|UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549
|---------------------------------------------------------------------



|FORM 10-Q
|---------

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) 
OF THE SECURITIES EXCHANGE ACT OF 1934



|For the quarterly period endedSeptember 30, 2008
|------------------------------------------------



|OR
|--



|[ ] TRANSITION REPORT UNDER SECTION 13 or 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934For the transition period from _________ to _________
|------------------------------------------------------------------------------------------------------------------------------------------



|Commission File Number0-24024
|-----------------------------



|VENTURE FINANCIAL GROUP, INC.(Exact name of registrant as specified in its charter)
|-----------------------------------------------------------------------------------

|Washington                                                     |  | 91 -1277503                         
|-------------------------------------------------------------- |  | ------------------------------------
|(State or other jurisdiction of incorporation or organization) |  | (IRS Employer Identification Number)



|1495 Wilmington Drive, P.O. Box 970, DuPont, WA 98327(Address of Principal Executive Offices)
|---------------------------------------------------------------------------------------------



|Registrants telephone number: (253) 441-4000
|---------------------------------------------

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of large accelerated filer, accelerated filer, and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ____ Accelerated filer ____                 Non-accelerated filer  X                      Smaller reporting company  ____

Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act).  ___Yes  X No

Indicate the number of shares outstanding of each of the issuers classes of common stock as of the latest practicable date:

|Title of Class |  | Outstanding at November 19, 2008
|-------------- |  | --------------------------------
|Common Stock   |  | 7,385,687                       

1

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|                               |  | Venture Financial Group, Inc.                                    |  |      
|------------------------------ |  | ---------------------------------------------------------------- |  | -----
|                               |  | Table of Contents                                                |  |      
|                              
|PART I - FINANCIAL INFORMATION |  | Page                                                            
|Item 1                         |  | Financial Statements                                             |  |      
|                               |  | Condensed Consolidated Balance Sheets (unaudited)                |  | 3    
|                               |  | Condensed Consolidated Statements of Operations (unaudited)      |  | 4    
|                               |  | Condensed Consolidated Statements of Shareholders Equity and    |  |      
|                               |  | Comprehensive Income (Loss) (unaudited)                          |  | 5    
|                               |  | Condensed Consolidated Statements of Cash Flows (unaudited)      |  | 6 & 7
|                               |  | Notes to Condensed Consolidated Financial Statements (unaudited) |  | 8    
|Item 2                         |  | Management's Discussion and Analysis of Financial Condition and  |  |      
|                               |  | Results of Operations                                            |  | 16   
|Item 3                         |  | Quantitative and Qualitative Disclosures about Market Risk       |  | 35   
|Item 4T                        |  | Controls and Procedures                                          |  | 36   
|PART II - OTHER INFORMATION    |  |                                                                 
|Item 1                         |  | Legal Proceedings                                                |  | 36   
|Item 1A                        |  | Risk Factors                                                     |  | 36   
|Item 2                         |  | Unregistered Sales of Equity Securities and Use of Proceeds      |  | 38   
|Item 6                         |  | Exhibits                                                         |  | 38   
|SIGNATURES                     |  |                                                                  |  | 39   

2

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|Item 1. Financial Statements
|----------------------------

VENTURE FINANCIAL GROUP, INC.CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)(dollars in thousands)

---



|ASSETS                                                           
|-----------------------------------------------------------------
|                                                                 
|                                                                 
|                                                                 
|                                                                 
|Cash and due from banks                                          
|Interest bearing deposits in other banks                         
|                                                                 
|Total cash and cash equivalents                                  
|                                                                 
|                                                                 
|Federal funds sold                                               
|Securities available-for-sale, at fair value                     
|Securities held-to-maturity, at cost                             
|Investment in trusts                                             
|FHLB Stock and TIB Stock                                         
|Loans held-for-sale                                              
|                                                                 
|                                                                 
|Loans                                                            
|Allowance for credit losses                                      
|                                                                 
|Net loans                                                        
|                                                                 
|Premises and equipment, net of accumulated depreciation          
|Foreclosed real estate                                           
|Accrued interest receivable                                      
|Cash surrender value of bank owned life insurance                
|Goodwill                                                         
|Other intangible assets                                          
|Deferred tax asset                                               
|Other assets                                                     
|                                                                 
|Total assets                                                     
|                                                                 
|                                                                 
|                                                                 
|LIABILITIES AND SHAREHOLDERS EQUITY                             
|                                                                 
|Non-interest bearing checking                                    
|NOW, Savings and MMDA                                            
|Time certificates of deposit                                     
|                                                                 
|Total deposits                                                   
|                                                                 
|Securities sold under agreements to repurchase                   
|Other borrowings                                                 
|Junior subordinated debentures, at fair value                    
|Accrued interest payable                                         
|Other liabilities                                                
|                                                                 
|Total liabilities                                                
|                                                                 
|                                                                 
|SHAREHOLDERS' EQUITY                                             
|Common stock (no par value); 30,000,000 shares authorized, shares
|issued and outstanding: September 30, 2008  7,385,687           
|December 31, 2007 -7,221,787                                     
|Retained earnings                                                
|Accumulated other comprehensive loss                             
|                                                                 
|Total shareholders' equity                                       
|                                                                 
|Total liabilities and shareholders' equity                       
|                                                                 
|                                                                 
|                                                                 
|See notes to condensed consolidated financial statements         

3

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VENTURE FINANCIAL GROUP, INC.CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)(dollars in thousands, except per share data)

|                                                         |  | For the three months ended |  | For the nine months ended
|-------------------------------------------------------- |  | -------------------------- |  | -------------------------
|                                                         |  | September 30,              |  | September 30,            
|                                                         |  |                            |  |                          
|                                                         |  | 2008                       |  | 2007                     
|INTEREST INCOME                                          |  |                            |  |                          
|Loans                                                    |  | $13,554                    |  | $16,772                  
|Federal funds sold and deposits in banks                 |  | 9                          |  |                          
|Investment securities                                    |  |                            |  |                          
|Taxable                                                  |  | 3,894                      |  | 3,855                    
|Non-taxable                                              |  | 67                         |  |                          
|Total interest income                                    |  | 17,524                     |  | 20,829                   
|                                                        
|INTEREST EXPENSE                                         |  |                            |  |                          
|Deposits                                                 |  | 5,943                      |  | 8,552                    
|Federal funds purchased                                  |  | 66                         |  |                          
|Securities sold under agreement to repurchase            |  | 73                         |  |                          
|Other borrowings                                         |  | 943                        |  | 1,198                    
|Junior subordinated debentures                           |  | 387                        |  |                          
|Total interest expense                                   |  | 7,412                      |  | 10,585                   
|                                                        
|Net interest income                                      |  | 10,112                     |  | 10,244                   
|                                                        
|PROVISION FOR CREDIT LOSSES                              |  | 10,378                     |  |                          
|Net interest income(loss) after provision for credit     |  | (266)                      |  | 9,869                    
|losses                                                   |  |                            |  |                          
|                                                        
|NON-INTEREST INCOME                                      |  |                            |  |                          
|Service charges on deposit accounts                      |  | 1,101                      |  | 1,040                    
|Origination fees and net gains on sales of loans         |  | 1,059                      |  |                          
|Gain (loss) on sale of securities                        |  | (489)                      |  |                          
|Change in market value of junior subordinated debentures |  | 1,417                      |  |                          
|Other non-interest income                                |  | 879                        |  |                          
|Total non-interest income                                |  | 3,967                      |  | 3,110                    
|                                                        
|NON-INTEREST EXPENSES                                    |  |                            |  |                          
|Salaries and employee benefits                           |  | 2,729                      |  | 4,444                    
|Occupancy and equipment                                  |  | 1,393                      |  | 1,253                    
|Amortization of intangible assets                        |  | 72                         |  |                          
|Impairment loss on securities                            |  | 40,132                     |  |                          
|Other non-interest expenses                              |  | 2,385                      |  | 2,448                    
|Total non-interest expenses                              |  | 46,711                     |  | 8,217                    
|                                                        
|Income (loss) before provision for income taxes          |  | (43,010)                   |  | 4,762                    
|                                                        
|PROVISION FOR INCOME TAXES (BENEFITS)                    |  | (15,270)                   |  | 1,565                    
|                                                        
|NET INCOME (LOSS)                                        |  | $(27,740)                  |  | $ 3,197                  
|                                                        
|EARNINGS (LOSS) PER SHARE                                |  |                            |  |                          
|Basic                                                    |  | $ (3.83)                   |  | $ 0.45                   
|Diluted                                                  |  | $ (3.83)                   |  | $ 0.44                   
|Weighted average shares outstanding, basic               |  | 7,286,903                  |  | 7,161,814                
|Weighted average shares outstanding, diluted             |  | 7,286,903                  |  | 7,283,901                
|                                                        
|See notes to condensed consolidated financial statements |  |                            |  |                          

4

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VENTURE FINANCIAL GROUP,INC.CONDENSED CONSOLIDATED STATEMENTSOFSHAREHOLDERS EQUITYANDCOMPREHENSIVE INCOME (LOSS) (Unaudited)For the Nine Months Ended September 30, 2008 and 2007 (Dollars in thousands)

|                                                                        |  |           |  |          |  |                  
|----------------------------------------------------------------------- |  | --------- |  | -------- |  | -----------------
|                                                                        |  |           |  |          |  |                  
|                                                                        |  | Number of |  | Common   |  | Retained Earnings
|                                                                        |  | Shares    |  | Stock    |  |                  
|Balance, December 31, 2006                                              |  | 7,186,349 |  | $ 35,559 |  | $ 49,841         
|Comprehensive Income                                                    |  |           |  |          |  |                  
|Net Income                                                              |  | -         |  | -        |  | 9,561            
|Other comprehensive income, net of tax                                  |  |           |  |          |  |                  
|Change in fair value of securities available for sale, net of tax       |  |           |  |          |  |                  
|benefit of $(2,808)                                                     |  | -         |  | -        |  | -                
|Less adjustment for gains on sales of securities included in net income |  | -         |  | -        |  | -                
|net of tax expense of $49                                               |  |           |  |          |  |                  
|Comprehensive Income                                                    |  |           |  |          |  |                  
|Stock options exercised                                                 |  | 44,221    |  | 487      |  | -                
|Stock issued for purchase of WAM                                        |  | 1,612     |  | 35       |  | -                
|Common Stock repurchased                                                |  | (17,945)  |  | (391)    |  |                  
|Compensation expense for stock options                                  |  | -         |  | 248      |  | -                
|Cash dividends ($0.245 per share)                                       |  | -         |  | -        |  | (1,761)          
|Fair value adjustment of junior subordinated debentures, net of tax     |  | -         |  | -        |  | (428)            
|Excess tax benefit from share-based payment arrangements                |  | -         |  | 92       |  | -                
|Compensation expense for unallocated ESOP shares committed to be        |  |           |  |          |  |                  
|released                                                                |  | -         |  | 13       |  | -                
|Compensation expense for restricted stock awards                        |  | -         |  | 25       |  | -                
|Balance, September 30, 2007                                             |  | 7,214,237 |  | $ 36,068 |  | $ 57,213         
|                                                                       
|Balance, December 31, 2007                                              |  | 7,221,787 |  | $ 36,507 |  | $ 58,798         
|Comprehensive Income (loss)                                             |  |           |  |          |  |                  
|Net Income (loss)                                                       |  | -         |  | -        |  | (22,805)         
|Other comprehensive income (loss), net of tax                           |  |           |  |          |  |                  
|Increase in unrealized loss on securities available-for-sale, net of    |  |           |  |          |  |                  
|tax benefit of $17,473                                                  |  | -         |  | -        |  | -                
|Less reclassification adjustment for gains on sales of securities       |  |           |  |          |  |                  
|included in net income, net of tax expense of $101                      |  | -         |  | -        |  | -                
|Plus reclassification adjustment for impairment loss on securities      |  |           |  |          |  |                  
|included in net income, net of tax benefit of $14,046                   |  |           |  |          |  |                  
|Change in fair value of swap, net of tax of expense of $174             |  | -         |  | -        |  | -                
|Comprehensive Loss                                                      |  |           |  |          |  |                  
|Stock options exercised                                                 |  | 3,900     |  | 57       |  | -                
|Cumulative effect adjustment for change in accounting principal for     |  |           |  |          |  |                  
|split dollar liability                                                  |  | -         |  | -        |  | (240)            
|Reversal of compensation expense for stock options                      |  | -         |  | (127)    |  | -                
|Compensation expense for restricted stock awards                        |  | -         |  | 20       |  | -                
|Proceeds from issuance of common stock                                  |  | 160,000   |  | 2,080    |  |                  
|Cash dividends ($0.26 per share)                                        |  | -         |  | -        |  | (1,842)          
|Balance, September 30, 2008                                             |  | 7,385,687 |  | $ 38,537 |  | $ 33,911         
|See notes to condensed consolidated financial statements                |  |           |  |          |  |                  

5

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VENTURE FINANCIAL GROUP, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the Nine Months Ended September 30, 2008 and 2007 (Dollars in thousands)

|                                                                 |  | 2008       |  | 2007       
|---------------------------------------------------------------- |  | ---------- |  | -----------
|                                                                 |  |            |  |            
|CASH FLOWS FROM OPERATING ACTIVITIES                             |  |            |  |            
|Net
income (loss)                                                |  | $ (22,805) |  | $ 9,561    
|Adjustments to reconcile net income
	(loss) to net cash provided |  |            |  |            
|by operating activities:                                         |  |            |  |            
|Provision for credit losses                                      |  | 15,278     |  | 1,125      
|Depreciation and amortization                                    |  | 1,669      |  | 1,376      
|Increase in cash value of life insurance                         |  | (626)      |  | (700)      
|Compensation expense for stock options, net                      |  | (127)      |  | 248        
|Compensation expense for unallocated ESOP shares                 |  | -          |  | 13         
|Restricted stock award compensation                              |  | 20         |  | 25         
|Impairment
	loss on securities                                   |  | 40,132     |  | -          
|Excess tax benefit from share-based payment arrangements         |  | -          |  | (92)       
|Gain on sale of securities                                       |  | (290)      |  | (139)      
|Change in market value of junior subordinated debentures         |  | (2,030)    |  | (1,029)    
|Change in deferred tax asset                                     |  | (21,396)   |  | (4,294)    
|Other                                                            |  | (1,464)    |  | 1,379      
|Origination of loans held-for-sale                               |  | (163,375)  |  | (66,607)   
|Proceeds from sales of loans held-for-sale                       |  | 173,727    |  | 68,312     
|Origination fees and gains on sales of loans                     |  | (3,511)    |  | (1,241)    
|                                                                 |  |            |  |            
|Net cash from operating activities                               |  | $ 15,202   |  | $ 7,937    
|                                                                 |  |            |  |            
|                                                                
|CASH FLOWS FROM INVESTING ACTIVITIES                             |  |            |  |            
|Net
(increase) decrease in federal funds sold                    |  | (18,230)   |  | 6,790      
|Activity
in securities available-for-sale                        |  |            |  |            
|Maturities, prepayments and calls                                |  | 16,221     |  | 14,754     
|Sales                                                            |  | 71,015     |  | 42,532     
|Purchases                                                        |  | (88,700)   |  | (172,512)  
|Activity
in securities held-to-maturity                          |  |            |  |            
|Maturities                                                       |  | 500        |  | -          
|Sales                                                            |  | 16,802     |  | -          
|Purchases                                                        |  | (489)      |  | (10,000)   
|Net
increase in loans                                            |  | (27,059)   |  | (40,888)   
|Purchase
of bank owned life insurance policies                   |  | (126)      |  | (1,900)    
|Proceeds
from sales of premises and equipment                    |  | -          |  | 4          
|Additions to premises and equipment                              |  | (2,489)    |  | (4,929)    
|                                                                 |  |            |  |            
|Net cash used in investing activities                            |  | $ (32,555) |  | $ (166,149)
|                                                                 |  |            |  |            
|                                                                
|CASH FLOWS FROM FINANCING ACTIVITIES                             |  |            |  |            
|Net increase in deposits                                         |  | 161,903    |  | 83,437     
|Net decrease in short-term repurchase agreements                 |  | (5,495)    |  | (2,147)    
|Net increase (decrease) in short-term borrowings                 |  | (137,697)  |  | 59,667     
|Net increase (decrease) in long-term debt                        |  | -          |  | 20,000     
|Stock issued for purchase of WAM                                 |  | -          |  | 35         
|Proceeds from exercise of stock options                          |  | 57         |  | 487        
|Proceeds from issuance of common stock                           |  | 2,080      |  | -          
|Repurchase of common stock                                       |  | -          |  | (391)      
|Excess tax benefits from share-based payment arrangements        |  | -          |  | 92         
|Payment of cash dividends                                        |  | (1,842)    |  | (1,761)    
|                                                                 |  |            |  |            
|Net cash from financing activities                               |  | $ 19,006   |  | $ 159,419  
|                                                                 |  |            |  |            
|See notes to condensed consolidated financial statements         |  |            |  |            

6

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VENTURE FINANCIAL GROUP, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the Nine Months Ended September 30, 2008 and 2007 (Dollars in thousands)

|NET INCREASE IN CASH AND CASH EQUIVALENTS                          |  | $   1,653       |  | $   1,207     
|------------------------------------------------------------------ |  | --------------- |  | --------------
|                                                                  
|CASH AND CASH EQUIVALENTS                                          |  |                 |  |               
|Beginning of period                                                |  | 17,725          |  | 17,754        
|                                                                   |  |                 |  |               
|                                                                  
|End of period                                                      |  | $  19,378       |  | $ 18,961      
|                                                                   |  |                 |  |               
|                                                                  
|SUPPLEMENTAL INFORMATION:                                          |  |                 |  |               
|Cash paid for interest                                             |  | $  24,394       |  | $ 29,402      
|Cash paid for income taxes                                         |  | $    4,585      |  | $   5,482     
|                                                                  
|NONCASH INVESTING AND FINANCING ACTIVITIES                         |  |                 |  |               
|Fair value adjustment of securities available for sale, net of tax |  | $ (32,449)      |  | $  (5,123)    
|Cumulative effect of early adoption of SFAS 159                    |  | $             - |  | $     (428)   
|Cumulative effect of split dollar liability                        |  | $      (240)    |  | $            -



|See notes to condensed consolidated financial statements
|--------------------------------------------------------

7

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VENTURE FINANCIAL GROUP, INC.Notes to Condensed Consolidated Financial Statements(Unaudited)

1. Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America
for interim financial information and with instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of
America for complete financial statements. In the opinion of management, adjustments considered necessary for a fair presentation (consisting of normally recurring accruals) have been included. The interim condensed consolidated financial statements
should be read in conjunction with the December 31, 2007 consolidated financial statements, including notes thereto, included in Venture Financial Group, Inc.s (the Company or VFG) 2007 Annual Report to Shareholders. Operating results for the
three and nine months ended September 30, 2008 are not necessarily indicative of the results anticipated for the year ending December 31, 2008.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for credit losses, income taxes, fair value and benefit
plans.

Certain prior year amounts have been reclassified to conform to the 2008 presentation. The reclassifications had no effect on net income (loss) or retained earnings as previously
reported.

2. Share-Based Compensation

On September 30, 2008 the Company had one active share-based compensation plan which is described below. The Company also has various incentive stock option plans, with shares
outstanding, which are further disclosed in Note 15 to the annual report and Form-10K as of December 31, 2007. On September 29, 2008 executive officers and directors as well as a portion of the management team elected to forfeit their unvested
outstanding options to reduce expenses on behalf of the Company. The pro-rata compensation cost of the unvested shares outstanding was reversed to reflect the portion of the shares that had not reached the annual anniversary vesting date that had
previously been charged to income. This resulted in a reversal in the amount of $392 thousand and an offsetting income tax effect of $127 thousand. The effect of this forfeiture resulted in a net credit to share based compensation expense
year-to-date in 2008 in the amount of $108 thousand. The total income tax benefit recognized in the statement of operations for share-based compensation cost for the same period ended September 30, 2008 is $38 thousand.

