                              |  |                                 | 641    |   |                                |   | 554    |      |  |   | 2,178  |   |  |   | 1,478  |  
|                                                              |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Net charge-offs                                               |  |                                 | 1,485  |   |                                |   | 4,374  |      |  |   | 11,159 |   |  |   | 10,243 |  
|Allowance sold with divestiture                               |  |                                 |        |   |                                |   |       |      |  |   |        |   |  |   | 353    |  
|Provision for credit losses                                   |  |                                 | 2,115  |   |                                |   | 4,150  |      |  |   | 8,396  |   |  |   | 14,698 |  
|                                                              |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Allowance for credit losses at end of period                  |  | $                               | 27,959 |   |                                | $ | 31,350 |      |  | $ | 27,959 |   |  | $ | 31,350 |  
|                                                              |  |                                 |        |   |                                |   |        |      |  |   |        |   |  |   |        |  
|Period-end allowance for credit losses to period-end loans    |  |                                 | 1.26   | % |                                |   | 1.35   | %    |  |   | 1.26   | % |  |   | 1.35   | %
|Net charge-offs to average loans (annualized)                 |  |                                 | 0.27   | % |                                |   | 0.65   | %    |  |   | 0.69   | % |  |   | 0.53   | %
|Period-end allowance for credit losses to nonperforming loans |  |                                 | 232.45 | % |                                |   | 158.43 | %    |  |   | 232.45 | % |  |   | 158.43 | %



INTEREST RATE SENSITIVITY



We manage interest rate risk by positioning the balance sheet to maximize
net interest income while maintaining an acceptable level of risk to changes in market interest rates. This process requires a balance between profitability, liquidity, and interest rate risk.



To effectively measure and manage interest rate risk, the Company uses simulation analysis to
determine the impact on net interest income of changes in interest rates under various interest rate scenarios, balance sheet trends, and strategies. From these simulations, interest rate risk is quantified and appropriate strategies are developed
and implemented. The overall interest rate risk position and strategies are reviewed by senior management, the Asset/Liability Management Committee and our Board of Directors on an ongoing basis.



An interest rate sensitive asset or liability is one that experiences a measurable change in
value as a direct result of changes in market interest rates. Interest rate risk is measured by analyzing the maturity and repricing relationships between interest-earning assets and interest-bearing liabilities at specific points in time
(GAP) and by analyzing the effects of interest rate changes on net interest income over specific periods of time by projecting the performance of the mix of assets and liabilities in varied interest rate environments. Interest rate
sensitivity reflects the potential effect on net interest income of a movement in interest rates. A bank is considered asset sensitive, or having a positive GAP, when the amount of its interest-earning assets maturing or repricing within a given
period exceeds the amount of its interest-bearing liabilities also maturing or repricing within that time period. Conversely, a bank is considered liability sensitive, or having a negative GAP, when the amount of its interest-bearing liabilities
maturing or repricing within a given period exceeds the amount of its interest-earning assets also maturing or repricing within that time period. During a period of rising interest rates, a negative GAP would tend to adversely affect net interest
income, while a positive GAP would tend to result in an increase in net interest income. During a period of falling interest rates, a negative GAP would tend to result in an increase in net interest income, while a positive GAP would tend to affect
net interest income adversely. When analyzing its GAP position, the Company emphasizes the next twelve-month period.



We are positioned to benefit from rising rates because the Company has an asset sensitive position. Also, we would likely benefit from an increase in short-term interest
rates as this might signify that economic conditions are improving.



