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UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549

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FORM 10-Q

|ý                                                  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 
|-------------------------------------------------- | ----------------------------------------------------------------------------------------
|For the quarterly period ended: September 30, 2002
|OR                                                
|o                                                  | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|For the transition period from
 to                

Commission File Number: 0-10196

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INDEPENDENT BANKSHARES, INC.(Exact name of registrant as specified in its charter)

|Texas(State or other jurisdiction of
incorporation or organization)                 |  | 75-1717279(I.R.S. Employer
Identification No.)
|----------------------------------------------------------------------------------- |  | ----------------------------------------------
|1617 Broadway
P. O. Box 5240
Lubbock, Texas(Address of principal executive offices) |  | 79408(Zip Code)                               

(806) 749-1850(Registrant's telephone number, including area code)

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Indicate
by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.

YES ý    NO o

Indicate
the number of shares outstanding of each of the issuer's classes of common stock at September 30, 2002.

Class:
Common Stock, par value $0.25 per share Outstanding at September 30, 2002: 2,273,647 shares

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PART I    FINANCIAL INFORMATION

Item 1. Financial Statements.

INDEPENDENT BANKSHARES, INC.  A WHOLLY OWNED SUBSIDIARY OF STATE NATIONAL BANCSHARES, INC.        CONSOLIDATED BALANCE SHEETS  SEPTEMBER 30, 2002 AND DECEMBER 31, 2001    
(Unaudited)  (In Thousands)

|                                                                                   |                                        | September 30,
2002         |                                            | December 31,
2001 |        
|---------------------------------------------------------------------------------- | -------------------------------------- | -------------------------- | ------------------------------------------ | ----------------- | -------
|ASSETS                                                                             |                                        |                            |                                            |                   |        
|Cash, due from banks and interest-earning time deposits                            |                                        | $                          | 20,233                                     |                   | $      
|Federal funds sold                                                                 |                                        |                            | 9,313                                      |                   |        
|                                                                                   |                                        |                            |                                            |                   |        
|                                                                                   | Total cash and cash equivalents        |                            |                                            | 29,546            |        
|Available-for-sale securities                                                      |                                        |                            | 191,830                                    |                   |        
|Loans held for investment                                                          |                                        |                            | 286,936                                    |                   |        
|                                                                                   | Allowance for loan losses              |                            |                                            | (6,929            | )      
|                                                                                   |                                        |                            |                                            |                   |        
|                                                                                   |                                        | Net loans                  |                                            |                   | 280,007
|                                                                                   |                                        |                            |                                            |                   |        
|Goodwill                                                                           |                                        |                            | 16,098                                     |                   |        
|Core deposit intangible                                                            |                                        |                            | 10,552                                     |                   |        
|Premises and equipment                                                             |                                        |                            | 14,778                                     |                   |        
|Other assets                                                                       |                                        |                            | 19,301                                     |                   |        
|                                                                                   |                                        |                            |                                            |                   |        
|                                                                                   |                                        |                            | Total assets                               |                   | $      
|                                                                                   |                                        |                            |                                            |                   |        
|LIABILITIES AND STOCKHOLDER'S EQUITY                                               |                                        |                            |                                            |                   |        
|Deposits:                                                                          |                                        |                            |                                            |                   |        
|                                                                                   | Noninterest-bearing demand deposits    |                            | $                                          | 96,988            |        
|                                                                                   | Interest-bearing demand deposits       |                            |                                            | 178,520           |        
|                                                                                   | Interest-bearing time deposits         |                            |                                            | 204,294           |        
|                                                                                   |                                        |                            |                                            |                   |        
|                                                                                   |                                        | Total deposits             |                                            |                   | 479,802
|Federal funds purchased and securities sold under agreements to repurchase         |                                        |                            | 191                                        |                   |        
|Other liabilities                                                                  |                                        |                            | 6,939                                      |                   |        
|                                                                                   |                                        |                            |                                            |                   |        
|                                                                                   |                                        |                            | Total liabilities                          |                   |        
|                                                                                   |                                        |                            |                                            |                   |        
|Guaranteed preferred beneficial interests in the company's subordinated Debentures |                                        |                            | 10,930                                     |                   |        
|Stockholder's equity:                                                              |                                        |                            |                                            |                   |        
|                                                                                   | Common stock                           |                            |                                            | 568               |        
|                                                                                   | Additional paid-in capital             |                            |                                            | 80,066            |        
|                                                                                   | Retained earnings (deficit)            |                            |                                            | (20,772           | )      
|                                                                                   | Accumulated other comprehensive income |                            |                                            | 4,388             |        
|                                                                                   |                                        |                            |                                            |                   |        
|                                                                                   |                                        | Total stockholder's equity |                                            |                   | 64,250 
|                                                                                   |                                        |                            |                                            |                   |        
|                                                                                   |                                        |                            | Total liabilities and stockholder's equity |                   | $      
|                                                                                   |                                        |                            |                                            |                   |        

See
Accompanying Notes to Interim Consolidated Financial Statements.