The Companys Stock Incentive Plan (2004 Plan), which is shareholder approved, permits the grant of share-based awards to its employees and directors for up to
300,000 shares of common stock. The shareholders approved at the 2008 annual shareholder meeting to increase the number of shares available under the Plan by 500,000. At September 30, 2008, 288,850 option shares and 5,750 restricted stock award
shares have been granted under the Plan since plan inception. At September 30, 2008, 198,500 option shares and 750 restricted option shares previously granted under the 2004 Plan since Plan inception were forfeited and returned to the Plan and are
available for future grants. Under the 2004 Plan, 704,650 shares remain available for grant. It is the Companys policy to issue authorized but unissued shares of common stock upon stock option exercises or restricted stock awards. The Company
may, as part of its repurchase program purchase shares that have been listed for sale that may have been acquired through the 2004 share-based award plan or previous plans.

Beginning January 1, 2006 the Company began accounting for share-based awards to employees and directors using the fair value method, in accordance with SFAS No. 123(R), Share-Based
Payment. The Company currently uses the Black-Scholes valuation model to estimate the fair value of stock option awards. The following assumptions are used in the Black-Scholes model: expected volatility, expected dividends, expected term and
risk-free rate. Expected volatilities are not based on implied volatilities from traded options on the Company stock because the Company stock does not have any options traded on it. Instead, expected volatilities are based on the historical
volatility of the Company stock and other factors. The Company uses historical data to estimate option exercise and employee termination within the valuation model; separate groups of employees that have similar historical exercise behavior are
considered separately for valuation purposes. The expected term of options granted is a combination of a projection based on historical experience and managements future expectations. The expected term represents the period of time that
options granted are expected to be outstanding. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant. The assumptions are determined at the date of grant
and are not subsequently adjusted for actual. There was only one grant date in the year presented below.

|                    |  | 4-16-2008
|------------------- |  | ---------
|                    |  |          
|                   
|Expected volatility |  | 21.92%   
|Expected dividends  |  | $1.75    
|Expected term       |  | 7.0 years
|Risk-free rate      |  | 3.24%    

8

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Options granted by the Company during 2008 are 20% vested on each of the five subsequent anniversaries of the grant date. Stock option and per share amounts for current and prior
periods have been adjusted to reflect the effect of stock splits. Managements estimate of future forfeitures, after reviewing historical trends is based on future forfeiture expectations, excluding the September 29, 2008 election of management
to forfeit the unvested options outstanding.

A summary of option activity under the Plan as of September 30, 2008, and changes for the nine months ended is presented below:

|                                  |  |          |  |           |  |           |  |          |  | Weighted    |  |          
|--------------------------------- |  | -------- |  | --------- |  | --------- |  | -------- |  | ----------- |  | ---------
|                                  |  |          |  |           |  |           |  | Weighted |  | Average     |  | Aggregate
|                                  |  |          |  |           |  |           |  | Average  |  | Remaining   |  | Intrinsic
|                                  |  | Director |  | Employee  |  | Total     |  | Exercise |  | Contractual |  | Value    
|Options                           |  | Shares   |  | Shares    |  | Shares    |  | Price    |  | Term        |  | (000s)  
|                                  |  |          |  |           |  |           |  |          |  |             |  |          
|Exercisable at January 1, 2008    |  | 24,773   |  | 159,844   |  | 184,617   |  | $11.14   |  | 4.14 years  |  | $859     
|                                  |  |          |  |           |  |           |  |          |  |             |  |          
|Outstanding at January 1, 2008    |  | 49,633   |  | 317,984   |  | 367,617   |  | $15.56   |  | 6.10 years  |  | $871     
|Granted                           |  | 16,100   |  | 82,200    |  | 98,300    |  | $19.10   |  |             |  |          
|Exercised                         |  | (1,200)  |  | (2,700)   |  | ( 3,900)  |  | $14.63   |  |             |  |          
|Forfeited or expired              |  | (32,790) |  | (166,110) |  | (198,900) |  | $19.40   |  |             |  |          
|                                  |  |          |  |           |  |           |  |          |  |             |  |          
|Outstanding at September 30, 2008 |  | 31,743   |  | 231,374   |  | 263,117   |  | $13.61   |  | 4.79 years  |  | $ 647    
|                                  |  |          |  |           |  |           |  |          |  |             |  |          
|Exercisable at September 30, 2008 |  | 31,743   |  | 200,054   |  | 231,797   |  | $12.74   |  | 4.27 years  |  | $ 647    
|                                  |  |          |  |           |  |           |  |          |  |             |  |          

The total intrinsic value at September 30, 2008 of options exercised during the third quarter 2008 was $15 thousand. The intrinsic value represents the fair market value of the
shares at exercise of $72 thousand (where fair market value is the prior month weighted average price) less the cost to the recipient to exercise which was $57 thousand. The tax benefits created by these exercises are allocated to common
stock and goodwill depending on the source of those options and prior accounting for those options. Fair market value for options exercised is calculated differently than for options outstanding and exercisable. The fair market value is the weighted
average share price in the previous month of the exercise for timely tax and compensation calculations. The unrecognized compensation cost outstanding is $82 thousand as of September 30, 2008.

The following summarizes information about stock options outstanding at September 30, 2008:

|                 |  | Options Outstanding |  |              |  | Options Exercisable
|---------------- |  | ------------------- |  | ------------ |  | -------------------
|                 |  |                     |  | Weighted     |  |                    
|                 |  |                     |  | Average      |  | Weighted           
|Range of         |  |                     |  | Remaining    |  | Average            
|Exercise         |  | Number              |  | Contractual  |  | Exercise           
|Prices           |  | Outstanding         |  | Life (Years) |  | Price              
|                
|$7.00 and under  |  | 30,704              |  | 3.21         |  | $ 6.74             
|$7.01 to $10.00  |  | 82,598              |  | 1.75         |  | $ 8.92             
|$10.01 to $15.00 |  | 38,435              |  | 5.44         |  | $13.44             
|$15.01 to $19.00 |  | 27,900              |  | 5.16         |  | $15.33             
|$19.01 to $21.00 |  | 56,530              |  | 7.65         |  | $19.52             
|$21.01 to $25.00 |  | 26,950              |  | 8.61         |  | $21.91             
|                 |  |                     |  |              |  |                    
|                
|                 |  | 263,117             |  | 4.79         |  | $13.61             
|                 |  |                     |  |              |  |                    

A summary of the status of the Companys non-vested shares as of September 30, 2008 and changes for the quarter ended is presented below:

|                                 |  |          |  |          |  |         |  | Weighted  
|-------------------------------- |  | -------- |  | -------- |  | ------- |  | ----------
|                                 |  |          |  |          |  |         |  | Average   
|                                 |  | Director |  | Employee |  | Total   |  | Grant Date
|Non-vested Shares                |  | Shares   |  | Shares   |  | Shares  |  | Fair Value
|                                 |  |          |  |          |  |         |  |           
|                                
|Non-vested at January 1, 2008    |  | 24,860   |  | 158,140  |  | 183,000 |  | $5.80     
|Granted                          |  | 16,100   |  | 82,200   |  | 98,300  |  | $4.56     
|Vested                           |  | 8,170    |  | 44,930   |  | 53,100  |  | $5.25     
|Forfeited                        |  | 32,790   |  | 164,090  |  | 196,880 |  | $5.39     
|                                 |  |          |  |          |  |         |  |           
|                                
|Non-vested at September 30, 2008 |  | -        |  | 31,320   |  | 31,320  |  | $5.42     
|                                 |  |          |  |          |  |         |  |           

Compensation expense for restricted stock is measured based upon the number of shares granted and the stock price at the grant date. Accordingly, $20 thousand of compensation
expense has been recognized in the condensed consolidated financial statements for employee restricted stock arrangements for the nine months ended September 30, 2008. Unrecognized compensation costs for restricted stock is $24 thousand as of
September 30, 2008. Compensation expense is measured at the grant date of the award at fair value and adjusted to reflect actual forfeitures and the outcome of certain conditions.

9

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3. Pension and Other Postretirement Benefit Plans

Effective January 1, 2005 we replaced the Companys Salary Continuation Plans and adopted the Supplemental Executive Retirement Plan (SERP), which is a defined benefit pension
plan. The SERP is a master nonqualified retirement plan covering a select group of employees. On an annual or more frequent basis, the SERP is analyzed on an actuarial basis to determine the necessary amounts to expense to cover the plan
obligations. Prior to 2005 the liability to individual employees was based on their individual agreements and now is accounted for on a group basis. The SERP has no assets.

No participant of the Supplemental Executive Retirement Plan has accrued any benefits since
December 31, 2006 and is not expected to accrue any additional benefits in the foreseeable future. As a
consequence, the Plan is now a frozen defined benefit plan effective December 31, 2006 and $854 thousand in previously recognized unfunded obligations have been reversed in the current period.

4. Basic and Diluted Earnings (Loss) per Share

Basic and diluted earnings (loss) per share are calculated by dividing net income (loss) by the weighted average number of common shares outstanding during the periods presented.
Diluted earnings per share assume all dilutive stock options and restricted stock outstanding are issued such that their dilutive effect is maximized unless the effect is antidilutive. For the three and nine months ended September 30, 2007,
unallocated shares of the ESOP are excluded from the weighted average common shares outstanding to the extent they have not been legally released. The restricted share awards are excluded from the weighted average common shares outstanding in the
calculation of basic earnings (loss) per share to the extent they have not been vested or earned.

|                                                        |  | Three Months Ended September 30, |  | Nine Months Ended September 30,
|------------------------------------------------------- |  | -------------------------------- |  | -------------------------------
|                                                        |  | 2008                             |  | 2007                           
|Basic earning (loss) per share computation              |  | $ (27,740)                       |  | $ 3,197                        
|Numerator - Net Income (loss) (in thousands)            |  |                                  |  |                                
|Denominator - Weighted Average                          |  | 7,286,903                        |  | 7,161,814                      
|common shares outstanding                               |  |                                  |  |                                
|Basic earning (loss) per share                          |  | $    (3.83)                      |  | $    .45                       
|                                                       
|                                                        |  | Three Months Ended September 30, |  | Nine Months Ended September 30,
|                                                        |  | 2008                             |  | 2007                           
|Diluted earning (loss) per share computation            |  | $ (27,740)                       |  | $ 3,197                        
|Numerator - Net Income (loss) (in thousands)            |  |                                  |  |                                
|Denominator - Weighted average                          |  | 7,286,903                        |  | 7,161,814                      
|common shares outstanding                               |  |                                  |  |                                
|Effect of dilutive stock options(1)                     |  | -                                |  | 122,087                        
|Weighted average common shares                          |  | 7,286,903                        |  | 7,283,901                      
|and common stock equivalents                            |  |                                  |  |                                
|Diluted earning (loss) per share                        |  | $     (3.83)                     |  | $     .44                      
|(1) Common stock equivalents were excluded from the per |  |                                  |  |                                
|share calculation due to a net loss for the period.     |  |                                  |  |                                

5. Cash Dividends

On July 16, 2008, the Board of Directors declared the thirty eighth consecutive quarterly cash dividend, paid on August 8, 2008. The dividend of eight and a half cents per share was
paid to all shareholders of record as of July 28, 2008. Subsequent to this dividend, the Board of Directors has suspended future dividends to shareholders in order to conserve capital.

10

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6. Recent Accounting Pronouncements

In June 2007, the Financial Accounting Standards Board (FASB) ratified an Emerging Issues Task Force (EITF) consensus regarding Accounting for Income Tax Benefits of Dividends on
Share-Based Payment Awards. This new guidance became effective for the Company on January 1, 2008 and did not have a material effect on the Companys consolidated financial statements upon implementation.

In March 2008, the FASB issued FAS 161, Disclosures about Derivative Instruments and Hedging Activitiesan amendment of FASB Statement No. 133. FAS 161 requires
enhanced disclosures about an entitys derivative and hedging activities, and is effective for financial statements issued for fiscal years beginning after November 15, 2008, with early application encouraged. The Company will adopt the
standard as of January 1, 2009. FAS 161 requires only additional disclosures concerning derivatives and hedging activities, and therefore the adoption of FAS 161 will not have an impact on the Companys financial condition and results of
operations.

In April 2008, the FASB issued FASB Staff Position 142-3, Determination of the Useful Lives of Intangible Assets, which amends the factors that should be considered in
developing renewal or extension assumptions used to determine the useful life of an intangible asset. This interpretation will be effective for the Company beginning January 1, 2009 and must also be applied to interim periods within 2009. The
Company is currently evaluating the potential impact of this guidance; however, it is not expected to have a significant impact on the Companys financial condition and results of operations.

In May 2008, the FASB issued FAS 162 The Hierarchy of Generally Accepted Principles (FAS 162) which outlines the order of authority for the sources of accounting
principles. FAS 162 will be effective 60 days following the SECs approval of the Public Company Accounting Oversight Board amendments to AU Section 411, The Meaning of Present Fairly in Conformity with Generally Accepted Accounting
Principles. The Company does not expect SFAS 162 to have an impact on its financial condition and results of operations.

In May 2008, the FASB issued FSP APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement),
which clarifies that convertible debt instruments that may be settled in cash upon conversion (including partial cash settlement) are not addressed by paragraph 12 of APB Opinion No. 14, Accounting for Convertible Debt and Debt Issued with
Stock Purchase Warrants. Additionally, this FSP specifies that issuers of such instruments should separately account for the liability and equity components in a manner that will reflect the entitys non-convertible debt borrowing rate
when interest cost is recognized in subsequent periods. This FSP will be effective for the Company as of January 1, 2009 and will have to be applied retrospectively to all periods presented. The Company will evaluate the impact of the adoption in
the event any instruments that would be subject to this guidance are being considered in the future.

In June 2008, the FASB issued FASB Staff Position EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities.
This FASB Staff Position (FSP) addresses whether instruments granted in share-based payment transactions may be participating securities prior to vesting and, therefore, need to be included in the earnings allocation in computing basic earnings per
share (EPS) pursuant to the two-class method described in paragraphs 60 and 61 of FASB Statement No. 128, Earnings per Share. A share-based payment award that contains a non-forfeitable right to receive cash when dividends are paid to
common shareholders irrespective of whether that award ultimately vests or remains unvested shall be considered a participating security as these rights to dividends provide a non-contingent transfer of value to the holder of the share-based payment
award. Accordingly, these awards should be included in the computation of basic EPS pursuant to the two-class method. The guidance in this FSP is effective for the Company for the fiscal year beginning January 1, 2009 and all interim periods within
2009. All prior period EPS data presented will have to be adjusted retrospectively to conform to the provisions of the FSP. The Company does not expect EITF 06-3-1 to have an impact on its financial condition and results of operation.

In October 2008, the FASB issued FSP FAS No. 157-3, Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active. The FSP clarifies the
application of FAS No. 157, Fair Value Measurements, when the market for a financial asset is not active. The FSP was effective upon issuance, including reporting for prior periods for which financial statements have not been issued. The adoption of
the FSP for reporting as of September 30, 2008, did not have a material impact on our consolidated financial statements.

7. Fair Value

Effective January 1, 2007, the Company early adopted SFAS 157 and SFAS 159. Without early adoption, the Company would be required to adopt SFAS 157 effective January 1, 2008. Both
standards address aspects of the expanding application of fair value accounting.

Early adoption provided a one-time opportunity to treat the economic impact of moving to fair value treatment as a cumulative effect to capital rather than to the income statement.
The Company has the opportunity to refinance or prepay without penalty the junior subordinated debentures issued by FCFG Capital Trust II and will have the opportunity to prepay without penalty the junior subordinated debentures issued by WCB
Capital Trust I in December 2008. Because the Company anticipated fair value treatment for the reissued debentures on an item-by-item basis, the Company decided to take advantage of the one-time opportunity made available under the standard with
early adoption. As a result of the early adoption of SFAS 159 the Company recorded a cumulative effect adjustment of $428 thousand net of tax as a decrease to the opening balance of retained earnings as of January 1, 2007. The fair value option
of the junior subordinated debentures accounted for $222 thousand of the $428 thousand change and the write off of the prepaid fees associated with the junior subordinated debentures to retained earnings accounted for remaining $206
thousand. In the first nine months of 2008 and 2007, the Company recognized other operating income totaling $2.0 million and $1.0 thousand, respectively associated with the change in fair value of the junior subordinated debentures. Since
the Companys adoption of FASB 157 at January 1, 2007, total income recorded through June 30, 2008 was $3.3 million.

11

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The following table presents gains and (losses) due to changes in fair value for items measured at fair value pursuant to election of the fair value option for the period ended
September 30, 2008.

|(dollars in thousands) |  | Carrying Value of |  | Fair Value         |  | Carrying Value of |  | Other non-        |  | Total changes in fair 
|---------------------- |  | ----------------- |  | ------------------ |  | ----------------- |  | ----------------- |  | ----------------------
|                       |  | Instrument at     |  | Measurements at    |  | Instrument at     |  | interest (income) |  | value included in     
|                       |  | January 1, 2008   |  | September 30, 2008 |  | September 30,     |  | expense           |  | current period results
|                       |  |                   |  | using significant  |  | 2008              |  |                   |  | of operations         
|                       |  |                   |  | other observable   |  |                   |  |                   |  |                       
|                       |  |                   |  | inputs (Level 2)   |  |                   |  |                   |  |                       
|                       |  |                  
|Liabilities            |  |                   |  |                    |  |                   |  |                   |  |                       
|                      
|FCFG Capital Trust II1 |  | $ 6,187           |  | $(1)               |  | $ 6,186           |  | $(1)              |  | $(1)                  
|WCB Capital Trust2     |  | 3,083             |  | (18)               |  | 3,065             |  | (18)              |  | (18)                  
|VFG Capital Trust I    |  | 12,496            |  | (2,011)            |  | 10,485            |  | (2011)            |  | (2,011)               
|                       |  |                  
|                      
|Total                  |  | $21,766           |  | $(2,030)           |  | $19,736           |  | $(2,030)          |  | $(2,030)              
|                       |  |                  

Fair Value Measurements (SFAS 157)

SFAS 157 defines fair value, establishes a consistent framework for measuring fair value and expands disclosure requirements about fair value measurements. SFAS 157, among other
things, requires the Company to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. SFAS 157 requires fair value measurement disclosure of all assets and liabilities. The Company determines
fair value based upon quoted prices when available or through the use of alternative approaches, such as matrix or model pricing, when market quotes are not readily accessible or available.

The valuation techniques used in SFAS 157 are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while
unobservable inputs reflect the Company's market assumptions. These two types of inputs create the following fair value hierarchy:

 Level 1Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

 Level 2Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities in active markets; quoted prices for
identical or similar assets or liabilities in markets that are not active; or other inputs that are observable or can be derived from or corroborated by observable market data by correlation or other means.

 Level 3Significant unobservable inputs that reflect the reporting entitys own assumptions about the assumptions that market participants would use in pricing an
asset or liability.

The following is a description of the Companys valuation methodologies used to measure and disclose the fair values of its financial assets and liabilities on a recurring and
nonrecurring basis:Investment securities available for sale: Securities available for
sale are recorded at fair value on a recurring basis. If quoted market prices are not available, fair value measurement is based on an independent grid pricing model for identical or similar assets which may at times include quoted prices.
Securities include private collateralized mortgage obligations, private mortgage-backed securities, government mortgage-backed securities, municipal securities, asset-backed securities, corporate securities and other equity securities.

The Company also utilizes an independent third party valuation service for our trust preferred securities. If there are no similar assets or less transparency around inputs to the
valuation, securities would be classified within Level 3 of the valuation hierarchy. The Company reviews investment securities for the presence of other-than-temporary impairment (OTTI), taking into consideration current market conditions, extent
and nature of changes in fair value, issuer rating changes and trends, volatility of earnings, the Companys ability and intent to hold investment until a recovery of fair value, which maybe maturity as well as other factors.