28



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##### Table of Contents

As mentioned, we utilize simulation models to estimate the impact on net interest income and present value of equity due
to changes in interest rates under various scenarios. This analysis estimates a percentage of change in these metrics from the stable rate base scenario versus alternative scenarios of rising and falling market interest rates by instantaneously
shocking the balance sheet. The following table summarizes the simulated change over a 12-month period as of September 30, 2004 and December 31, 2003 (dollars in thousands):



|                                         |                    |                        |   |                        |       |  
|---------------------------------------- | ------------------ | ---------------------- | - | ---------------------- | ----- | -
|Changes in Interest
Rates (Basis Points) |                    | Increase (Decrease) in |  
|                                         | Net InterestIncome |                        |   | Present Valueof Equity |      
|September 30, 2004                       |                    |                        |   |                        |       |  
|+200                                     |                    | 4.38                   | % |                        | -6.72 | %
|+100                                     |                    | 2.53                   | % |                        | -2.90 | %
|Base                                     |                    | 0.00                   | % |                        | 0.00  | %
|-100                                     |                    | -3.07                  | % |                        | 1.14  | %
|                                         |                    |                       
|December 31, 2003                        |                    |                        |   |                        |       |  
|+200                                     |                    | 6.03                   | % |                        | -7.00 | %
|+100                                     |                    | 3.14                   | % |                        | -2.72 | %
|Base                                     |                    | 0.00                   | % |                        | 0.00  | %
|-100                                     |                    | -3.80                  | % |                        | 0.62  | %



These sensitivities are all within the
thresholds set by our Asset/Liability Committee. Each rate scenario reflects unique prepayment and repricing assumptions. Since there are limitations inherent in any methodology used to estimate the exposure to changes in market interest rates, this
analysis is not intended to be a forecast of the actual effect of a change in market interest rates. The interest rate sensitivity analysis includes assumptions that (i) the composition of our interest sensitive assets and liabilities existing at
year end will remain constant over the measurement period; and (ii) that changes in market rates are parallel and instantaneous across the yield curve regardless of duration or repricing characteristics of specific assets or liabilities. Further,
the analysis does not contemplate any actions that we might undertake in response to changes in market interest rates. Accordingly, this analysis is not intended to and does not provide a precise forecast of the effect actual changes in market rates
will have on the Company.



CAPITAL RESOURCES AND LIQUIDITY



Capital Resources - At September 30, 2004, shareholders equity
totaled $307.4 million or 9.50% of total assets, as compared to $292.6 million or 9.1% of total assets at December 31, 2003. Our risk-based capital ratios at September 30, 2004 remain above the levels designated by regulatory agencies for us to be
considered as well capitalized. Our capital ratios at September 30, 2004 were as follows (dollars in thousands):



|                                         |  |        |         |       |                                     |   |        |   |         |  |     |  
|---------------------------------------- |  | ------ | ------- | ----- | ----------------------------------- | - | ------ | - | ------- |  | --- | -
|                                         |  | Actual |         |       | For MinimumCapital AdequacyPurposes |  
|                                         |  | Amount |         | Ratio |                                     |   | Amount |   | Ratio   | 
|Total capital (to risk weighted assets)  |  | $      | 397,148 |       | 15.2                                | % |        | $ | 208,601 |  | 8.0 | %
|Tier 1 capital (to risk weighted assets) |  |        | 321,829 |       | 12.3                                | % |        |   | 104,300 |  | 4.0 | %
|Tier 1 capital (to average assets)       |  |        | 321,829 |       | 10.4                                | % |        |   | 123,589 |  | 4.0 | %



Liquidity  We
manage balance sheet liquidity to fund growth in earning assets and to pay liability maturities, depository withdrawals and shareholders dividends. We strive to manage a liquidity position sufficient to meet operating requirements while
maintaining an appropriate balance between assets and liabilities to meet the expectations of our shareholders. The Companys primary source of funds is its core deposits. Core deposits exclude brokered deposits and time deposits over $100,000.
Average core deposits funded 69.7% and 68.6% of total interest-earning assets for the three months and nine months ended September 30, 2004, respectively. In addition to core deposits, we have access to funds from correspondent banks and from the
Federal Home Loan Bank. The bank also accepts brokered certificates of deposit. As part of our ongoing business, we regularly evaluate acquisition possibilities and similar transactions with other financial service companies. Potential acquisitions
may involve the payment of cash or issuance of debt or equity securities. We believe that our liquidity position is adequate to meet our current and anticipated needs. For more information regarding liquidity, please refer to our 2003 Annual Report
on Form 10-K.