2

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INDEPENDENT BANKSHARES, INC.  A WHOLLY OWNED SUBSIDIARY OF STATE NATIONAL BANCSHARES, INC.        CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)  FOR THE QUARTERS AND
NINE MONTH PERIOD ENDED SEPTEMBER 30, 2002 AND 2001        (Unaudited)  (In Thousands)

|                                          |                                                                                                     | Quarter Ended
September 30, |                                                                                                     | Nine Month Period Ended
September 30, |      
|----------------------------------------- | --------------------------------------------------------------------------------------------------- | --------------------------- | --------------------------------------------------------------------------------------------------- | ------------------------------------- | -----
|
|Interest income:                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          | Loans, including fees                                                                               |                             | $                                                                                                   | 5,059                                 |      
|                                          | Securities                                                                                          |                             |                                                                                                     | 2,515                                 |      
|                                          | Deposits in other banks                                                                             |                             |                                                                                                     | 27                                    |      
|                                          | Federal funds sold                                                                                  |                             |                                                                                                     | 51                                    |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     | Total interest income       |                                                                                                     |                                       | 7,652
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|Interest expense:                         |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          | Deposits                                                                                            |                             |                                                                                                     | 1,890                                 |      
|                                          | Federal funds purchased and securities sold under agreements to repurchase                          |                             |                                                                                                     | 0                                     |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     | Total interest expense      |                                                                                                     |                                       | 1,890
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     |                             | Net interest income                                                                                 |                                       |      
|Provision (credit) for loan losses        |                                                                                                     |                             | 78                                                                                                  |                                       |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     |                             | Net interest income after provision (credit) for loan losses                                        |                                       |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|Noninterest income:                       |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          | Service charges                                                                                     |                             |                                                                                                     | 940                                   |      
|                                          | Trust fees                                                                                          |                             |                                                                                                     | 117                                   |      
|                                          | Other income                                                                                        |                             |                                                                                                     | 527                                   |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     | Total noninterest income    |                                                                                                     |                                       | 1,584
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|Noninterest expenses:                     |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          | Salaries and employee benefits                                                                      |                             |                                                                                                     | 2,763                                 |      
|                                          | Amortization of goodwill                                                                            |                             |                                                                                                     | 0                                     |      
|                                          | Amortization of core deposit intangible                                                             |                             |                                                                                                     | 472                                   |      
|                                          | Net occupancy expense                                                                               |                             |                                                                                                     | 982                                   |      
|                                          | Professional fees                                                                                   |                             |                                                                                                     | 174                                   |      
|                                          | Distributions on guaranteed preferred beneficial interests in the company's subordinated debentures |                             |                                                                                                     | 280                                   |      
|                                          | Communication expense                                                                               |                             |                                                                                                     | 200                                   |      
|                                          | Data processing expense                                                                             |                             |                                                                                                     | 104                                   |      
|                                          | Net costs (revenues) applicable to other real estate and other repossessed assets                   |                             |                                                                                                     | 12                                    |      
|                                          | Merger-related expense                                                                              |                             |                                                                                                     | 0                                     |      
|                                          | Other expenses                                                                                      |                             |                                                                                                     | 1,002                                 |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     | Total noninterest expenses  |                                                                                                     |                                       | 5,989
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     |                             | Income (loss) before federal income taxes and cumulative effect of a change in accounting principle |                                       |      
|                                          | Federal income tax expense (benefit)                                                                |                             |                                                                                                     | 264                                   |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     |                             | Income (loss) before cumulative effect of a change in accounting principle                          |                                       |      
|                                          | Cumulative effect of a change in accounting principlegoodwill impairment                           |                             |                                                                                                     | 0                                     |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     |                             | Net income (loss)                                                                                   |                                       | $    
|Other comprehensive income, net of taxes: |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          | Change in unrealized holding gains on available-for-sale securities                                 |                             |                                                                                                     | 873                                   |      
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      
|                                          |                                                                                                     |                             | Comprehensive income (loss)                                                                         |                                       | $    
|                                          |                                                                                                     |                             |                                                                                                     |                                       |      

See Accompanying Notes to Interim Consolidated Financial Statements.