The Company has in its available for sale portfolio two investments in trust preferred pooled securities. These are pools of trust preferred securities (TPS) issued by a
number of U.S. banks and a few insurance companies. Corporate pooled TPS have exposure to financial institutions which may have been severely impacted by the significantly stressed markets.

There are forty-six issuers in one of the trust preferred pooled securities, and fifty-two issuers in the other. No issuer in either of the two trust preferred pooled securities has
issued more than 3.5 percent of the aggregate amount of the pool. Four of the forty-six pooled issuers for one security and five of the fifty-two pooled issuers for the other have invoked their original contractual right to defer interest payments.
There has been one bank, Indy Mac, that has defaulted in each security pool. However, the tranche of the securities held by the Company continues to pay as agreed. The Company has received 100% of all contractual payments since inception. The
Companys cash analysis shows that the present value of the currently projected remaining cash flows is not less than the present value of the remaining previously projected cash flows. On August 14, 2008 Fitch and Moodys rated these
securities. Fitch rated them investment grade and Moodys rated them below investment grade. The Company has not incurred any loss on either security and the Company has the ability and intent to continue to hold them until a recovery of fair
value, which may be until maturity. Accordingly, the Company believes the impairment loss is temporary.

12

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The Company has calculated fair value using SFAS 157 Level 3 inputs because the pooled TPS have been thinly traded and do not represent the prices at which market participants would
be expected to transact. In addition, any trades in the pooled TPS that have taken place all appear to be at distressed prices. Instead, the Company compiled a list of other traded TPS that had similar characteristics to its pooled TPS; the Company
found 34 TPS. The majority of the 34 TPS are comprised of large bank, single issuer securities. The Company aggregated the list of 34 TPS and the median price was approximately 77% of par value and the average price was approximately 75% of par
value. Since the key difference of the Companys pooled TPS and the list of 34 other TPS was size and pooled versus single issuer, the Company elected to adjust for size in order to effectively simulate its pooled TPS. The average price after
adjusting for size was approximately 85% of par value. Size was adjusted for by considering the small composite levered raw beta as derived from Morningstars Cost of Capital Yearbook for Standard Industrial Classification (SIC) 602.
Morningstars Cost of Capital Yearbook for SIC 602 contains cost of capital information for commercial banks based on capitalization weighted averages of peer group (i.e. small composite peer group) betas of the companies that make up the
composite. The adjustment to the average price was based on the ratio of the small composite levered raw beta to the large composite levered raw beta. Using Morningstars levered raw beta numbers allowed the Company to estimate the pricing
adjustment that could be expected for a similar group of 34 TPS issued by smaller institutions. Performing the adjustment for size allowed the Company to create a simulated pooled TPS. The resultant range of pricing was 75% to 85% of par value.
After considering all of the above information, the Company arrived at a fair value for these securities at approximately 75% of par value.

The Companys investments in Fannie Mae and Freddie Mac perpetual preferred stock were considered impaired due to the decline in market value of the shares in connection with the
federal governments takeover of Fannie Mae and Freddie Mac in September 2008, along with the elimination of dividends on these shares. At September 30, 2008, the fair value of the securities was $2.2 million, and the Company has written
down the security through an other-than-temporary impairment charge of $40.1 million which is reflected within noninterest expenses for the quarter and nine months ended September 30, 2008.Junior subordinated debentures at fair value: Junior subordinated debentures are recorded at fair value on a
recurring basis. Fair value measurement is based on quoted prices based on similar liabilities in active markets or similar liabilities in markets that are not active; or other inputs that are observable or can be derived from or corroborated by
observable market data by correlation or other means. The debentures are a floating rate instrument, tied directly to LIBOR whose changes in values are influenced by changes in the credit spreads of such instruments. The spreads are determined by a
third party vendor who utilizes comparable market spreads for similar bank debt.

Non-performing loans: A loan is considered to be non-performing when, based on current
information and events, it is probable that the Company will be unable to collect all amounts due (both interest and principal) according to the contractual terms of the loan agreement. Non-performing loans are measured at the loans observable
fair price, or the fair value of collateral, if repayment of the loan is expected to be provided by the underlying collateral.

Derivative contract held for purposes other than trading: Derivative contract held for purposes
other than trading are recorded at fair value on a recurring basis. Fair value measurement is based on independent pricing models.

Assets and liabilities measured at fair value on a recurring
(available-for-sale securities, derivatives, junior subordinated debt) and non recurring
(impaired loans) basis as of September 30, 2008.

|                                             |  | Quote Prices in    |  |                   |  | Significant  |  |                   
|-------------------------------------------- |  | ------------------ |  | ----------------- |  | ------------ |  | ------------------
|                                             |  | Active Markets for |  | Significant Other |  | Unobservable |  |                   
|(dollars in thousands)                       |  | Identical Assets   |  | Observable Inputs |  | Inputs       |  | Balance as of     
|                                             |  | (Level 1)          |  | (Level 2)         |  | (Level 3)    |  | September 30, 2008
|                                             |  |                   
|Financial Assets and Liabilities             |  |                    |  |                   |  |              |  |                   
|Securities available-for-sale                |  |                    |  | $196,797          |  | $32,063      |  | $228,860          
|Junior subordinated debentures at fair value |  |                    |  | 19,736            |  |              |  | 19,736            
|                                            
|Impaired loans                               |  |                    |  |                   |  | 57,292       |  | 57,292            
|                                            
|Derivative contract held for purposes other  |  |                    |  |                   |  |              |  |                   
|than trading                                 |  |                    |  | (495)             |  |              |  | (495)             

The following table presents changes in Level 3 assets and liabilities measured at fair value on a recurring basis for the nine months ended September 30, 2008.

|(dollars in thousands)                                             |  | Securities         |  | Impaired   |  | Total
|------------------------------------------------------------------ |  | ------------------ |  | ---------- |  | -----
|                                                                   |  | Available for Sale |  | Loans      |  |      
|                                                                   |  |                   
|                                                                  
|Balance at January 1, 2008                                         |  | $        -         |  | $        - |  |      
|Total gains or losses (realized or unrealized) for the nine months |  |                    |  |            |  |      
|ended included in:                                                 |  |                    |  |            |  |      
|Net income                                                         |  | -                  |  | -          |  |      
|Other comprehensive income                                         |  | -                  |  | -          |  |      
|Purchases, sales, issuances and settlements, net                   |  | -                  |  | -          |  |      
|Transfers in and/or out of Level 3                                 |  | $32,063            |  | $57,292    |  |      
|Balance at September 30, 2008                                      |  | $32,063            |  | $57,292    |  |      

13

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8. Derivative Instruments

As part of the Companys overall interest rate risk management strategy, the Company has adopted a policy whereby the Company may periodically use derivative instruments to
minimize significant fluctuations in earnings caused by interest rate volatility. This interest rate risk management strategy involves the use of interest rate floors, caps and swaps. During the first quarter of 2008, the Company entered into a
two-year interest rate swap on $100 million notional value of its prime-based loan portfolio with a maturity date of March 27, 2010. The Company receives 5.25% and we pay Prime. When executed in the first quarter of 2008, the Company recorded an
asset of $312 thousand representing the fair value of the swap at the time of purchase. In the third quarter of 2008 the Company recorded an asset of $495 thousand representing the fair value of the swap as of September 30, 2008. The Company
has designated this agreement as a cash flow swap pursuant to SFAS No. 133. Accordingly, the change in the fair value of the instrument related to the swaps intrinsic value, or approximately $322 thousand, net of tax, is recorded as a gain
component of other comprehensive income (OCI) in the consolidated statement of changes in shareholders equity.

9. Investment Portfolio

The carrying value of our investment securities at September 30, 2008 totaled $239.5 million compared to $297.0 million at December 31, 2007. We purchased $89.3 million in
securities in the first nine months of 2008, which was offset by maturities, principal pay downs, impairment charge and sales totaling $144.7 million. The risk weighting of securities are considered in purchase decisions to maximize the
utilization of capital.

The recorded amounts of investment securities that are in a loss position held by us and their fair value at the dates indicated are set forth in the following table:

|                              |  |           |  | Gross      |  | Gross        |  |          
|----------------------------- |  | --------- |  | ---------- |  | ------------ |  | ---------
|                              |  |           |  | Unrealized |  | Unrealized   |  |          
|(dollars in thousands)        |  |           |  | Losses     |  | Losses       |  |          
|                              |  | Amortized |  | Less Than  |  | Greater Than |  | Fair     
|                              |  | Cost      |  | 12 Months  |  | 12 Months    |  | Value    
|                              |  |           |  |            |  |              |  |          
|                             
|September 30, 2008            |  |           |  |            |  |              |  |          
|Securities Available-for-sale |  |           |  |            |  |              |  |          
|Mortgage-backed securities    |  | $ 75,520  |  | $ ( 2,479) |  | $          - |  | $ 73,041 
|Municipal securities          |  | 5,731     |  | (437)      |  | (398)        |  | 4,896    
|Asset-backed securities       |  | 103,156   |  | (5,293)    |  | (11,613)     |  | 86,250   
|Corporate securities          |  | 940       |  | (610)      |  | -            |  | 330      
|Equity securities             |  | 1,135     |  | ( 194)     |  | -            |  | 941      
|                              |  |           |  |            |  |              |  |          
|                             
|Total at September 30, 2008   |  | $ 186,482 |  | $ (9,013)  |  | $ (12,011)   |  | $ 165,458
|                              |  |           |  |            |  |              |  |          
|                              |  |           |  |            |  |              |  |          
|December 31, 2007             |  |           |  |            |  |              |  |          
|Securities Available-for-sale |  |           |  |            |  |              |  |          
|Mortgage-backed securities    |  | $ 111,373 |  | $ (772)    |  | $ (291)      |  | $ 110,310
|Municipal securities          |  | 9,420     |  | (333)      |  | -            |  | 9,087    
|Asset-backed securities       |  | 42,736    |  | (3,978)    |  | -            |  | 38,758   
|Corporate securities          |  | 2,934     |  | (77)       |  | -            |  | 2,857    
|Equity securities             |  | 48,778    |  | (5,793)    |  | -            |  | 42,985   
|                              |  |           |  |            |  |              |  |          
|                              |  | $ 215,241 |  | $ (10,953) |  | $ (291)      |  | $ 203,997
|                              |  |           |  |            |  |              |  |          
|Securities Held-to-maturity   |  |           |  |            |  |              |  |          
|December 31, 2007             |  |           |  |            |  |              |  |          
|Corporate Securities          |  | $ 10,000  |  | $ (400)    |  | $       -    |  | $ 9,600  
|                              |  |           |  |            |  |              |  |          
|Total at December 31, 2007    |  | $ 225,241 |  | $ (11,353) |  | $ (291)      |  | $ 213,597
|                              |  |           |  |            |  |              |  |          

The following tables show the stated maturities and weighted average yields of investment securities held by us at September 30, 2008:



|(dollars in thousands)           |  |           |  | Available-For-Sale Securities
|-------------------------------- |  | --------- |  | -----------------------------
|                                 |  |           |  |                              
|                                 |  | Amortized |  | Fair                         
|                                 |  | Cost      |  | Value                        
|                                 |  |           |  |                              
|                                
|Due in one year or less          |  | $ 380     |  | $ 381                        
|Due after one year through five  |  |           |  |                              
|years                            |  |           |  | 39                           
|Due after five years through ten |  |           |  |                              
|years                            |  |           |  | 940                          
|Due after ten years              |  |           |  | 70,642                       
|No maturity
investment           |  |           |  | 3,357                        
|Mortgage backed securities       |  |           |  | 173,357                      
|                                 |  |           |  |                              
|Total                            |  |           |  | $ 248,715                    
|                                 |  |           |  |                              
|                                 |  |           |  |                              

14

---

Management has the ability and intent to hold securities classified as available-for-sale for a period of time sufficient for a recovery of cost. Some of the unrealized losses are due
to yields at issuance of new securities in the recent turbulent markets being higher than the yield available at the time the underlying securities were purchased even though rates had declined in the general market. The unrealized losses over
twelve months are primarily investments in middle tranche trust preferred debt securities. These securities are made up of pools of financial institutions and are floating rate. Much of the unrealized losses are due to credit spread deterioration in
bank related debt securities as a result of market disturbances affecting the U.S. financial system. We expect confidence to return to the U.S. banking system although we believe that the workout of the recessionary cycle could take several years.
The fair value is expected to recover as the securities approach their maturity date or repricing date or if market yields for newly issued securities for such investments decline. Management does not believe any of the securities are impaired due
to reasons of credit quality. Accordingly, as of September 30, 2008, management believes the unrealized losses detailed in the table above are temporary and no impairment loss has been realized in the Companys consolidated income
statement.

As of September 30, 2008 the Company incurred a pretax loss of $40.1 million or $26.1 million after tax loss, due to an other-than temporary impairment charge
related to the Companys investments in Fannie Mae and Freddie Mac perpetual preferred stock. The impairment in the Companys holdings of these government-sponsored entities resulted from the decline in market value of these shares in
connection with the federal governments takeover of Fannie Mae and Freddie Mac in September 2008, along with the elimination of dividends and preferential tax treatment on these shares. The dividends on these shares received preferential
dividend received deductions for tax purposes. The fair market value of the Companys preferred shares of Fannie Mae and Freddie Mac at September 30, 2008 after the other-than-temporary impairment charge was $2.2 million. The Company
anticipates selling these shares by December 31, 2008.

10. Nonperforming Assets and Analysis of Allowance for Credit Losses

The following table summarizes our non-performing assets, which consist of loans on which interest is no longer accrued, accruing loans past due 90 days or more, foreclosed real
estate and other assets.

|                                               |  | September 30. |  | December 31,
|---------------------------------------------- |  | ------------- |  | ------------
|(dollars in thousands)                         |  | 2008          |  | 2007        
|                                               |  |               |  |             
|Non-accrual loans                              |  | $ 53,792      |  | $ 3,007     
|Accruing loans past due 90 days or more        |  | -             |  | 110         
|                                               |  |               |  |             
|Total non-performing loans (NPLs)              |  | 53,792        |  | 3,117       
|Foreclosed real estate                         |  | 3,858         |  | 68          
|                                               |  |               |  |             
|Total non-performing assets (NPAs)             |  | $ 57,650      |  | $ 3,185     
|                                               |  |               |  |             
|Selected ratios                                |  |               |  |             
|NPLs to total loans                            |  | 6.79%         |  | 0.40%       
|NPAs to total loans and foreclosed real estate |  | 7.24%         |  | 0.41%       
|NPAs to total assets                           |  | 4.94%         |  | 0.27%       

During the
nine months ending September 30, 2008 nonaccrual loans increased $50.8 million,
bringing total nonaccrual loans to $53.8 million, comprised of 76 loans,
inclusive of the following: 48 single family speculative / 1-4 family building
lots loans totaling $17.1 million (the largest with a balance of $2.2 million
and located in Kirkland, WA); one land development loan totaling $4.8 million
located in Monroe, WA; five lot inventory loans for $12.3 million (the largest
with a balance of $3.3 million located in Lacey, WA); eight custom construction
loans for a total of $3.5 million (the largest with a balance of $1.2 million
located in Lake Tapps, WA); seven commercial real estate loans for $13.6 million
(the largest with a balance of $5.7 million located in Ellensburg, WA); and
seven other miscellaneous loans including consumer, residential real estate and
commercial.  The increase in nonaccrual loans in the third quarter 2008 was
primarily attributed to five credit relationships totaling $29.0 million
comprised of 23 single family speculative/1-4 family building lots loans
totaling $6.6 million to three borrowers with properties located in Kelso,
Lacey, Puyallup and Montesano, WA; three lot inventory loans totaling $7.1
million located in Kelso, Lacey and Tacoma, WA; and on relationship comprised of
four CRE loans and three commercial loans totaling $9.5 million located in
Milton, WA.

A
decrease in real estate values has occurred in the Bank's market area, up to 25%
in certain areas. The affected borrowers have seen a decrease in the underlying
values of their properties, combined with a general slowdown in home sales
throughout the market area.  It is this slowdown in home sales, and the
resultant impact on cash-flows that have caused these borrowers to either fall
behind on, or curtail payments one their loans, causing the Bank to place them
on nonaccrual.

15

---

The following table sets forth activity in the allowance for credit losses for the periods indicated:

| |  | (dollars in
thousands)                                            |  | Nine Months   |  | Year Ended  
| |  | ----------------------------------------------------------------- |  | ------------- |  | ------------
| |  |                                                                   |  | Ended         |  | December 31,
| |  |                                                                   |  | September 30, |  |             
| |  |                                                                   |  | 2008          |  | 2007        
| |  | Balance at beginning of
period                                    |  | $10,975       |  | $8,917      
| |  | Provision for credit
losses                                       |  | 15,278        |  | 3,600       
|
| |  | Charge-offs:                                                      |  |               |  |             
| |  | Commercial                                                        |  | (853)         |  | (568)       
| |  | Real Estate Mortgage and Construction                             |  | (6,255)       |  | (999)       
| |  | Consumer                                                          |  | (46)          |  | (54)        
| |  |                                                                   |  |               |  |             
| |  | Total charge-offs                                                 |  | (7,154)       |  | (1,621)     
| |  |                                                                   |  |               |  |             
| |  | Recoveries:                                                       |  |               |  |             
| |  | Commercial                                                        |  | 77            |  | 30          
| |  | Real Estate Mortgage and Construction                             |  | 85            |  | 37          
| |  | Consumer                                                          |  | 28            |  | 12          
| |  |                                                                   |  |               |  |             
| |  | Total recoveries                                                  |  | 190           |  | 79          
| |  |                                                                   |  |               |  |             
| |  |                                                                   |  |               |  |             
| |  | Net charge-offs                                                   |  | (6,964)       |  | (1,542)     
| |  | Transfer to reserve for unfunded
commitments                      |  | (119)         |  | -           
| |  |                                                                   |  |               |  |             
| |  | Balance at end of period                                          |  | $19,170       |  | $10,975     
| |  |                                                                   |  |               |  |             
| |  | Gross loans                                                       |  | $792,290      |  | $783,117    
| |  | Average loans                                                     |  | $794,988      |  | $746,498    
| |  | Non-performing loans                                              |  | $53,792       |  | $3,117      
| |  |                                                                   |  |               |  |             
| |  | Selected ratios:                                                  |  |               |  |             
| |  |                                                                   |  |               |  |             
| |  | Net charge-offs to average
loans                                  |  | 0.88%         |  | 0.21%       
| |  |                                                                   |  |               |  |             
| |  | Allowance for credit losses to average
loans                      |  | 2.41%         |  | 1.48%       
| |  |                                                                   |  |               |  |             
| |  | Allowance for credit losses to loans
outstanding at end of period |  | 2.42%         |  | 1.43%       
| |  |                                                                   |  |               |  |             
| |  | Allowance for credit losses to
non-performing loans               |  | 35.64%        |  | 352.1%      
| |  |                                                                   |  |               |  |             
| |  |                                                                  

11.
Income Taxes

During the
quarter ended September 30, 2008 the Company incurred a $40.1 million pre-tax
other-than-temporary impairment ("OTTI") charge on Fannie Mae and Freddie Mac
preferred shares which resulted from the U.S. Government placing Fannie Mae and
Freddie Mac into conservatorship.  The market value of the Company's
holdings declined following the federal government takeover, which included the
elimination of dividends on the preferred shares held, in September 2008. 
The impairment charge caused net income to decrease by $26.1 million, net-of-tax
and thus resulted in an increase to its deferred tax asset.  No valuation
allowance for deferred tax assets was recorded at September 30, 2008 as
management believes it is more likely than not that all of the deferred tax
assets will be realized.

You should read the following discussion and analysis of our Results of Operations and Financial Condition together with our financial statements and related notes appearing elsewhere
in this report and our Form 10-K for the year ended December 31, 2007. After Forward-Looking Information and the Summary of Critical Accounting Estimates and Accounting Policies, the analysis of the Results of Operations and Financial Condition will
be discussed. The analysis includes a comparison of the three and nine months ended September 30, 2008 and 2007.