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##### Table of Contents

|ITEM | 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
|---- | --------------------------------------------------------------



There have been no material changes in market risk we face since December 31, 2003. For more information regarding quantitative and qualitative disclosures about market
risk of our financial instruments, see Managements Discussion and Analysis of Financial Condition and Results of Operations  Interest Rate Sensitivity. Our principal market risk exposure is to interest rates.



ITEM 4. CONTROLS AND PROCEDURES.



Evaluation of Disclosure Controls and Procedures  Based on their evaluation of the Companys disclosure controls and procedures as of the end of the period covered by this report, the Companys Chief Executive
Officer and Chief Financial Officer have concluded that the Companys disclosure controls and procedures are effective in ensuring that the information required to be disclosed by us in the reports that we file or submit under the Securities
Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commissions rules and forms.



Changes in Internal Control Over Financial Reporting  There were no changes in our internal control over financial
reporting that occurred during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Companys internal control over financial reporting.



PART II. OTHER INFORMATION



ITEM 1. LEGAL PROCEEDINGS.



Not applicable.



ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.



Not applicable.



ITEM 3. DEFAULTS UPON SENIOR SECURITIES.



Not
applicable.



ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.



Not applicable.



ITEM 5. OTHER INFORMATION.



Not applicable.



ITEM 6. EXHIBITS.



|(a) | Exhibits:
|--- | ---------



|        |  |                                                                                                                                                                    
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------
|11     |  | Statement Regarding Computation of Earnings Per Share (included as Note (7) to Consolidated Financial Statements on page 12 of this Quarterly Report on Form 10-Q).
|        | 
|*31.1  |  | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 of J. Downey Bridgwater, President and Chief Executive Officer.                            
|        | 
|*31.2  |  | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 of Stephen C. Raffaele, Executive Vice President and Chief Financial Officer.              
|        | 
|**32.1 |  | Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                            
|        | 
|**32.2 |  | Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                            



30



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##### Table of Contents

---

|* | As filed herewith.
|- | ------------------

|** | As furnished herewith.
|-- | ----------------------



31



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SIGNATURES



Pursuant to the requirements of the
Securities Exchange Act of 1934, the Registrant has duly caused the report to be signed on its behalf by the undersigned thereunto duly authorized.



|                       |  |                           |  |                                             
|---------------------- |  | ------------------------- |  | --------------------------------------------
|                       |  | STERLING BANCSHARES, INC.
|                       |  |                          
|Date: November 9, 2004 |  | By:                       |  | /s/ J. Downey Bridgwater                    
|                       |  |                           |  | J. Downey Bridgwater                        
|                       |  |                           |  | President and                               
|                       |  |                           |  | Chief Executive Officer                     
|                       |  |                          
|Date: November 9, 2004 |  | By:                       |  | /s/ Stephen C. Raffaele                     
|                       |  |                           |  | Stephen C. Raffaele Executive Vice President
|                       |  |                           |  | and Chief Financial Officer                 



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EXHIBIT INDEX



|        |  |                                                                                                                                                                    
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  | Description                                                                                                                                                        
|11     |  | Statement Regarding Computation of Earnings Per Share (included as Note (7) to Consolidated Financial Statements on page 12 of this Quarterly Report on Form 10-Q).
|        | 
|*31.1  |  | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 of J. Downey Bridgwater, President and Chief Executive Officer.                            
|        | 
|*31.2  |  | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 of Stephen C. Raffaele, Executive Vice President and Chief Financial Officer.              
|        | 
|**32.1 |  | Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                            
|        | 
|**32.2 |  | Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                            

---

|* | As filed herewith.
|- | ------------------

|** | As furnished herewith.
|-- | ----------------------



33