16

---

Forward-Looking Information

In addition to historical information, statements appearing in this report which are not historical in nature, including the discussions of the adequacy of the Company's capital
resources and allowance for credit losses, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Any statements that expressly or implicitly predict future results, performance, or events should
be considered forward-looking. Forward-looking statements are subject to risks and uncertainties that may cause actual future results to differ materially. Readers are cautioned not to place undue reliance on these forward-looking statements, which
speak only as of the date of this Quarterly Report. The Company does not undertake any obligation to publicly release any revisions to forward-looking statements contained in this Quarterly Report, with respect to events or circumstances after the
date of this Report, or to reflect the occurrence of unanticipated events.

Risks and uncertainties with respect to the Company include, among others, those set forth in Item 1A of our Annual Report on Form 10-K filed with the SEC, this Form 10-Q and other
SEC filings, and those related to the general economic environment, particularly in the region in which the Company operates; competitive products and pricing that may lead to pricing pressures on rates the Bank charges on loans and pays on
deposits; loss of customers of greatest value to the Bank; litigation or other losses; fiscal and monetary policies of the federal government; changes in government regulations affecting financial institutions;
acquisitions and the integration of acquired businesses; credit risk management and asset/liability management; the financial and securities markets; changes in technology or required investments in technology; and the availability of and costs
associated with sources of liquidity. Our actual results may differ materially from those anticipated in forward-looking statements as a result of such risk factors.

Summary of Critical Accounting Estimates and Accounting Policies

Our accounting policies are integral to understanding our financial results. Our most critical accounting estimates and policies require management to make subjective, complex
judgments, often as a result of the need to estimate the effect of matters that are inherently uncertain. Management has identified several accounting estimates and policies that, due to the judgments, estimates and assumptions inherent in those
policies, are critical to an understanding of our financial statements. These estimates and policies relate to items such as the methodology for the determination of the allowance for credit losses, the valuation of real estate acquired in
connection with foreclosures or in satisfaction of loans, income taxes, the impairment of AFS securities and goodwill, share-based compensation, employers accounting for defined benefit pension and other post-retirement plans, and fair value
measurements. Our significant accounting policies are set forth in Note 1 to our Audited Consolidated Financial Statements for the year ended December 31, 2007.

Defined Benefit Plans.. Effective January 1, 2008, the Company applied the consensus reached by
the Emerging Issues Task Force in Issue No. 06-4, Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Agreements (EITF 06-4). EITF 06-4 provides for recognition guidance
regarding liabilities and related compensation costs for endorsement split-dollar life insurance arrangements that provide a benefit to an employee that extends to postretirement periods. The Company will recognize the effect of applying the
consensus through a change in accounting principle with a cumulative-effect adjustment to retained earnings of $411 thousand. Subsequent to the cumulative-effect in the change in accounting principal, more current information was obtained which
led to a $222 thousand adjustment to shareholders equity. Additional compensation expense is projected to be $65 thousand in 2008.

Derivative Financial Instruments. In the ordinary course of business, the Company enters into
derivative transactions to manage its interest rate risk. All derivative instruments that qualify as a hedge of the variability of cash flows to be received or paid related to a recognized asset or liability or a forecasted transaction (cash
flow hedge). Changes in the fair value of a derivative that is highly effective and designated as a cash flow hedge are recognized in other comprehensive income until the income from the cash flows of the hedged item is recognized. The Company
performs an assessment, both at the inception of the hedge and on a monthly basis thereafter, when required, to determine whether these derivatives are expected to continue to be highly effective in offsetting changes in the value of the hedge
items. Any change in fair value resulting from hedge ineffectiveness is immediately recorded in non-interest expense.

If a derivative designated as a cash flow hedge is terminated or ceases to be highly effective, the gain or loss is amortized to earnings over the same period(s) that the forecasted
hedged transactions impact earnings (cash flow hedge). If the hedge item is disposed of, or the forecasted transaction is no longer probable, the derivative is recorded at fair value with any resulting gain or loss included in the gain or loss from
the disposition of the hedged item or, in the case of a forecasted transaction that is no longer probable, included in earnings immediately.

Valuation of Goodwill and Intangible Assets.Goodwill and other intangibles with indefinite
lives are not amortized but instead are periodically tested for impairment. The Company utilizes an independent third party valuation service for an impairment analysis of the intangible assets with indefinite lives on a periodic basis and
determined that there was no impairment as of September 30, 2008. The valuation is determined using discounted cash flows of forecasted earnings, estimated sales price based on recent historical market transactions and market capitalization based on
current stock price. If impairment was deemed to exist, a write down of the asset would occur with a charge to earnings. The impairment analysis requires management to make subjective judgments. Events and factors that may significantly affect the
estimates include, among others, competitive forces, customer behaviors and attrition, changes in revenue growth trends, cost structures, technology, changes in discount rates and specific industry and market conditions.

Regulatory Matters

Following our
recent annual regulatory examination, we became subject to requirements to
provide additional liquidity and credit  reports; continue our capital and liquidity planning;
and seek approval for dividend payments.

17

---

Results of Operations

Our results of operations depend primarily on net interest income, which is the difference between interest income, primarily from loans and investments, and interest expense from
interest bearing liabilities, primarily deposits and borrowed funds. Changes in net interest income are influenced by the volume of assets and liabilities and the rates earned and paid respectively. Other factors that determine the level of net
income include fee income, non-interest expense, the level of non-performing loans and other non-earning assets, and the amount of non-interest bearing liabilities supporting earning assets. Non-interest income includes service charges and other
deposit related fees, origination fees and net gains and losses on the sale of loans and securities and income from bank owned life insurance. Non-interest expense consists primarily of employee compensation and benefits, occupancy, equipment and
depreciation expense, impaired loss on securities and other operating expenses.



|Comparison of the three months ended September 30, 2008 and September 30, 2007. |  |                      |  |           |  |           
|------------------------------------------------------------------------------- |  | -------------------- |  | --------- |  | ----------
|                                                                               
|                                                                                |  | For the three months |  |           |  |           
|                                                                                |  | ended September 30,  |  |           |  |           
|                                                                                |  |                      |  | Increase/ |  | Percentage
|(dollars in thousands except per share data)                                    |  | 2008                 |  | 2007      |  | (Decrease)
|                                                                                |  |                      |  |           |  |           
|Interest
income                                                                 |  | $ 17,524             |  | $ 20,829  |  | $ (3,305) 
|Interest
expense                                                                |  | 7,412                |  | 10,585    |  | (3,173)   
|                                                                                |  |                      |  |           |  |           
|Net interest
income                                                             |  | 10,112               |  | 10,244    |  | (132)     
|Provision for credit
losses                                                     |  | 10,378               |  | 375       |  | 10,003    
|                                                                                |  |                      |  |           |  |           
|Net interest income
(loss) after provision for credit                           |  |                      |  |           |  |           
|losses                                                                          |  | (266)                |  | 9,869     |  | (10,135)  
|Non-interest
income                                                             |  | 3,967                |  | 3,110     |  | 857       
|Non-interest
expense                                                            |  | 46,711               |  | 8,217     |  | 38,494    
|                                                                                |  |                      |  |           |  |           
|Income (loss) before
provision for income taxes                                 |  | (43,010)             |  | 4,762     |  | (47,772)  
|Provision for income
taxes (benefit)                                            |  | 15,270               |  | 1,565     |  | (16,835)  
|                                                                                |  |                      |  |           |  |           
|Net income
(loss)                                                               |  | $(27,740)            |  | $ 3,197   |  | $ (30,937)
|                                                                                |  |                      |  |           |  |           
|                                                                               
|Earnings (loss) per
sharebasic                                                 |  | $ (3.83)             |  | $ 0.45    |  | $ (4.28)  
|Earnings (loss) per
sharediluted                                               |  | $ (3.83)             |  | $ 0.44    |  | $ (4.27)  
|Efficiency
ratio                                                                |  | 330.93%              |  | 61.14%    |  |           
|Return on average
equity                                                        |  | -51.62%              |  | 14.99%    |  |           
|Return on average
assets                                                        |  | -3.09%               |  | 1.16%     |  |           

The decrease in net income for the three months ended September 30, 2008 compared to the three months ended September 30, 2007 is primarily attributable to a $40.1 million pre-tax
other-than-temporary impairment (OTTI) charge on Fannie Mae and Freddie Mac preferred shares in the third quarter which resulted from the U.S. Government placing Fannie Mae and Freddie Mac into conservatorship. The market value of the
Companys holdings declined following the federal government takeover, which included the elimination of dividends on the preferred shares held, in September 2008. The impairment charge caused non-interest expense to increase by $40.1
million, pre-tax and net income to decrease by $26.1 million, net-of-tax. The other major contributor to the decrease in net income is due to the turbulent economic conditions in the local and regional real estate market in the greater Puget
Sound area which caused the Company to increase its provision for credit losses by $10.0 million for the three months ended September 30, 2008 compared to a slight decrease of $25 thousand for the three months ended September 30,
2007.

Aside from these factors, the Companys net interest income decreased slightly to $10.1 million for the three months ended September 30, 2008 compared to $10.2 million
for the three months ended September 30, 2007. Non-interest income increased 27.6% to $4.0 million for the three months ended September 30, 2008 from $3.1 million for the three months ended September 30, 2007. Non-interest expense decreased,
exclusive of the OTTI charge, due to the Company cutting costs and decreasing benefits and other non-interest expense.

Net Interest Income and Net Interest Margin. Net interest income remained relatively stable for
the period, decreasing by 1.3% or $132 thousand to $10.1 million for the quarter ended September 30, 2008 compared to $10.2 million for the quarter ended September 30, 2007.

The average pre-tax yield on interest-earning assets decreased to 6.64% in the third quarter of 2008 from 8.87% for the same period in 2007, a decrease of 223 basis points. The Prime
Rate was 275 basis points, or 35.5% lower at the end of third quarter 2008 compared to the third quarter 2007. The decrease in the average rate earned on our interest-earning assets resulted primarily from a decrease in loan yields including
interest and fees, which decreased 223 basis points to 6.43% from 8.11% for the three months ended September 30, 2008 compared to the three months ended September 30, 2007. In the third quarter loan yields would have been 6.95%, a difference of 31
basis points, without the negative impact of non accrual loans. Yields on securities declined 20 basis points to 5.81% for the three months ended September 30, 2008 compared to 6.01% for the three months ended September 30, 2007. The tax equivalent
yield on securities for the three months ended September 30, 2008 was 5.86% compared to 6.19% for the three months ended September 30, 2007. The interest rate swap executed at the end of March added 4 basis points to our loan yields.

18

---

The cost of our average interest-bearing deposits decreased to 2.90% for the third quarter of 2008 from 4.52% in the same period in 2007, a decrease of 162 basis points or 35.8% . Our
average rate on total deposits (including non-interest bearing deposits) decreased to 1.84% for the three months ended September 30, 2008 from 3.94% for the three months ended September 30, 2007, a decrease of 210 basis points or 53.3% . Our
borrowing rates declined to 3.13% from 5.14% for the three months ended September 30, 2008 as compared to the three months ended September 30, 2007, a decrease of 201 basis points or 39.1% .

Over the past year, we have funded our incremental earning asset growth with public fund deposits (primarily money market), brokered CDs, retail CDs, and retail money market specials.
As of September 30, 2008, public fund deposits were $57.3 million or 5.7% of our total deposits of $999.0 million, compared to $168.8 million, or 19.8% of our total deposits of $854.7 million at September 30, 2007. Wholesale CDs were
$353.5 million, or 35.5% of our deposits at September 30, 2008, compared to $140.3 million, or 16.40% of our deposits at September 30, 2007. Our borrowings decreased $55.7 million to $80.8 million at September 30, 2008 from
$136.5 million at September 30, 2007, while federal funds purchased decreased from $28.1 million to zero in the same period.

Our net interest margin for the three months ended September 30, 2008 was 3.70% down from 3.99% for the three months ended September 30, 2007. After a rapid series of rate cuts by the
Federal Reserve through April 30, 2008, the Federal Reserve decided to hold rates steady during the balance of the second and third quarters. The primary factors that decreased net interest margin were higher costs of deposits, reversing accrued
dividends on the Fannie Mae and Freddie Mac preferred stock and the increase in our non-accrual loans.

An offsetting factor to the decrease in net interest margin was the interest rate swap we executed during the first quarter, pursuant to which we exchanged floating rate cash flows
for fixed rate cash flows. We pay prime and receive 5.25% on a total notional amount of $100 million until March 27, 2010. This transaction benefits net interest income for every reduction in the prime rate below 5.25% and conversely limits net
income for every increase in the prime rate above 5.25% during the term of the swap. For additional information on our derivatives, seeDerivative Financial
Instrumentsunder the Summary of Critical Accounting Estimates and Accounting Policies and Note 9.

The following table sets forth a summary of average balances with corresponding interest income and interest expense as well as average yield and cost of funds for the periods
presented. Average balances are derived from daily balances, and non-accrual loans are included as interest earning assets for purposes of this table.

19

---

|                                                                                                         |  |            |  |           |  | Three months ended |  |            |  |          
|-------------------------------------------------------------------------------------------------------- |  | ---------- |  | --------- |  | ------------------ |  | ---------- |  | ---------
|                                                                                                         |  |            |  |           |  | September 30,      |  |            |  |          
|                                                                                                         |  |           
|                                                                                                         |  |            |  | 2008      |  |                    |  |            |  | 2007     
|                                                                                                         |  |            |  |          
|                                                                                                         |  |            |  | Interest  |  |                    |  |            |  | Interest 
|                                                                                                         |  | Average    |  | Income    |  | Average            |  | Average    |  | Income   
|(dollars in thousands)                                                                                   |  | Balance    |  | (Expense) |  | Rates (3)          |  | Balance    |  | (Expense)
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|Assets                                                                                                   |  |            |  |           |  |                    |  |            |  |          
|Earning Assets:                                                                                          |  |            |  |           |  |                    |  |            |  |          
|Loans (Interest and fees)(1)                                                                             |  | $811,629   |  | $13,554   |  | 6.64%              |  | $750,479   |  | $16,772  
|Federal funds sold                                                                                       |  | 2,039      |  | 10        |  | 1.95%              |  | 2,928      |  | 38       
|Investment securities(2)                                                                                 |  | 269,291    |  | 3,930     |  | 5.81%              |  | 265,265    |  | 4,019    
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|Total earning assets and interest income                                                                 |  | 1,082,959  |  | 17,494    |  | 6.43%              |  | 1,018,672  |  | 20,829   
|Other assets:                                                                                            |  |            |  |           |  |                    |  |            |  |          
|Cash and due from banks                                                                                  |  | 12,504     |  |           |  |                    |  | 14,785     |  |          
|Bank premises and equipment                                                                              |  | 34,476     |  |           |  |                    |  | 31,579     |  |          
|Other assets                                                                                             |  | 80,247     |  |           |  |                    |  | 47,744     |  |          
|Allowance for credit losses                                                                              |  | (13,765)   |  |           |  |                    |  | (9,306)    |  |          
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|Total assets                                                                                             |  | $1,196,421 |  |           |  |                    |  | $1,103,474 |  |          
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|                                                                                                        
|Liabilities and Shareholders Equity                                                                      |  |            |  |           |  |                    |  |            |  |          
|Interest bearing liabilities:                                                                            |  |            |  |           |  |                    |  |            |  |          
|Deposits:                                                                                                |  |            |  |           |  |                    |  |            |  |          
|Savings, NOW, MMDA                                                                                       |  | $325,673   |  | ($1,506)  |  | 1.84%              |  | $357,860   |  | ($3,555) 
|Time deposits                                                                                            |  | 490,854    |  | (4,436)   |  | 3.60%              |  | 392,300    |  | (4,997)  
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|Total interest bearing deposits                                                                          |  | 816,527    |  | (5,942)   |  | 2.90%              |  | 750,160    |  | (8,552)  
|Other borrowings                                                                                         |  | 186,952    |  | (1,469)   |  | 3.13%              |  | 156,773    |  | (2,033)  
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|Total interest bearing liabilities and interest expense                                                  |  | 1,003,479  |  | (7,411)   |  | 2.94%              |  | 906,933    |  | (10,585) 
|                                                                                                        
|Non interest bearing liabilities                                                                         |  | 111,548    |  |           |  |                    |  | 104,831    |  |          
|Other liabilities                                                                                        |  | 9,733      |  |           |  |                    |  | 6,381      |  |          
|Shareholders equity                                                                                      |  | 71,661     |  |           |  |                    |  | 85,329     |  |          
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|Total liabilities and shareholders equity                                                                |  | $1,196,421 |  |           |  |                    |  | $1,103,474 |  |          
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|                                                                                                        
|Net interest income                                                                                      |  |            |  | $10,083   |  |                    |  |            |  | $10,244  
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|Net interest margin as a percent of average earning assets                                               |  |            |  |           |  | 3.70%              |  |            |  |          
|                                                                                                         |  |            |  |           |  |                    |  |            |  |          
|                                                                                                        
|(1) Average loan balance includes non-accrual loans. Loan fees and late charges of $591 thousand         |  |            |  |           |  |                    |  |           
|and $946 thousand are included in interest for the three months ended September 30, 2008 and 2007,       |  |            |  |           |  |                    |  |           
|respectively                                                                                             |  |            |  |           |  |                    |  |            |  |          
|                                                                                                        
|(2) The yield on investment securities is calculated using historical cost basis. The yield on assets is |  |            |  |           |  |                    |  |           
|calculated on a pre-tax, book value basis which does not consider the effect of tax exempt securities    |  |            |  |           |  |                    |  |           
|or the dividend received deduction on preferred stock. The after tax yield on investments for the three  |  |            |  |           |  |                    |  |           
|months ended September 30, 2008 and 2007 is 5.86% and 6.19% respectively.                                |  |            |  |           |  |                    |  |            |  |          
|                                                                                                        
|(3) Annualized                                                                                           |  |            |  |           |  |                    |  |            |  |          

An analysis of the change in net interest income is set forth on the following table. Changes due to both rate and volume are allocated in proportion to the relationship of the
absolute dollar amounts of the change in each. Balances of non-accrual loans, if any, and related income recognized have been included for purposes of this table.

|                                         |  | Three months ended September 30, 2008            
|---------------------------------------- |  | -------------------------------------------------
|(dollars in thousands)                   |  | Compared to three months ended September 30, 2007
|Interest earned on:                      |  | Volume                                           
|Loans                                    |  | $ 7,395                                          
|Federal Funds sold and deposits in banks |  | (10)                                             
|Investment Securities                    |  | 308                                              
|                                         |  |                                                  
|Total interest income                    |  | 7,693                                            
|                                        
|Interest paid on:                        |  |                                                  
|Savings, NOW, MMDA                       |  | (296)                                            
|Time Deposits                            |  | 5,064                                            
|Other Borrowings                         |  | 1,898                                            
|                                         |  |                                                  
|Total interest expense                   |  | 6,666                                            
|                                         |  |                                                  
|Net Interest income                      |  | $ 1,027                                          
|                                         |  |                                                  

20

---

Provision for Credit Losses.The provision for credit losses is a charge against earnings in
that period. The provision is the amount required to maintain the allowance for credit losses (Allowance) at a level that, in managements best estimate, is adequate to absorb estimated credit losses inherent in the loan portfolio.

The provision for credit losses for the three months ended September 30, 2008 was $10.4 million compared to $375 thousand for the three months ended September 30, 2007. Net
charge-offs for the three months ended September 30, 2008 totaled $4.5 million compared to $26 thousand in net charge-offs for the same period in 2007.

The increase in provision expense during the third quarter of 2008 compared to the third quarter of 2007 primarily reflects the actual increase in the Banks impaired loans, our
assessment of the impact on our region of the general deterioration of the national economy, our concentration in real estate lending, and the growth of the Banks loan portfolio. Since 2007, the Bank experienced a significant increase in the
deterioration in the general construction portfolio, reflective of some borrowers seeking rate and amortization relief as well as specific declines in market values and real estate sales activity in various segments of the Banks market area.
Also during the same time period we experienced an increase in delinquencies associated with the areas previously identified.

Each of these components influences our assessment of the adequacy of the Allowance, and we elected to increase the provision to ensure the Bank is adequately reserved to account for
these factors. Management reviews the adequacy of the Allowance on at least a quarterly basis. The provision is adjusted according to the results of that analysis.

|Non-Interest Income.The following table presents, for the periods indicated, the major
categories of non-interest income. |  |                           
|------------------------------------------------------------------------------------------------------------------------- |  | --------------------------
|                                                                                                                         
|                                                                                                                         
|                                                                                                                          |  | For the three months ended
|                                                                                                                          |  | September 30,             
|                                                                                                                          |  |                           
|(dollars in thousands)                                                                                                    |  | 2008                      
|                                                                                                                          |  |                           
|                                                                                                                         
|Non-Interest
Income                                                                                                       |  |                           
|Service charges on deposit
accounts                                                                                       |  | $ 1,101                   
|Origination fees and gain on
sales of loans                                                                               |  | 1,058                     
|Net (loss) on sale of
securities                                                                                          |  | (489)                     
|Change in market value of
junior subordinated debentures                                                                  |  | 1,418                     
|Income from bank owned life
insurance                                                                                     |  | 210                       
|Gross income from Venture
Wealth Management                                                                               |  | 21                        
|Other non-interest
income                                                                                                 |  | 648                       
|                                                                                                                          |  |                           
|                                                                                                                         
|Total
Non-Interest Income                                                                                                 |  | $ 3,967                   
|                                                                                                                          |  |                           

Total non-interest income increased $857 thousand or 27.6% to $4.0 million for the three months ended September 30, 2008 compared to $3.1 million for the three months
ended September 30, 2007. The largest component for the change in non-interest income is due primarily to the $682 thousand increase in the origination fees and gain on sales of loans held for sale due to the increase in loans held for sale. Net
loss on sale of securities increased to $489 thousand for the three months ended September 30, 2008 compared to the same period last year as there were no securities sold in that quarter. The change in the market value of junior subordinated
debentures increased $597 thousand or 72.7% to $1.4 million for the three months ended September 30, 2008 compared to $821 thousand for the three months ended September 30, 2007. This is primarily due to the increase in the market spread
for the trust preferred debt of 125 basis points. The spread increased 240 basis points for the three months ended September 30, 2008 compared to an increase of 115 basis points for the three months ended September 30, 2007. Due to volatile economic
conditions gross income from Venture Wealth Management decreased $113 thousand or 84.3% . All other major categories of non-interest income remained relatively constant for the associated periods.

21

---



Non-Interest Expense.The following table presents, for the periods indicated, the major
categories of non-interest expense:

|                                       |  |                            |  |            |  |           |  | %     
|-------------------------------------- |  | -------------------------- |  | ---------- |  | --------- |  | ------
|                                       |  |                            |  |            |  | Change   
|                                       |  | For the three months ended |  | Increase/  |  | From     
|                                       |  | September 30,              |  | (Decrease) |  | 2007     
|                                       |  |                           
|(dollars in thousands)                 |  | 2008                       |  | 2007       |  |           |  |       
|                                       |  |                           
|                                      
|Non-Interest Expense                   |  |                            |  |            |  |           |  |       
|Salaries and employee benefits         |  | $ 2.729                    |  | $ 4,444    |  | $ (1,715) |  | -38.6%
|Occupancy and equipment                |  | 1,393                      |  | 1,253      |  | 140       |  | 11.2% 
|Loss on impaired securities  OTTI     |  | 40,132                     |  | -          |  | 40,132    |  | N/A   
|Advertising / public relations         |  | 520                        |  | 506        |  | 14        |  | 2.8%  
|Amortization of intangible assets      |  | 72                         |  | 72         |  | -         |  | -     
|Office supplies, telephone and postage |  | 297                        |  | 266        |  | 31        |  | 11.8% 
|Director fees                          |  | 31                         |  | 40         |  | (9)       |  | -22.5%
|Expense from foreclosed assets         |  | 173                        |  | 18         |  | 155       |  | 858.9%
|Washington State excise tax            |  | 341                        |  | 340        |  | 1         |  | 0.3%  
|Other non-interest expense             |  | 1,023                      |  | 1,278      |  | (255)     |  | -19.9%
|                                       |  |                           
|                                      
|Total Non-Interest Expense             |  | $ 46,711                   |  | $ 8,217    |  | $ 38,494  |  | 468.5%
|                                       |  |                           

Total non-interest expense increased to $46.7 million for the three months ended September 30, 2008 compared to $8.2 million for the same period in 2007. The major factor in
the increase was the U.S. Governments actions to place Fannie Mae and Freddie Mac into conservatorship and suspend payment of dividends on preferred stock we held in Fannie Mae and Freddie Mac. We incurred a $40.1 million,
other-than-temporary charge to income on our shares of preferred stock in Fannie Mae and Freddie Mac. Salaries and benefits decreased to $2.7 million for the three months ended September 30, 2008 compared to $4.4 million for the three months
ended September 30, 2007. This decrease in salaries and employee benefits for the three months ended September 30, 2008 compared to the three months ended September 30, 2007 is a result of the Company cutting costs to help offset the decrease in
earnings. In the third quarter of 2008 the executive officers and directors as well as a portion of the management team elected to forfeit their unvested outstanding stock options to reduce expenses on behalf of the Company. The result of the
forfeiture of unvested options outstanding was to reduce the compensation cost that had been previously charged to income for the pro-rata share of the unvested outstanding options that had not reached the annual anniversary date for vesting in the
amount of $392 thousand. Also in the third quarter of 2008 the Company determined that the Executive Supplemental Retirement Plan, which requires the Company to meet certain performance ratios, should be suspended. No participant of the
Supplemental Executive Retirement Plan has accrued any benefits since 2006 and is not expected to accrue any additional benefits in the foreseeable future. As a consequence, the Plan is now a frozen defined benefit plan effective December 31, 2006
and $854 thousand in previously recognized unfunded obligations have been reversed in the current period. The Board of Directors has elected to suspend all directors fees which contributed to the decrease in other non-interest expense. The
Company employed 247 FTEs at September 30, 2008 as compared to 258 FTEs at September 30, 2007. All other categories are remaining relatively comparable to prior periods.

Provision for Income Taxes.We recorded tax benefit of $15.3 million for the three months
ended September 30, 2008 compared to a tax provision $1.6 million for the three months ended September 30, 2007. Our effective tax rate was approximately 35.5% for the three months ended September 30, 2008 and approximately 32.9% for three
months ended September 30, 2007. We expect our effective tax rate to range between 30% and 36% for the remainder of 2008 depending on our mix of assets.

22

---

Comparison of the Nine Months Ended September 30, 2008 and 2007

The following discussion of our results of operations compares the nine months ended September 30, 2008 to the nine months ended September 30, 2007.

|                                                      |  | For the nine months ended |  |           |  |           
|----------------------------------------------------- |  | ------------------------- |  | --------- |  | ----------
|                                                      |  | September 30,             |  | Increase/ |  | Percentage
|(dollars in thousands except per share data)          |  | 2008                      |  | 2007      |  | (Decrease)
|                                                      |  |                           |  |           |  |           
|Interest income                                       |  | $ 55,974                  |  | $ 58,967  |  | $(2,993)  
|Interest expense                                      |  | 24,108                    |  | 29,422    |  | (5,314)   
|                                                      |  |                           |  |           |  |           
|Net interest income                                   |  | 31,866                    |  | 29,545    |  | 2,321     
|Provision for credit losses                           |  | 15,278                    |  | 1,125     |  | 14,153    
|                                                      |  |                           |  |           |  |           
|Net interest income after provision for credit losses |  | 16,588                    |  | 28,420    |  | (11,832)  
|Non-interest income                                   |  | 11,432                    |  | 7,940     |  | 3,492     
|Non-interest expense                                  |  | 63,925                    |  | 22,524    |  | 41,401    
|                                                      |  |                           |  |           |  |           
|Income (loss) before provision for income taxes       |  | (35,905)                  |  | 13,836    |  | (49,741)  
|Provision for income taxes                            |  | 13,100                    |  | 4,275     |  | (17,375)  
|                                                      |  |                           |  |           |  |           
|Net income (loss)                                     |  | $(22,805)                 |  | $ 9,561   |  | $(32,366) 
|                                                      |  |                           |  |           |  |           
|                                                     
|Earnings / (loss) per sharebasic                     |  | $ (3.15)                  |  | $ 1.34    |  | $ (4.49)  
|Earnings / (loss) per sharediluted                   |  | $ (3.15)                  |  | $ 1.31    |  | $ (4.46)  
|Efficiency ratio                                      |  | 147.13%                   |  | 59.66%    |  |           
|Return on average equity                              |  | -36.32%                   |  | 14.88%    |  |           
|Return on average assets                              |  | -2.55%                    |  | 1.21%     |  |           

Net loss for the nine months and third quarter of 2008 included a pre-tax $40.1 million other-than-temporary impairment charge related to the Companys investments in
perpetual preferred stock of Fannie Mae and Freddie Mac. The impairment in the Companys holdings of these government sponsored entities resulted from the decline in market value of these shares following the federal governments takeover
of Fannie Mae and Freddie Mac in September of 2008, which included the elimination of dividends on these shares. On October 3, 2008, Congress passed the Emergency Economic Stabilization Act of 2008 (EESA), which provides, in part, tax
relief to banking organizations that suffered losses on preferred holdings of Fannie Mae and Freddie Mac by changing the character of these losses from capital to ordinary for federal income tax purposes. As of September 30, 2008 the ordinary
treatment for tax purposes was not available. However, the Company believes that it would have been able to generate capital gains over the requisite periods to offset the capital loss created by Fannie Mae and Freddie Mac preferred stock and
therefore did not reserve any portion of its deferred tax asset.

The decrease in net income for the nine months ended September 30, 2008 compared to the nine months ended September 30, 2007 is also attributable to an increase in net interest income
of $2.3 million offset by an increase in the provision for credit losses of $14.2 million. Non interest income increased by $3.5 million for the nine months ended September 30, 2008 compared to the same period in 2007 while non interest
expense increased by $49.7 million of which $40.1 million pertains to the other-than-temporary charge discussed above. The increase in net interest income was mainly the result of a 13.4% increase in average earning assets to $1.1
billion at September 30, 2008 compared to $969.7 million at September 30, 2007. The increase in net interest income was also the result of an interest rate swap entered into at the end of March and funding being re-priced in a lower interest
rate environment. Our average interest bearing liabilities of $993.6 million at September 30, 2008 increased from $855.6 million at September 30, 2007 which was offset by the decrease in average rates of 3.24% for the nine months ended
September 30, 2008 compared to 4.60% for the nine months ended September 30, 2007. Our return on average equity was -36.32% and return on average assets was -2.55% for the nine months ended September 30, 2008 compared to 14.88% and 1.21%,
respectively, for the nine months ended September 30, 2007.

Net Interest Income and Net Interest Margin.Net interest income increased for the period by
8.1% or $2.4 million to $31.9 million for nine months ended September 30, 2008 compared to $29.5 million for the nine months ended September 30, 2007.

The average pre-tax yield on interest-earning assets decreased to 6.84% in the first nine months of 2008 from 8.13% for the same period in 2007, a decrease of 129 basis points. The
Prime Rate was 275 basis points or 57.9% lower at the end of the first nine months of 2008 compared to the first nine months of 2007. The decrease in the average rate earned on our interest-earning assets resulted primarily from a decrease in loan
yields including interest and fees, which decreased 186 basis points to 7.04% from 8.90% for the nine months ended September 30, 2008 compared to the nine months ended September 30, 2007, respectively. In the nine months ended September 30, 2008
loan yields would have been 7.29%, a difference of 25 basis points without the negative impact of non-accrual loans. This decrease was partially offset by a 10.9% increase or 62 basis points, in yields on securities which increased to 6.31% for the
nine months ended September 30, 2008 compared to 5.69% for the nine months ended September 30, 2007. The tax equivalent yield on securities for the nine months ended September 30, 2008 was 6.44% compared to 5.88% for the nine months ended September
30, 2007.

The cost of our average interest-bearing deposits decreased to 3.18% for the nine months ended September 30, 2008 from 4.44% for the same period in 2007, a decrease of 126 basis
points or 28.4% . Our average rate on total deposits (including non-interest bearing deposits) decreased to 2.18% for the nine months ended September 30, 2008 from 3.85% for the nine months ended September 30, 2007, a decrease of 167 basis points or
76.6% . Our borrowing rates

23

---

declined to 3.45% from 5.36% for the nine months ended September 30, 2008 as compared to the nine months ended September 30, 2007, a decrease of 191 basis points or 35.6% .

Our net interest margin for the nine months ended September 30, 2008 was 3.89% down from 4.07% for the nine months ended
September 30, 2007. The increase in net interest income for the nine months ended September 30, 2008 compared to the same period in 2007 was due primarily to an increase in our interest earning assets. The decrease in net interest margin was the
result of the rapid reductions in the Federal Funds Target Rate. The prime rate decreased 275 basis points from September 18, 2007 through April 30, 2008. The published prime rate is used as a base index on many of our loan products and therefore
our loans tied to prime re-priced 275 basis points lower during that time period. Loans that have floors would not have adjusted as far. Deposits and other borrowings did not re-price as quickly or in the same magnitude as our loan portfolio, which
is partially due to competitors maintaining deposit rates at historically higher levels to attract deposits for liquidity purposes.

In 2008, we began using interest rate derivatives to manage our exposure to changes in interest rates. During the first quarter we executed an interest rate swap, pursuant to which we
exchanged floating rate cash flows for fixed rate cash flows. We pay prime and receive 5.25% on a total notional amount of $100 million until March 27, 2010. This transaction benefits net income for every reduction in the prime rate below 5.25%
and conversely limits net income for every increase in the prime rate above 5.25% during the term of the swap. For additional information on our derivatives, seeDerivative Financial Instrumentsunder the Summary of Critical Accounting Estimates and Accounting Policies and Note 9.

The following table sets forth a summary of average balances with corresponding interest income and interest expense as well as average yield and cost of funds for the periods
presented. Average balances are derived from daily balances, and non-accrual loans are included as interest earning assets for purposes of this table.

|                                                                                                         |  |            |  |           |  | Nine months ended |  |            |  |          
|-------------------------------------------------------------------------------------------------------- |  | ---------- |  | --------- |  | ----------------- |  | ---------- |  | ---------
|                                                                                                         |  |            |  |           |  | September 30,     |  |            |  |          
|                                                                                                         |  |           
|                                                                                                         |  |            |  | 2008      |  |                   |  |            |  | 2007     
|                                                                                                         |  |            |  |          
|                                                                                                         |  |            |  | Interest  |  |                   |  |            |  | Interest 
|                                                                                                         |  | Average    |  | Income    |  | Average           |  | Average    |  | Income   
|(dollars in thousands)                                                                                   |  | Balance    |  | (Expense) |  | Rates (3)         |  | Balance    |  | (Expense)
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|Assets                                                                                                   |  |            |  |           |  |                   |  |            |  |          
|Earning Assets:                                                                                          |  |            |  |           |  |                   |  |            |  |          
|Loans (Interest and fees)(1)                                                                             |  | $794,988   |  | $41,901   |  | 7.04%             |  | $738,420   |  | $49,139  
|Loans (Interest and fees) without non-accrual                                                            |  |            |  |           |  | 7.29%             |  |            |  |          
|Federal funds sold                                                                                       |  | 907        |  | 18        |  | 2.65%             |  | 2,362      |  | 92       
|Investment securities(2)                                                                                 |  | 295,984    |  | 13,978    |  | 6.31%             |  | 228,929    |  | 9,736    
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|Total earning assets and interest income                                                                 |  | 1,091,879  |  | 55,897    |  | 6.84%             |  | 969,711    |  | 58,967   
|Other assets:                                                                                            |  |            |  |           |  |                   |  |            |  |          
|Cash and due from banks                                                                                  |  | 13,845     |  |           |  |                   |  | 14,604     |  |          
|Bank premises and equipment                                                                              |  | 34,279     |  |           |  |                   |  | 30,880     |  |          
|Other assets                                                                                             |  | 66,554     |  |           |  |                   |  | 48,202     |  |          
|Allowance for credit losses                                                                              |  | (12,770)   |  |           |  |                   |  | (9,293)    |  |          
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|Total assets                                                                                             |  | $1,193,787 |  |           |  |                   |  | $1,054,104 |  |          
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|                                                                                                        
|Liabilities and Shareholders Equity                                                                      |  |            |  |           |  |                   |  |            |  |          
|Interest bearing liabilities:                                                                            |  |            |  |           |  |                   |  |            |  |          
|Deposits:                                                                                                |  |            |  |           |  |                   |  |            |  |          
|Savings, NOW, MMDA                                                                                       |  | $359,711   |  | ($5,880)  |  | 2.18%             |  | $340,282   |  | ($9,789) 
|Time deposits                                                                                            |  | 411,498    |  | (12,487)  |  | 4.05%             |  | 367,484    |  | (13,710) 
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|Total interest bearing deposits                                                                          |  | 771,209    |  | (18,367)  |  | 3.18%             |  | 707,766    |  | (23,499) 
|Other borrowings                                                                                         |  | 222,345    |  | (5,741)   |  | 3.45%             |  | 147,846    |  | (5,923)  
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|Total interest bearing liabilities and interest expense                                                  |  | 993,554    |  | (24,108)  |  | 3.24%             |  | 855,612    |  | (29,422) 
|                                                                                                        
|Non interest bearing liabilities                                                                         |  | 107,018    |  |           |  |                   |  | 104,358    |  |          
|Other liabilities                                                                                        |  | 9,505      |  |           |  |                   |  | 8,433      |  |          
|Shareholders equity                                                                                      |  | 83,710     |  |           |  |                   |  | 85,701     |  |          
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|Total liabilities and shareholders equity                                                                |  | $1,193,787 |  |           |  |                   |  | $1,054,104 |  |          
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|Net interest income                                                                                      |  |            |  | $31,789   |  |                   |  |            |  | $29,545  
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|Net interest margin as a percent of average earning assets                                               |  |            |  |           |  | 3.89%             |  |            |  |          
|                                                                                                         |  |            |  |           |  |                   |  |            |  |          
|                                                                                                        
|(1) Average loan balance includes non-accrual loans. Loan fees and late charges of $2,113 thousand       |  |            |  |           |  |                   |  |           
|and $2,772 thousand are included in interest for the nine months ended September 30, 2008 and 2007,      |  |            |  |           |  |                   |  |           
|respectively                                                                                             |  |            |  |           |  |                   |  |            |  |          
|                                                                                                        
|(2) The yield on investment securities is calculated using historical cost basis. The yield on assets is |  |            |  |           |  |                   |  |           
|calculated on a pre-tax, book value basis which does not consider the effect of tax exempt securities or |  |            |  |           |  |                   |  |           
|the dividend received deduction on preferred stock. The after tax yield on investments for the nine      |  |            |  |           |  |                   |  |           
|months ended September 30, 2008 and 2007 is 6.44% and 5.88% respectively.                                |  |            |  |           |  |                   |  |            |  |          
|                                                                                                        
|(3) Annualized                                                                                           |  |            |  |           |  |                   |  |            |  |          

24

---

An analysis of the change in net interest income is set forth on the following table. Changes due to both rate and volume are allocated in proportion to the relationship of the
absolute dollar amounts of the change in each. Balances of non-accrual loans, if any, and related income recognized have been included for purposes of this table.

|                                         |  | Nine months ended September 30, 2008            
|---------------------------------------- |  | ------------------------------------------------
|(dollars in thousands)                   |  | Compared to nine months ended September 30, 2007
|Interest earned on:                      |  | Volume                                          
|Loans                                    |  | $5,419                                          
|Federal Funds sold and deposits in banks |  | (41)                                            
|Investment Securities                    |  | 3,088                                           
|                                         |  |                                                 
|Total interest income                    |  | 8,466                                           
|                                        
|Interest paid on:                        |  |                                                 
|Savings, NOW, MMDA                       |  | 864                                             
|Time Deposits                            |  | 2,202                                           
|Other Borrowings                         |  | 3,197                                           
|                                         |  |                                                 
|Total interest expense                   |  | 6,263                                           
|                                         |  |                                                 
|Net Interest income                      |  | $ 2,203                                         
|                                         |  |                                                 

Provision for Credit Losses.The provision for credit losses is a charge against earnings in
that period. The provision is the amount required to maintain the allowance for credit losses at a level that, in managements judgment, is adequate to absorb estimated credit losses inherent in the loan portfolio.

The provision for credit losses for the nine months ended September 30, 2008 was $15.2 million compared to $1.1 million for the nine months ended September 30, 2007. Net
charge-offs for the nine months ended September 30, 2008 totaled $7.0 million compared to $626 thousand in net charge-offs for the same period in 2007.

The increase in provision expense during the first nine months of 2008 compared to the first nine months of 2007 primarily reflects the actual increase in the Banks impaired
loans, our assessment of the impact on our region of the general deterioration of the national economy, our concentration in real estate lending, and the growth of the Banks loan portfolio. Since 2007, the Bank experienced a significant
increase in the deterioration of the general construction portfolio reflective of some borrowers seeking rate and amortization relief as well as specific declines in market values and real estate sales activity in various segments of the Banks
market area. Also during the same time period we experienced an increase in delinquencies associated with the areas previously identified.

Each of these components influences our assessment of the adequacy of the Allowance, and we elected to increase the provision to ensure we are adequately reserved to account for these
factors. Management reviews the adequacy of the allowance on at least a quarterly basis. The provision is adjusted according to the results of that analysis.

|Non-Interest Income.The following table presents, for the periods indicated, the major
categories of non-interest income. |  |                          
|------------------------------------------------------------------------------------------------------------------------- |  | -------------------------
|                                                                                                                         
|                                                                                                                          |  | For the nine months ended
|                                                                                                                          |  | September 30,            
|                                                                                                                          |  |                          
|(dollars in thousands)                                                                                                    |  | 2008                     
|                                                                                                                          |  |                          
|                                                                                                                         
|Non-Interest
Income                                                                                                       |  |                          
|Service charges on deposit
accounts                                                                                       |  | $ 3,204                  
|Origination fees and gain on
sales of loans                                                                               |  | 3,510                    
|Net gain on sale of
securities                                                                                            |  | 290                      
|Change in market value of
junior subordinated debentures                                                                  |  | 2,030                    
|Income from bank owned life
insurance                                                                                     |  | 626                      
|Gross income from Venture
Wealth Management                                                                               |  | 254                      
|Other non-interest
income                                                                                                 |  | 1,518                    
|                                                                                                                          |  |                          
|                                                                                                                         
|Total
Non-Interest Income                                                                                                 |  | $ 11,432                 
|                                                                                                                          |  |                          

Total non-interest income increased $3.5 million or 44.0% to $11.4 million for the nine months ended September 30, 2008 compared to $7.9 million for the nine months ended
September 30, 2007. The largest component for the change in non-interest income is due primarily to the $2.3 million increase in the origination fees and gain on sales of loans held for sale due to the increase of loans originated and
subsequently sold as a direct result of the expansion of the mortgage department compared to the prior period. The change in the market value of junior subordinated debentures created $1.0 million in revenue in the nine months ended September
30, 2008 compared to the nine months ended September 30, 2007. Because the debentures are liabilities, declines in the fair value result in an increase in the Company's non-interest income. The debentures are floating rate, tied to LIBOR, whose
changes in value are almost entirely influenced by changes in credit spreads of such instruments. General market spread widening led to price declines in the debentures and the resulting increase in non-interest income for the Company. Due to
volatile economic conditions gross income from Venture Wealth Management decreased $208 thousand or 45.0% . All other major categories of non-interest income remained relatively constant for the associated periods.

25

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Non-Interest Expense.The following table presents, for the periods indicated, the major
categories of non-interest expense:

|                                       |  |                           |  |           |  |            |  | %     
|-------------------------------------- |  | ------------------------- |  | --------- |  | ---------- |  | ------
|                                       |  | For the nine months ended |  | Increase/ |  | Change    
|                                       |  | September 30,             |  |           |  | (Decrease) |  | From  
|                                       |  |                           |  |           |  |            |  | 2007  
|                                       |  |                          
|(dollars in thousands)                 |  | 2008                      |  | 2007      |  |            |  |       
|                                       |  |                          
|                                      
|Non-Interest Expense                   |  |                           |  |           |  |            |  |       
|Salaries and employee benefits         |  | $ 12,424                  |  | $ 12,238  |  | $ 186      |  | 1.5%  
|Loss on impaired securities            |  | 40,132                    |  | -         |  | 40,132     |  | N/A   
|Occupancy and equipment                |  | 4,142                     |  | 3,545     |  | 597        |  | 16.8% 
|Advertising / public relations         |  | 1,604                     |  | 1,569     |  | 35         |  | 2.2%  
|Amortization of intangible assets      |  | 215                       |  | 215       |  | -          |  | -     
|Office supplies, telephone and postage |  | 866                       |  | 767       |  | 99         |  | 13.0% 
|Director fees                          |  | 122                       |  | 117       |  | 5          |  | 4.2%  
|Expense from foreclosed assets         |  | 259                       |  | 29        |  | 230        |  | 792.5%
|Washington State excise tax            |  | 1,067                     |  | 1,026     |  | 41         |  | 4.0%  
|Other non-interest expense             |  | 3,094                     |  | 3,018     |  | 76         |  | 2.5%  
|                                       |  |                          
|                                      
|Total Non-Interest Expense             |  | $ 63,925                  |  | $ 22,524  |  | $ 41,401   |  | 183.8%
|                                       |  |                          

Total non-interest expense increased to $63.9 million for the nine months ended September 30, 2008 compared to $22.5 million for the same period in 2007. Of this increase
$40.1 million was directly attributable to the OTTI charge on the Fannie Mae and Freddie Mac preferred shares. Had the U.S. Government not placed these Companys into conservatorship, the Banks other non-interest expense would have
been $23.8 million, or increased by $1.3 million or 5.8% for the nine months ended September 30, 2008 compared to $22.5 million for the nine months ended September 30, 2007.

Staffing reductions in the second and third quarters of 2008 (which occurred before the Fannie Mae and Freddie Mac preferred stock impairments) reduced the number of FTEs to 247
at September 30, 2008 compared to 258 at September 30, 2007 and 275 at December 31, 2007. The Company also reduced future salaries and benefit expense as related to the executive officers and directors as well as a portion of the management team
electing to forfeit their unvested outstanding options. The result of the forfeiture of unvested options outstanding was to reduce the compensation cost that had been previously charged to income on all unvested outstanding options in the amount of
$392 thousand. Also, in the third quarter of 2008 the Company determined that the Executive Supplemental Retirement Plan, which requires the Company to meet certain performance ratios, should be suspended. No participant of the Supplemental
Executive Retirement Plan has accrued any benefits since 2006 and is not expected to accrue any additional benefits in the foreseeable future. As a consequence, the Plan is now a frozen defined benefit plan effective December 31, 2006 and $854
thousand in previously recognized unfunded obligations have been reversed in the current period.

Occupancy and equipment costs increased $597 thousand or 16.8% for the nine months ended September 30, 2008 compared to the nine months ended September 30, 2007 due to the
relocation of the administrative offices, the addition of two financial centers in 2007 and the related increase in real estate property taxes and depreciation expenses. Expenses from foreclosed assets has increased $230 thousand for the nine
months ended September 30, 2008 compared to the nine months ended September 30, 2007 due to the real estate market and economic conditions. All other major categories of non-interest expense have remained relatively stable and are decreasing with
the related cuts in expenditures.

Provision for Income Taxes.We recorded tax benefit of $13.1 million for the nine months
ended September 30, 2008 compared to a tax provision of $4.3 million for the nine months ended September 30, 2007. Our effective tax rate was approximately 36.5% for the nine months ended September 30, 2008 and 30.9% for the nine months ended
September 30, 2007. We expect our effective tax rate to range between 30% and 36% for the remainder of 2008 depending on our mix of assets.

Financial Condition

Our total consolidated assets at September 30, 2008 were $1.17 billion compared to $1.18 billion at December 31, 2007. Total deposits at September 30, 2008 increased to
$999.0 million from $837.1 million at December 31, 2007.

Loans

Total loans and loans held for sale at September 30, 2008 and December 31, 2007 were $792.3 million and $783.1 million respectively, an increase of $9.2 million or 1.2% .
Our loan growth has been focused in commercial real estate and real estate construction lending.

26

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The following table sets forth the relative composition of our loan portfolio at the end of the periods indicated:

|                                    |  | September 30, 2008 |  | December 31, 2007 |  | % Change 
|----------------------------------- |  | ------------------ |  | ----------------- |  | ---------
|(dollars in thousands)              |  |                    |  |                   |  |          
|                                   
|Commercial                          |  | $ 73,860           |  | 9.3%              |  | $80,975  
|Real Estate                         |  |                    |  |                   |  |          
|Residential 1-4                     |  | 48,032             |  | 6.1%              |  | 38,926   
|Commercial                          |  | 255,559            |  | 32.3%             |  | 259,660  
|Construction                        |  | 396,337            |  | 50.0%             |  | 375,137  
|Consumer                            |  | 7,957              |  | 1.0%              |  | 11,030   
|                                    |  |                    |  |                  
|Total Loans                         |  | 781,745            |  | 98.7%             |  | 765,728  
|Loans Held for Sale                 |  | 10,545             |  | 1.3%              |  | 17,389   
|                                    |  |                    |  |                  
|Total Loans and Loans Held for Sale |  | $ 792,290          |  | 100.0%            |  | $ 783,117
|                                    |  |                    |  |                  

The following tables show the amounts of loans as of September 30, 2008 and December 31, 2007. Of the loans maturing after one year, as of September 30, 2008, $120.9 million had
fixed interest rates and $282.1 million had adjustable interest rates, and as of December 31, 2007, $118.9 million had predetermined or fixed interest rates and $239.1 million had floating or adjustable interest rates. As of September
30, 2008, 60.8% of our floating rate loans were tied to the prime rate.

|As of September 30, 2008: |  |           |  |            |  |           |  |          
|------------------------- |  | --------- |  | ---------- |  | --------- |  | ---------
|                         
|(dollars in
thousands)    |  |           |  | Maturity   |  |           |  |          
|                          |  | Within    |  | After One  |  | After     |  |          
|                          |  | One       |  | But Within |  | Five      |  | Total    
|                          |  | Year      |  | Five Years |  | Years     |  |          
|                         
|Commercial                |  | $37,430   |  | $ 32,343   |  | $ 4,088   |  | $ 73,860 
|Real Estate               |  |           |  |            |  |           |  |          
|Residential
1-4           |  | 17,395    |  | 16,300     |  | 24,883    |  | 58,577   
|Commercial                |  | 36,941    |  | 69,913     |  | 148,704   |  | 255,559  
|Construction              |  | 294,957   |  | 90,749     |  | 10,632    |  | 396,337  
|Consumer and other        |  | 2,547     |  | 2,362      |  | 3,048     |  | 7,957    
|                          |  |           |  |            |  |           |  |          
|Total                     |  | $ 389,269 |  | $ 211,666  |  | $ 191,355 |  | $792,290 
|                          |  |           |  |            |  |           |  |          
|                         
|                         
|As of December 31, 2007:  |  |           |  |            |  |           |  |          
|                         
|(dollars in thousands)    |  |           |  | Maturity   |  |           |  |          
|                          |  | Within    |  | After One  |  | After     |  |          
|                          |  | One       |  | But Within |  | Five      |  | Total    
|                          |  | Year      |  | Five Years |  | Years     |  |          
|                         
|Commercial                |  | $ 61,417  |  | $14,862    |  | $ 4,696   |  | $ 80,975 
|Real Estate               |  |           |  |            |  |           |  |          
|Residential
1-4           |  | 17,119    |  | 7,085      |  | 32,111    |  | 56,315   
|Commercial                |  | 47,240    |  | 70,714     |  | 141,706   |  | 259,660  
|Construction              |  | 295,000   |  | 69,225     |  | 10,912    |  | 375,137  
|Consumer and other        |  | 4,297     |  | 2,660      |  | 4,073     |  | 11,030   
|                          |  |           |  |            |  |           |  |          
|Total                     |  | $ 425,073 |  | $ 164,546  |  | $ 193,498 |  | $ 783,117
|                          |  |           |  |            |  |           |  |          

Concentrations. As of September 30, 2008, in managements judgment, a concentration of
loans existed in real estate related loans. At September 30, 2008, our portfolio was centered in real estate loans with construction loans at 50.0% of the portfolio, commercial real estate loans at 32.3% and residential 1-4 family units at 6.1% .
Although management believes the loans within the real estate related concentration have no more than the normal risk of ability to collect, a substantial decline in the performance of the economy, in general, a decline in real estate values in our
market areas, in particular, has had an adverse impact on collection ability, have had and could continue to have an increase in the level of real estate related non-performing loans, and have had other adverse effects which alone or in the
aggregate could have a material adverse effect on our business, financial condition, results of operations, and cash flows.

Asset Quality.Generally, loans are placed on nonaccrual status when they become 90 days or more
past due or at such earlier time as management determines timely recognition of interest to be in doubt. Accrual of interest is discontinued on a loan when management believes collection of interest or principal is unlikely after considering
economic and business conditions and collection efforts.

27

---

The following table summarizes our non-performing assets, which consist of loans on which interest is no longer accrued, accruing loans past due 90 days or more, foreclosed real
estate and other assets.

|                                               |  | September 30. |  | December 31,
|---------------------------------------------- |  | ------------- |  | ------------
|(dollars in thousands)                         |  | 2008          |  | 2007        
|                                               |  |               |  |             
|Nonaccrual loans                               |  | $ 53,792      |  | $ 3,007     
|Accruing loans past due 90 days or more        |  | -             |  | 110         
|                                               |  |               |  |             
|Total non-performing loans (NPLs)              |  | 53,792        |  | 3,117       
|Foreclosed real estate                         |  | 3,858         |  | 68          
|                                               |  |               |  |             
|Total non-performing assets (NPAs)             |  | $ 57,650      |  | $ 3,185     
|                                               |  |               |  |             
|Selected ratios                                |  |               |  |             
|NPLs to total loans                            |  | 6.79%         |  | 0.40%       
|NPAs to total loans and foreclosed real estate |  | 7.24%         |  | 0.41%       
|NPAs to total assets                           |  | 4.94%         |  | 0.27%       

Impaired and Nonaccrual Loans.These loans are generally loans for which it is probable that we
will not collect all amounts due according to the original contractual terms of the loan agreement. We typically classify these loans as Substandard, Doubtful, or Loss. Impaired loans, specifically Substandard or Doubtful loans may not be on
nonaccrual status as we continue to accrue interest if borrowers continue to make payments and if we expect them to continue to make payments. The category impaired loan is broader than the category nonaccrual loan, although
the two categories overlap. Nonaccrual loans are those loans on which the accrual of interest is discontinued when the ability to collect principal and interest is uncertain or payments of principal or interest have become contractually past due 90
days. Management may choose to categorize a loan as impaired due to payment delinquency or if collection is uncertain, and will closely monitor the loan to ensure performance and collection of amounts due in accordance with the original contractual
terms of the loan.

During the nine months ending September 30, 2008 nonaccrual loans increased $50.8 million, bringing total nonaccrual loans to $53.8 million, comprised of 76 loans, inclusive
of the following: 48 single family speculative / 1-4 family building lots loans totaling $17.1 million (the largest with a balance of $2.2 million and located in Kirkland, WA); one land development loan totaling $4.8 million located in
Monroe, WA; five lot inventory loans for $12.3 million (the largest with a balance of $3.3 million located in Lacey, WA); eight custom construction loans for a total of $3.5 million (the largest with a balance of $1.2 million located
in Lake Tapps, WA); seven commercial real estate loans for $13.6 million (the largest with a balance of $5.7 million located in Ellensburg, WA); and seven other miscellaneous loans including consumer, residential real estate and commercial.
The increase in nonaccrual loans in the third quarter 2008 was primarily attributed to five credit relationships totaling $29.0 million comprised of 23 single family speculative/1-4 family building lots loans totaling $6.6 million to three
borrowers with properties located in Kelso, Lacey, Puyallup and Montesano, WA; three lot inventory loans totaling $7.1 million located in Kelso, Lacey and Tacoma, WA; and one relationship comprised of four CRE loans and three commercial loans
totaling $9.5 million located in Milton, WA.

A decrease in real estate values has occurred in the Banks market area, up to 25% in certain areas. The affected borrowers have seen a decrease in the underlying values of their
properties, combined with a general slowdown in home sales throughout the market area. It is this slowdown in home sales, and the resultant impact on cash-flows that have caused these borrowers to either fall behind on, or curtail payments on their
loans, causing the Bank to place them on nonaccrual.

28

---

The following table summarizes our nonaccrual loans at the periods indicated. Nonaccrual loans with valuation allowance refers to the portion of our total nonaccrual loans that have
been identified as having loss exposure and have a specific amount set aside for them in the Allowance. We refer to the specific amount set aside for these loans as the allocation of the Allowance.



|                                                |  | At September 30, |  | At December 31,
|----------------------------------------------- |  | ---------------- |  | ---------------
|(dollars in thousands)                          |  | 2008             |  | 2007           
|                                                |  |                  |  |                
|Total nonaccrual loans                          |  | $ 53,792         |  | $ 3,007        
|                                                |  |                  |  |                
|Nonaccrual
loan with valuation allowance:       |  |                  |  |                
|Construction Residential Real Estate            |  | $4,159           |  | $1,868         
|Commercial Real Estate                          |  | 5,731            |  | 80             
|Land Development (Residential Lots)             |  | 8,693            |  | -              
|Commercial (Non Real Estate)                    |  | -                |  | 170            
|Residential Real Estate                         |  | 232              |  | 40             
|Consumer (Non Real Estate)                      |  | -                |  | 8              
|Lot Inventory                                   |  | 8,998            |  | -              
|                                                |  |                  |  |                
|Total nonaccrual loans with valuation allowance |  | $27,813          |  | $2,166         
|                                                |  |                  |  |                
|                                                |  |                  |  |                

Allocation of allowance for credit losses on

nonaccrual loans identified above:

|                                                |  |        |  |     
|----------------------------------------------- |  | ------ |  | ----
|Construction Residential Real Estate            |  | 480    |  | 584 
|Commercial Real Estate                          |  | 282    |  | 18  
|Land Development (Residential Lots)             |  | 1,015  |  | 0   
|Commercial (Non Real Estate)                    |  | -      |  | 100 
|Residential Real Estate                         |  | 1      |  | 16  
|Consumer (Non Real Estate)                      |  | -      |  | 8   
|Lot Inventory                                   |  | 1,000  |  | 0   
|                                                |  |        |  |     
|Total allocation of allowance for credit losses |  | $2,778 |  | $726
|                                                |  |        |  |     
|                                                |  |        |  |     



Gross interest income of $1.0 million and $1.5 million would have been recorded for the three months ended September 30, 2008 and nine months ended September 30, 2008,
respectively, if the nonaccrual loans had been current in accordance with their original terms and conditions. Interest income on these loans was not included in net income for the three months ended September 30, 2008 and the nine months ended
September 30, 2008.

Management closely reviews the loan portfolio on a quarterly basis, and will continue to identify and evaluate all loans where there are defined weaknesses, including declines in
collateral value and borrower difficulties complying with loan repayment terms.

Potential Problem Loans.Potential problem loans consist of loans that are performing in
accordance with contractual terms but for which management has concerns about related economic conditions, weaknesses in their specific industries or issues related to geographic locations. These loans are identified through our internal risk
grading processes and management monitors these loans closely and reviews their performance on a regular basis.

As of September 30, 2008 the Company had classified as potential problem loans 77 loans aggregating $62.7 million. Within this are six loans with balances greater than $2.0
million aggregating $24.5 million. The largest single loan is $6.1 million.

Foreclosed Real Estate.As of September 30, 2008, we held seven foreclosed properties,
represented by three single family residential building lots, three single family residences and one plat development. The carrying value of the properties aggregated $3.6 million. As of December 31, 2007, we held two foreclosed properties,
represented by two single family residential building lots. The carrying value of the properties aggregated $68 thousand. Valuation of the property occurs when it is foreclosed upon, and at least annually thereafter. We use the lesser of cost or
fair market value less costs to sell to establish the carrying values. For the properties noted, we have used fair market value less cost to sell.

29

---

Allowance for Credit Losses

We must maintain an adequate allowance for credit losses (the Allowance) based on a comprehensive methodology that assesses the estimated losses inherent in our loan
portfolio. The Allowance reflects our current estimate of the amount required to absorb probable losses on existing loans. There is no precise method of predicting specific credit losses or amounts that ultimately may be charged off on segments of
the loan portfolio. The determination that a loan may become uncollectible, in whole or in part, is a matter of judgment. Similarly, the adequacy of the Allowance is determined based on managements judgment, and on the analysis of various
factors including historical loss experience based on volumes and types of loans; volumes and trends in delinquencies and nonaccrual loans; trends in portfolio volume; results of internal credit reviews; and economic conditions.

Management conducts a full review of the Allowance on a regular basis, including:

- consideration of economic conditions and the effect on particular industries and specific borrowers;
- a review of borrower financial data, together with industry data, the market(s) in which it operates, the borrowers management capabilities and other factors;
- a continuing evaluation of the loan portfolio, including monitoring by lending officers and staff, of all loans which are identified as having a higher level of risk;
- an in-depth evaluation, on a monthly basis, of all loans judged to present a possibility of loss (if, as a result of such monthly assessments, a loan is judged to be not fully collectible, the carrying value of the loan is reduced to that portion considered collectible); and
- an evaluation of the underlying collateral for secured lending, including the use of independent appraisals of real estate properties securing loans.

Our quarterly analysis of the adequacy of the Allowance is presented and reviewed by our Board of Directors. We consider the Allowance to be adequate to cover estimated credit losses
relating to the loans outstanding as of each reporting period.

Every loan in the loan portfolio has some measure of the Allowance for Credit Losses attributed to it. The Allowance consists of two parts: a general reserve (as described below) for
loans determined not to be impaired as defined in FAS 114 Accounting by Creditors for Impairment of a Loan and a specific allocation (as described below) for every loan that is determined to be impaired. Grades range from
excellent loans graded a 1 to loss loans graded an 8. Losses on loans are charged against and reduce the Allowance in the period in which such loans, or portions thereof, in our opinion, become
uncollectible. Recoveries during the period are credited to the Allowance. Periodically, a provision for credit losses is charged to current income. This provision acts to replenish the Allowance and to maintain the Allowance at a level that
management deems adequate.

General Allocation: Loans not recognized as impaired are reviewed on a portfolio segment basis rather than on a loan by loan basis to determine a general allocation of dollars
necessary to provide an adequate Allowance. Each portfolio segment is divided by grade into two categories, grades 1-4 and grades 5 and 6. General reserve allocation factors reflect managements estimate of risk by grade within each portfolio
segment. Consideration is given to those segments of the loan portfolio which management deems to pose the greatest likelihood of loss. In an economic downturn, such as the region has experienced since late 2007, management believes the Banks
greatest exposure of risk is in the construction and land development portfolios. Management increased the loss reserve factor for the construction, land development and commercial real estate segments of the Banks general portfolio to
correspond with the risk associated with this type of lending. A low, mid-point, and high range of exposure to loss in various loan types is determined on a quarterly basis.

Specific Allocations: The Bank specifically evaluates all impaired loans for potential loss exposure. A loan is determined to be impaired when management becomes aware that any loss
of principal or interest exists. At this point the loan is classified as impaired and an analysis is performed to determine if a write-down to the allowance is necessary. The estimate of loss reserves on impaired loans is determined based on
Financial Accounting Standard 114 (FAS 114). Management estimates the loss or valuation allowances on impaired loans based on one of the three measurement methods described in Statement of Financial Accounting Standard No. 114, Accounting by
Creditors for Impairment of a Loan (SFAS 114), as amended,: (1) the loans observable fair price, (2) discounted cash flow analysis, or (3) the fair value of collateral, if repayment of the loan is expected to be provided by underlying
collateral. In some instances loans may be determined to be impaired, but not require a write-down or a specific valuation allowance based upon managements analysis of the collateral providing sufficient coverage for the loan. If a loss of
principal is determined a charge is taken against the allowance and a specific reserve is established if additional costs exist to liquidate the loan.

30

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The following table sets forth activity in the allowance for credit losses for the periods indicated:

|(dollars in thousands)                                            |  | Nine Months   |  | Year Ended  
|----------------------------------------------------------------- |  | ------------- |  | ------------
|                                                                  |  | Ended         |  | December 31,
|                                                                  |  | September 30, |  |             
|                                                                  |  | 2008          |  | 2007        
|                                                                  |  |               |  |             
|Balance at beginning of period                                    |  | $10,975       |  | $8,917      
|                                                                  |  |               |  |             
|Provision for credit losses                                       |  | 15,278        |  | 3,600       
|                                                                  |  |               |  |             
|Charge-offs:                                                      |  |               |  |             
|Commercial                                                        |  | (853)         |  | (568)       
|Real Estate Mortgage and Construction                             |  | (6,255)       |  | (999)       
|Consumer                                                          |  | (46)          |  | (54)        
|                                                                  |  |               |  |             
|Total charge-offs                                                 |  | (7,154)       |  | (1,621)     
|                                                                  |  |               |  |             
|                                                                 
|Recoveries:                                                       |  |               |  |             
|Commercial                                                        |  | 77            |  | 30          
|Real Estate Mortgage and Construction                             |  | 85            |  | 37          
|Consumer                                                          |  | 28            |  | 12          
|                                                                  |  |               |  |             
|Total recoveries                                                  |  | 190           |  | 79          
|                                                                  |  |               |  |             
|                                                                 
|Net charge-offs                                                   |  | (6,964)       |  | (1,542)     
|Transfer to reserve for unfunded commitments                      |  | (119)         |  | -           
|Balance at end of period                                          |  | $19,170       |  | $10,975     
|                                                                  |  |               |  |             
|Gross loans                                                       |  | $792,290      |  | $783,117    
|Average loans                                                     |  | $794,988      |  | $746,498    
|Non-performing loans                                              |  | $53,792       |  | $3,117      
|                                                                 
|Selected ratios:                                                  |  |               |  |             
|                                                                  |  |               |  |             
|Net charge-offs to average loans                                  |  | 0.88%         |  | 0.21%       
|                                                                  |  |               |  |             
|Allowance for credit losses to average loans                      |  | 2.41%         |  | 1.48%       
|                                                                  |  |               |  |             
|Allowance for credit losses to loans outstanding at end of period |  | 2.42%         |  | 1.43%       
|                                                                  |  |               |  |             
|Allowance for credit losses to non-performing loans               |  | 35.64%        |  | 352.1%      
|(dollars in thousands)                                            |  |               |  |             

We allocate the Allowance by assigning general
allocations to our major loan categories (construction, commercial real estate, residential real estate, C&I and consumer). We also
make specific allocations on individual loans when factors are present requiring a greater reserve, typically the result of reviews of updated appraisals, or other collateral analysis.

The following table indicates managements allocation of the allowance for credit losses among major loan categories:

|             |  | September 30, |  | December 31,
|------------ |  | ------------- |  | ------------
|(dollars in  |  | 2008          |  | 2007        
|thousands)   |  |               |  |             
|             |  | Amount        |  | % of Total  
|             |  |               |  | Allowance   
|            
|Commercial   |  | $1.479        |  | 7.7%        
|Real Estate  |  |               |  |             
|Commercial   |  | 6,799         |  | 35.5%       
|Construction |  | 10,254        |  | 53.5%       
|Residential  |  | 505           |  | 2.6%        
|Consumer     |  | 89            |  | 0.5%        
|Unallocated  |  | 44            |  | 0.2%        
|             |  |               |  |             
|            
|Total        |  | $19,170       |  | 100.0%      
|             |  |               |  |             

31

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We consider many factors to determine the amount and allocation of the Allowance, centered in overall portfolio performance by loan category/type, local and national economic trends,
and assessments of categories of collateral. This information is measured against the current allocation and our historical loss record for the previous seven-year period to aid in assessing the adequacy of the Allowance. We weight loan types for
risk in the general portion of the reserve at a low, mid and high point based on perceived risk from past experience and from expected risk of loss. As previously discussed specifically identified credits and their specific allocation of the reserve
are also included above in the total allowance.

Our grading system allows our loan portfolio, including real estate, to be ranked across four pass risk grades, i.e. 1 (Excellent) through 4 (Monitored). Generally, the
real estate loan portfolio is graded either a 3, or 4, reflective of the overall quality of the existing portfolio, notwithstanding the various risks inherent in the real estate portfolio, such as large size and complexity of individual credits, and
overall concentration of credit risk.

For commercial banks, the Commercial and Industrial (C&I) loans that are not secured by real estate have historically represented the highest risk category based on our past
experience. This portfolio made up approximately 9.3% of our total loans as of September 30, 2008. While the majority of our historical loan charge-offs have occurred in this portfolio, we believe the current Allowance allocation is
adequate.

Our commercial real estate loans are a mixture of new and seasoned properties, generally retail, office, warehouse, and some industrial properties. Loans on properties are generally
underwritten at a loan-to-value ratio of up to 80% with a minimum debt coverage ratio of 1.20:1.

Our construction portfolio reflects some borrower concentration risk, and also carries the risks generally encountered with construction loans. We finance contractors who construct
homes or commercial properties that are not pre-sold. These construction loans are generally more risky than permanent mortgage loans because they are dependent upon the borrowers ability to complete the construction within budget and then to
generate cash to service the loan by selling or leasing the project. The value of the collateral depends on project completion when market conditions may have changed. Given the decline in the economic conditions as well as the downturn in the real
estate market, management elected to increase the risk factor for residential construction and land development loans to more closely mirror the current risk environment.

We have been engaged in an ongoing and active initiative to ensure we are compliant with both the spirit and letter of the commercial real estate guidelines promulgated by the
regulatory agencies. Our practices include active and ongoing senior management involvement, including informed oversight by the Board of Directors.

Deposits

Total deposits were $999.0 million at September 30, 2008 compared to $837.1 million at December 31, 2007. The balance of our public funds deposits decreased by $121.7
million in the first nine months of 2008 to $57.3 million at September 30, 2008 from $179.0 million at December 31, 2007. Brokered deposits increased by $248.9 million in the first nine months of 2008 to $353.5 million compared to
$104.6 million at December 31, 2007. Retail deposits increased by $37.1 million to $588.2 million for the nine months ended September 30, 2008 compared to $353.6 million at December 31, 2007.

The following table presents average balances not total balances as discussed above. Our average balances of deposits and average interest rates paid for the periods indicated are
summarized in the following table.

|                                                               |  | September 30, 2008     |  | December 30, 2007
|-------------------------------------------------------------- |  | ---------------------- |  | -----------------
|(dollars in thousands)                                         |  | Average                |  | % of             
|                                                               |  | Balance                |  | Total            
|                                                               |  |                        |  |                  
|Non-interest checking                                          |  | $ 107,018              |  | 12.2%            
|NOW and MMDA                                                   |  | 335,747                |  | 38.2%            
|Savings accounts                                               |  | 23,964                 |  | 2.7%             
|Time deposits                                                  |  | 411,498                |  | 46.9%            
|                                                               |  |                        |  |                  
|Total                                                          |  | $ 878,227              |  | 100.0%           
|                                                               |  |                        |  |                  
|                                                              
|                                                              
|The following table shows the maturities of our time deposits: |  |                        |  |                  
|                                                              
|                                                               |  |                        |  |                  
|                                                               |  | (dollars in thousands) |  | Under            
|                                                               |  |                        |  |                  
|                                                               |  |                        |  |                  
|                                                               |  | 0-90 days              |  |                  
|                                                               |  | 91-180 days            |  |                  
|                                                               |  | 181-365 days           |  | 58,403           
|                                                               |  | Over 1 year            |  |                  
|                                                               |  |                        |  |                  
|                                                               |  |                        |  |                  
|                                                               |  |                        |  |                  

32

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Borrowings and Repurchase Agreements

Short term borrowings decreased $143.1 million, or 82.2%, to $30.9 million in the nine months ended September 30, 2008 compared to $174.0 million at December 31, 2007.
Short-term borrowings represent Federal Funds Purchased, borrowings from the U.S. Treasury, repurchase agreements with Citigroup, advances from the FHLB, and customer repurchase agreements, all of which are normally maturing within one
year.

|The following table sets forth information concerning short-term borrowings at the periods indicated: |  |              
|----------------------------------------------------------------------------------------------------- |  | -------------
|                                                                                                      |  | September 30,
|                                                                                                      |  | 2008         
|                                                                                                      |  |              
|Average balance during period                                                                         |  | $ 155,716    
|Average interest rate during period                                                                   |  | 3.34%        
|Maximum month-end balance during the year                                                             |  | 247,393      
|Weighted average rate at period end                                                                   |  | 2.83%        
|Balance at period end                                                                                 |  | $ 30,847     

Contractual Obligations and Off-Balance Sheet Arrangements

Long-term borrowings include junior subordinated debentures. The following tables show the long-term borrowings and contractual obligations as of September 30, 2008:

|                                               |  |           |  |             |  | September 30, 2008     |  |            |  |          
|---------------------------------------------- |  | --------- |  | ----------- |  | ---------------------- |  | ---------- |  | ---------
|(dollars in thousands)                         |  |           |  |             |  | Payments Due by Period |  |            |  |          
|                                               |  | Less Than |  | After One   |  | After Three            |  | More Than  |  |          
|                                               |  | One Year  |  | But Within  |  | But Within             |  | Five       |  |          
|Contractual Obligations                        |  |           |  | Three Years |  | Five Years             |  | Years      |  | Total    
|                                               |  |           |  |             |  |                        |  |            |  |          
|Demand note issued to US Treasury              |  | $ 8,060   |  | $        -  |  | $        -             |  | $        - |  | $ 8,060  
|FHLB Term Advances                             |  | -         |  | -           |  | 40,000                 |  | 10,000     |  | 50,000   
|Overnight repurchase agreements with customers |  | 22,787    |  | -           |  | -                      |  | -          |  | 22,787   
|Junior subordinated debentures (at fair value) |  | -         |  | -           |  | -                      |  | 19,734     |  | 19,734   
|Premise leases                                 |  | 835       |  | 1,744       |  | 1,715                  |  | 7,895      |  | 12,189   
|                                               |  |           |  |             |  |                        |  |            |  |          
|Total contractual obligations                  |  | $ 31,682  |  | $  1,744    |  | $ 41,715               |  | $ 37,629   |  | $ 112,770
|                                               |  |           |  |             |  |                        |  |            |  |          

We are party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of our customers. These instruments include unfunded
commitments to extend credit and standby letters of credit. The following table summarizes our commitments at the periods indicated:

|(dollars in thousands)                |  | September 30, |  | December 31,
|------------------------------------- |  | ------------- |  | ------------
|                                      |  | 2008          |  | 2007        
|                                      |  |               |  |             
|Unfunded commitments to extend credit |  |               |  |             
|Real estate secured                   |  | $ 75,008      |  | $ 135,545   
|Credit card lines                     |  | 2,621         |  | 3,018       
|Other                                 |  | 63,700        |  | 61,258      
|                                      |  |               |  |             
|Total commitments to extend credit    |  | $ 141,329     |  | $ 199,821   
|                                      |  |               |  |             
|                                     
|Standby letters of credit             |  | $ 1,940       |  | $ 1,953     
|                                      |  |               |  |             

33

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Capital

Current risk-based regulatory capital standards require banks and bank holding companies to maintain a minimum ratio of core or Tier I capital (consisting
principally of common equity) to risk-weighted assets of at least 4%, a ratio of Tier I capital to adjusted total assets (leverage ratio) of at least 4% and a ratio of total capital (which includes Tier I capital plus certain forms of subordinated
debt, a portion of the allowance for credit losses and preferred stock) to risk-weighted assets of at least 8% to be adequately capitalized. Risk-weighted assets are calculated by multiplying the balance in each category of assets by a risk factor,
which ranges from zero for cash assets and certain government obligations to 100% for some types of loans, and adding the products together.

|                              |  | Regulatory Requirements                      |  | Actual percentage at
|----------------------------- |  | -------------------------------------------- |  | --------------------
|                              |  | (Greater than or equal to stated percentage) |  | September 30, 2008  
|                              |  |                                              |  |                     
|                              |  | Under                                        |  | Adequately          
|                              |  | Capitalized                                  |  | Capitalized         
|Tier 1 leverage capital ratio |  | < 4.00%                                      |  | 4.00%               
|Tier 1 risk-based capital     |  | < 4.00%                                      |  | 4.00%               
|Total risk-based capital      |  | < 8.00%                                      |  | 8.00%               
|                             
|                              |  | Regulatory Requirements                      |  | Actual percentage at
|                              |  | (Greater than or equal to stated percentage) |  | December 31, 2007   
|                              |  |                                              |  |                     
|                              |  | Under                                        |  | Adequately          
|                              |  | Capitalized                                  |  | Capitalized         
|Tier 1 leverage capital ratio |  | < 4.00%                                      |  | 4.00%               
|Tier 1 risk-based capital     |  | < 4.00%                                      |  | 4.00%               
|Total risk-based capital      |  | < 8.00%                                      |  | 8.00%               

The $26.1 million net of tax OTTI charge on the Freddie Mac and Fannie Mae preferred shares and the ensuing decrease in retained earnings from that charge, resulted in a reduction
of regulatory capital for both Venture Bank and Venture Financial Group. The Company is
considered adequately capitalized for its total risk-based capital as of September 30, 2008 versus well-capitalized as of December 31, 2007.

The Bank is considered under
capitalized for its total risk-based capital as of September 30, 2008 versus well-capitalized as of December 31, 2007. Although the current capitalization ratio is sufficient for current ongoing operations, management is committed to bringing the
Company and the Bank back to a well-capitalized status. Although management intends to become well-capitalized in the near future, there are many factors that could cause regulatory capital to decline even further. These factors include, but are not
limited to; credit deterioration in the Banks securities portfolio, particularly in the
Level 3 securities which could trigger an other than temporary impairment, and a larger than normal increase in the provision for credit losses due to ongoing
credit concerns.

On August 25, 2008 the Company sold 160,000 newly issued shares of common stock of which, the ESOP purchased 110,000 shares at $13.00 per share for total proceeds of $1.4
million and the KSOP purchased 50,000 shares at $13.00 per share for total proceeds of $650 thousand. This resulted in a net increase to capital in the amount of $2.1 million.

In order to manage our capital position more efficiently, we have formed statutory trusts for the sole purpose of issuing trust preferred securities. We had junior subordinated
debentures with a fair value of $21.2 million at September 30, 2008 and carrying value of $21.8 million at December 31, 2007. At September 30, 2008, 100% of the total issued amount, had interest rates that were adjustable on a quarterly
basis based on a spread over LIBOR. In July 2007, we called $13.4 million of junior subordinated debentures originally issued by FCFG Capital Trust I in 2002. We immediately replaced these with a new issuance in the same amount by VFG Capital
Trust I. Our capital did not change as a result of this transaction. We paid quarterly interest payments at the 3-month LIBOR rate plus 365 basis points on the FCFG Capital Trust I issuance. The rate on the new issuance is the 3-Month LIBOR rate
plus 145 basis points, which re-prices quarterly, and will provide a significant savings. The stated maturity date of this issuance is September 2037, and the debentures may be prepaid without penalty beginning September 2012.

In April 2003, we raised $6.2 million (FCFG Capital Trust II) through a participation in a pooled junior subordinated debentures offering. The floating rate junior subordinated
debentures issued by FCFG Capital Trust II accrue interest at a variable rate of interest, calculated quarterly, at LIBOR plus 325 basis points per annum on the outstanding balance. The stated maturity date this issuance is October 2033, and the
debentures may be prepaid without penalty. The majority of these funds were utilized for the purchase of Harbor Bank in 2002 and to repurchase our common stock. In December 2003, Washington Commercial Bancorp raised $3.1 million (Washington
Commercial Statutory Trust I) through its participation in a pooled junior subordinated debentures offering. The floating rate junior subordinated debentures issued by Washington Commercial Statutory Trust I accrue interest at a variable rate of
interest, calculated quarterly at LIBOR plus 285 basis points per annum on the outstanding balance. The stated maturity date of this issuance is December 2033, and

34

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these debentures may be prepaid without penalty beginning December 2008. We acquired the Washington Commercial Bancorp junior subordinated debentures upon completion of our
merger.

On March 5, 2005 the Federal Reserve adopted regulations that mandate the maximum amount of junior subordinated debentures that may be included in our Tier 1 Capital calculation. Our
capital ratios are calculated in accordance with this regulation and the entire issued amount of junior subordinated debentures qualified as Tier 1 Capital for regulatory capital purposes.

In accordance with the provisions of the related indentures, we
intend to notify the trustees of the Trusts that the payment of dividends will be deferred effective with the
distributions scheduled for the fourth quarter of 2008, until further notice. The Company has the right to defer distributions for up to 20 consecutive quarters, although it will continue to accrue the cost of the preferred dividends at the normal
interest rate on a compounded basis until such time as the deferred arrearage has been paid current.

Liquidity

Liquidity management involves the ability to meet cash flow requirements of customers who may be either depositors wanting to withdraw funds or borrowers needing assurance that
sufficient funds will be available to meet their credit needs. Liquidity is generated from both internal and external sources. Internal sources are those assets that can be converted to cash with little or no risk of loss. In this turbulent market
environment where credit spreads are abnormally wide, assets may be difficult to convert to cash with or without a loss. Internal sources include overnight investments in interest bearing deposits in banks, federal funds sold and all or a portion of
available for sale investment securities.

We have a formal liquidity policy, and in the opinion of management, our liquid assets are considered adequate to meet our anticipated cash flow needs for deposit
withdrawals.

At September 30, 2008, cash and cash equivalents, federal funds sold and all securities available for sale totaled $266.5 million of which $181.6 million was pledged. The
securities are pledged at more than 100% of the secured borrowing so that repayment of the borrowing creates excess liquidity due to the full value of the securities being realized. External sources refer to the ability to access new deposits, new
borrowings and capital and include increasing savings and demand deposits, certificates of deposit, federal funds purchased, re-purchase agreements, short and long term debt, and the issuance of capital and debt securities. At September 30, 2008
short and long term borrowing lines of credit totaled $139.9 million. These credit facilities are being used regularly as a source of funds. At September 30, 2008, $50 million was borrowed against these lines of credit in the form of long
term debt, compared to $151.8 million borrowed at June 30, 2008.

We will manage our liquidity by changing the relative distribution of our asset portfolios, i.e., reducing investment or loan volumes, or selling or encumbering assets. Further, we
will increase liquidity by soliciting higher levels of deposit accounts through promotional activities or borrowing from the Federal Home Loan Bank, Federal Reserve Discount Window or other borrowing sources. At the current time, our long-term
liquidity needs primarily relate to funds required to meet deposit withdrawals. These needs can currently be met by cash flows from investment payments and maturities, and investment or loan sales if the need arises. Future sources of liquidity, if
necessary, to fund our future growth could be the issuance of capital instruments such as preferred stock, additional common stock and trust preferred securities.

Our primary investing activities are the origination of real estate, commercial and consumer loans and purchase of securities. Gross loans including loans held for sale were
$792.3 million as of September 30, 2008 and $783.1 million for the year ended December 31, 2007. Investment securities were $228.9 million at September 30, 2008 and $280.1 million at December 31, 2007. At September 30, 2008 we had
outstanding loan commitments of $141.3 million and outstanding letters of credit of $1.9 million. We anticipate that we will have sufficient funds available to meet current loan commitments.

Net cash provided by financing activities has been impacted by an increase in deposit levels of $161.9 million for the nine months ended September 30, 2008. For the twelve months
ended December 31, 2007 total deposits increased by $65.9 million.

Management believes that the Company's liquidity position at September 30, 2008 was adequate to fund ongoing operations.

Item 3Quantitative and Qualitative Disclosures About Market Risk

Market risk is the risk of loss in a financial instrument arising from adverse changes in market prices and rates, foreign currency exchange rates, commodity prices and equity prices.
Our market risk arises primarily from interest rate risk inherent in our lending, investment, and deposit taking activities. To that end, management actively monitors and manages our interest rate risk exposure. We do not have any market risk
sensitive instruments entered into for trading purposes. We manage our interest rate sensitivity by managing the repricing opportunities on our earning assets and those on our funding liabilities on an overall bank basis.

Management uses various asset/liability strategies to manage the repricing characteristics of our assets and liabilities designed to ensure that exposure to interest rate fluctuations
is limited within our guidelines of acceptable levels of risk-taking. Hedging strategies, including the terms and pricing of loans and deposits, and managing the deployment of our securities, are used to reduce mismatches in interest rate repricing
opportunities of portfolio assets and their funding sources.

Interest Rate Risk.Interest rate risk is the current and prospective risk to earnings or
capital arising from movements in interest rates. Changes in interest rates affect income earned from assets and the cost of funding those assets. We structure our balance sheet in such a manner that earnings will be relatively stable regardless of current or prospective movements in interest rates. We monitor interest rate risk by analyzing the potential impact on the economic value of equity and net
interest income from potential changes in interest rates, and consider the impact of alternative strategies or changes in balance sheet structure.

35

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Our exposure to interest rate risk is reviewed on at least a quarterly basis by our Board Asset Liability Committee, or Board ALCO, which is comprised of three independent directors.
Our Chief Financial Officer works closely with the Board ALCO Committee. Our Chief Financial Officer develops and implements policies and procedures that translate the Boards goals, objectives, and risk limits, and chairs the Management ALCO
committee, which meets to assist in formulating and implementing operating strategies to execute the Board ALCO policies. On a day-to-day basis, the monitoring of interest rate risk and management of our balance sheet to stay within Board policy
limits is the responsibility of our Chief Financial Officer and Treasury staff. The Management ALCO committee members represent various areas of our operations and participate in product creation, product pricing, and implementation of
asset/liability strategies.

Item 4TControls and Procedures

Evaluation of Disclosure Controls and Procedures

The Companys disclosure controls and procedures are designed to ensure that information VFG must disclose in its reports filed or submitted under the Securities Exchange Act of
1934, as amended (the Exchange Act), are recorded, processed, summarized, and reported on a timely basis. The Company carried out an evaluation, under the supervision and with the participation of the Chief Executive Officer
(CEO) and Chief Financial Officer (CFO), of the effectiveness of disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the CEO and CFO have concluded that VFGs
disclosure controls and procedures are effective in bringing to their attention, on a timely basis, information required to be disclosed by VFG reports that it files or submits under the Exchange Act

Changes in Internal Controls

In the third quarter ended September 30, 2008, the Company did not make any change in, nor take any corrective actions regarding, its internal controls or other factors that has
materially affected, or is reasonably likely to materially affect the internal controls over the financial reporting. The Company continued to implement suggestions from its internal auditor and independent auditors on ways to strengthen existing
controls.

Venture Financial Group, Inc.

PART II - OTHER INFORMATION

Item 1 Legal Proceedings

Due to the nature of banking, we are involved in legal proceedings in the ordinary course of business. At this time, we do not believe that there is pending litigation the outcome of
which will have a material adverse affect on the financial condition, results of operations, or liquidity of the Company.

Item 1A Risk Factors

Other than as set forth below, there are no material changes to the Companys risk factors from what was previously disclosed in the Annual Report on Form 10-K for the year ended
December 31, 2007.

Difficult market conditions have adversely affected the financial services industry.The capital
and credit markets have been experiencing unprecedented volatility and disruption for more than twelve months. In recent weeks, the volatility and disruption has reached unprecedented levels. Dramatic declines in the housing market over the past
year, with falling home prices and increasing foreclosures and unemployment have negatively impacted the credit performance of mortgage loans and resulted in significant write-downs of asset values by financial institutions, including
government-sponsored entities and major commercial and investment banks. These write-downs have caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail. Reflecting
concern about the stability of the financial markets generally and the strength of counterparties, many lenders and institutional investors have reduced or ceased providing funding to borrowers, including to other financial institutions. This market
turmoil and tightening of credit have led to an increased level of commercial and consumer delinquencies, lack of consumer confidence, increased market volatility and widespread reduction of business activity generally. The resulting economic
pressure on consumers and lack of confidence in the financial markets has adversely affected the Banks business, financial condition and results of operations. A worsening of these conditions would likely exacerbate the adverse effects of
these difficult market conditions on the Bank and others in the financial institutions industry. In particular, the Bank may face the following risks in connection with these events:

- Increased regulation of our industry, including as a result of the Emergency Economic Stabilization Act of 2008. Compliance with such regulation may increase the Banks costs and limit its ability to pursue business opportunities.
- The Banks ability to assess the creditworthiness of our customers may be impaired if the models and approaches the Bank uses to select, manage, and underwrite its customers become less predictive of future behaviors.
- The process the Bank uses to estimate losses inherent in its credit exposure requires difficult, subjective, and complex judgments, including forecasts of economic conditions and how these economic predictions might impair the ability of the Banks borrowers to repay their loans, which may no longer be capable of accurate estimation which may, in turn, impact the reliability of the process.

36

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- The Bank may be required to pay significantly higher Federal Deposit Insurance Corporation premiums because market developments have significantly depleted the insurance fund of the FDIC and reduced the ratio of reserves to insured deposits.
- There may be downward pressure on the Companys stock price.
- The Banks ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions and government sponsored entities.
- The Bank may face increased competition due to intensified consolidation of the financial services industry.

If current levels of market disruption and volatility continue or worsen, there can be no assurance that the Company will not experience an adverse effect, which may be material, on
its ability to access capital and on its business, financial condition and results of operations.

We may be limited in our access to funding to meet our liquidity needs.Liquidity is essential to
the Banks business. An inability to raise funds through deposits, borrowings, the sale or pledging as collateral of loans and other assets could have a substantial negative effect on the Banks liquidity. The Banks access to funding
sources in amounts adequate to finance its activities could be impaired by factors that affect the Bank specifically or the financial services industry in general. Factors that could detrimentally impact the Banks access to liquidity sources
include a decrease in the level of business activity due to a market down turn or adverse regulatory action against the Bank. The Banks ability to borrow could also be impaired by factors that are nonspecific to the Bank, such as severe
disruption of the financial markets or negative use and expectations about the prospects for the financial services industry as a whole as evidenced by recent turmoil in the domestic and worldwide credit markets. As a result of the Banks
regulatory capital falling below the requirements for well-capitalized status as of September 30, 2008, the Bank is unable to issue brokered certificates of deposit. Brokered certificates of deposit aggregating $84.1 million, which represent
approximately 8.4% of total deposits, mature prior to December 31, 2008.

The Banks wholesale funding sources may prove insufficient to replace deposits at maturity and support our future growth.The Bank must maintain sufficient funds to respond to the needs of depositors and borrowers. As a part of its liquidity management, the Bank uses a number of funding sources in addition to core
deposit growth and repayments and maturities of loans and investments. As the Bank continues to grow, it is likely to become more dependent on these sources, which include Federal Home Loan Bank advances, proceeds from the sale of loans and
liquidity resources at the Company. At September 30, 2008, the Bank had approximately $50 million of Federal Home Loan Bank advances outstanding. The Companys financial flexibility will be severely constrained if the Bank is unable to
maintain access to funding or if adequate financing is not available to accommodate future growth at acceptable interest rates. If the Bank is required to rely more heavily on more expensive funding sources to support future growth, revenues may not
increase proportionately to cover costs, and profitability would be adversely affected.

Federal and state governments could pass legislation responsive to current credit conditions.The
Bank could experience higher credit losses because of federal or state legislation or regulatory action that reduces the amount the Bank's borrowers are otherwise contractually required to pay under existing loan contracts. Also, the Bank could
experience higher credit losses because of federal or state legislation or regulatory action that limits the Bank's ability to foreclose on property or other collateral or makes foreclosure less economically feasible.

Changes in accounting standards may impact how we report our financial condition and results of operations.Our accounting policies and methods are fundamental to how we record and report our financial condition and results of operations. From time to time the Financial Accounting Standards Board (FASB) changes the financial
accounting and reporting standards that govern the preparation of our financial statements. These changes can be difficult to predict and can materially impact how we record and report our financial condition and results of operations. In some
cases, we could be required to apply a new or revised standard retroactively, resulting in a restatement of prior period financial statements.

The value of securities in our investment securities portfolio may be negatively affected by continued disruptions in securities markets.The market for some of the investment securities held in our portfolio has become extremely volatile over the past twelve months. Volatile market conditions may detrimentally affect the value of
these securities, such as through reduced valuations due to the perception of heightened credit and liquidity risks. There can be no assurance that the declines in market value associated with these disruptions will not result in other than
temporary impairments of these assets, which would lead to accounting charges that could have a material adverse effect on our net income and capital levels.

There can be no assurance that recently enacted legislation authorizing the U.S. government to inject capital into financial institutions and purchase assets from financial
institutions will help stabilize the U.S. financial system.On October 3, 2008, President Bush signed into law the Emergency Economic Stabilization Act of 2008 (the
EESA). The legislation was the result of a proposal by Treasury Secretary Henry Paulson to the U.S. Congress on September 20, 2008 in response to the financial crises affecting the banking system and financial markets and going concern
threats to investment banks and other financial institutions. Pursuant to the EESA, the U.S. Treasury will have the authority to, among other things, invest in preferred stock of financial institutions and purchase mortgages, mortgage-backed
securities and certain other financial instruments from financial institutions for the purpose of stabilizing and providing liquidity to the U.S. financial markets. There can be no assurance, however, as to the actual impact that the EESA will have
on the financial markets, including the extreme levels of volatility and limited credit availability currently being experienced. The failure of the EESA to help stabilize the financial markets and a continuation or worsening of current financial
market conditions could materially and adversely affect our business, financial condition, results of operations, access to credit or the trading price of our common stock.

37

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If the Bank is unable to pay cash dividends to the holding company to meet the holding companys cash obligations, the business, financial condition, results of
operations and prospects will be adversely affected.Dividends paid by the bank to the holding company provide cash flow used to service the interest payments on trust
preferred securities. Various statutory provisions restrict the amount of dividends the Bank can pay to the holding company without regulatory approval: the Banks payment of dividends is subject to receipt of the prior written consent of the
Director of Banks for the State of Washington and the Company may not be able to receive his consent. It is possible that, depending upon the financial condition of the Bank and other factors, the applicable regulatory authorities could assert that
payment of dividends or other payments, including payments to the holding company, is an unsafe or unsound practice. If the Bank is unable to pay dividends to the holding company, it may not be able to service the debt or pay its obligations. The
inability to receive dividends from the Bank would adversely affect the business, financial condition, results of operations and prospects and could lead to a deferral of interest on existing trust preferred securities.

Item 2 Unregistered Sales of Equity Securities and Use of Proceeds

|(a) | On August 25, 2008 the Company sold 160,000 newly issued shares of common stock in private placement transactions (Section 4(2) of the Securities Act) to its affiliated benefit
plansthe Employee Stock Ownership Plan or ESOP (110,000 shares) and 401K Stock Ownership Plan or KSOP (50,000 shares) at $13.00 per share.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(c) | Issuer Purchases of Equity Securities                                                                                                                                                                                                                                                                                       
|   

|                           |  |                         |  |                        |  |                          |  | Total number of shares |  |                  
|-------------------------- |  | ----------------------- |  | ---------------------- |  | ------------------------ |  | ---------------------- |  | -----------------
|                           |  |                         |  |                        |  |                          |  | purchased as part of   |  | Maximum number of
|                           |  | Total number of shares  |  | Average price paid per |  | publicly announced plans |  | shares that may yet be
|Period                     |  | purchased               |  | share                  |  | or programs              |  | purchased             
|                          
|                          
|Month #1                   |  |                         |  |                        |  |                          |  |                        |  |                  
|July 1, 2008 through       |  |                         |  |                        |  |                          |  |                        |  |                  
|July 31, 2008              |  | - -                     |  |                        |  | - -                      |  | - -                    |  |                  
|                          
|Month #2                   |  |                         |  |                        |  |                          |  |                        |  |                  
|August 1, 2008 through     |  |                         |  |                        |  |                          |  |                        |  |                  
|August 31, 2008            |  | - -                     |  |                        |  | - -                      |  | - -                    |  |                  
|                          
|Month #3                   |  |                         |  |                        |  |                          |  |                        |  |                  
|September 1, 2008 through  |  |                         |  |                        |  |                          |  |                        |  |                  
|September 30, 2008         |  | - -                     |  |                        |  | - -                      |  | - -                    |  |                  
|                          
|                          
|Date repurchase authorized |  | Date publicly announced |  | # of shares authorized |  | Expiration Date         
|                          
|February 19, 2003          |  | March 5, 2003           |  |                        |  | 131,370                  |  | August 19, 2004       
|September 18, 2003         |  | September 24, 2003      |  |                        |  | 56,130                   |  | December 18, 2004     
|October 15, 2003           |  | October 17, 2003        |  |                        |  | 225,000                  |  | April 15, 2005        
|June 16, 2004              |  | June 22, 2004           |  |                        |  | 200,000                  |  | December 31, 2005     
|November 15, 2005          |  | February 27, 2006       |  |                        |  | 200,000                  |  | May 15, 2007          
|August 29, 2007            |  | September 5, 2007       |  |                        |  | 200,000                  |  | February 29, 2009     

Share counts reflect a three-for-two stock dividend declared on May 16, 2004.

Item 6 Exhibits

The following is a list of exhibits to this Form 10-Q and constitutes the EXHIBIT INDEX:

|3.1  | Second Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 3.1 of the Registrants Quarterly Report on Form 10-Q for the quarter ended March 31,
2005; SEC Accession No. 0000896595-05-000206, filed May 16, 2005.
|---- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|3.2  | Amended Bylaws (incorporated by reference to Exhibit 3.2 of the Registrants Current Report on Form 8-K filed June 25, 2007, SEC Accession No. 0000896595-07-000295)                                                                               
|    
|31.1 | Certifications of the Chief Executive Officer.                                                                                                                                                                                                     
|    
|31.2 | Certifications of the Chief Financial Officer.                                                                                                                                                                                                     
|    
|32   | Certification of Chief Executive Officer and Chief Financial Officer under Section 906 of Sarbanes-Oxley Act of 2002.                                                                                                                              
|    

38

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|Venture Financial Group, Inc.SIGNATURES
|---------------------------------------

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



|                        | VENTURE
FINANCIAL GROUP, INC.(Registrant)                                                      
|----------------------- | -----------------------------------------------------------------------------------------------
|Date: November 19, 2008 | By: /s/ Ken F. Parsons, Sr.Ken F. Parsons, Sr.Chief Executive Officer and Chairman of the Board
|                        |                                                                                                
|                        | By:/s/ Sandra L. SagerSandra L. Sager, CPAEVP, Chief Financial Officer                         

39

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