3

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INDEPENDENT BANKSHARES, INC.  A WHOLLY OWNED SUBSIDIARY OF STATE NATIONAL BANCSHARES, INC.        CONSOLIDATED STATEMENTS OF CASH FLOWS  NINE MONTH PERIODS ENDED SEPTEMBER 30, 2002 and 2001
    (Unaudited)  (In Thousands)

|                                                                                |                                                                                        | Nine Month Period Ended
September 30,     |        
|------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------- | ----------------------------------------- | -------
|
|Cash flows from operating activities:                                           |                                                                                        |                                           |        
|                                                                                | Net Loss                                                                               |                                           | $      
|Adjustments to reconcile net loss to net cash provided by operating activities: |                                                                                        |                                           |        
|                                                                                | Depreciation and Amortization                                                          |                                           |        
|                                                                                | Provision (credit) for Loan Losses                                                     |                                           |        
|                                                                                | Cumulative Effect of a Change in Accounting PrincipleGoodwill Impairment              |                                           |        
|                                                                                | Net (Gain) Loss on Sales of Premises and Equipment                                     |                                           |        
|                                                                                | Writedown of Premises and Equipment                                                    |                                           |        
|                                                                                | Gain on Sale of Investments                                                            |                                           |        
|                                                                                | Net Gains on Sales of Other Real Estate and Other Repossessed Assets                   |                                           |        
|                                                                                | Writedown of Other Real Estate and Other Repossessed Assets                            |                                           |        
|                                                                                | Decrease in Other Assets                                                               |                                           |        
|                                                                                | Decrease in Other Liabilities                                                          |                                           |        
|                                                                                |                                                                                        |                                           |        
|                                                                                |                                                                                        | Net Cash Provided by Operating Activities |        
|                                                                                |                                                                                        |                                           |        
|Cash Flows from Investing Activities:                                           |                                                                                        |                                           |        
|                                                                                | Proceeds from Maturities of Available-for-sale Securities                              |                                           |        
|                                                                                | Proceeds from Sales of Available-for-sale Securities                                   |                                           |        
|                                                                                | Purchases of Available-for-sale Securities                                             |                                           |        
|                                                                                | Purchase of Bank Owned Life Insurance                                                  |                                           |        
|                                                                                | Net Decrease in Loans                                                                  |                                           |        
|                                                                                | Proceeds from Sales of Premises and Equipment                                          |                                           |        
|                                                                                | Sale of Branch                                                                         |                                           |        
|                                                                                | Additions to Premises and Equipment                                                    |                                           |        
|                                                                                | Proceeds from Sales of Other Real Estate and Other Repossessed Assets                  |                                           |        
|                                                                                |                                                                                        |                                           |        
|                                                                                |                                                                                        | Net Cash Provided by Investing Activities |        
|                                                                                |                                                                                        |                                           |        
|Cash Flows from Financing Activities:                                           |                                                                                        |                                           |        
|                                                                                | Decrease in Deposits                                                                   |                                           |        
|                                                                                | Increase in Federal Funds Purchased and Securities Sold under Agreements to Repurchase |                                           |        
|                                                                                | Advances from Parent Company                                                           |                                           |        
|                                                                                | Payment of Cash Dividends                                                              |                                           |        
|                                                                                |                                                                                        |                                           |        
|                                                                                |                                                                                        | Net Cash Used in Financing Activities     |        
|                                                                                |                                                                                        |                                           |        
|Net Increase (Decrease) in Cash and Cash Equivalents                            |                                                                                        |                                           | (17,044
|Cash and Cash Equivalents at Beginning of Period                                |                                                                                        |                                           | 46,590 
|                                                                                |                                                                                        |                                           |        
|Cash and Cash Equivalents at End of Period                                      |                                                                                        | $                                         | 29,546 
|                                                                                |                                                                                        |                                           |        
|Noncash Investing Activities:                                                   |                                                                                        |                                           |        
|                                                                                | Additions to Other Real Estate and Other Repossessed Assets through Foreclosures       |                                           | $      

See Accompanying Notes to Interim Consolidated Financial Statements.

4

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INDEPENDENT BANKSHARES, INC.  NOTES TO INTERIMCONSOLIDATED FINANCIAL STATEMENTS

(1) Summary of Significant Accounting Policies

For information with regard to significant accounting policies, reference is made to Notes to Consolidated Financial Statements included in the Annual Report on
Form 10-K for the year ended December 31, 2001, which was filed with the Securities and Exchange Commission pursuant to Section 13 of the Securities and Exchange Act
of 1934, as amended.

The
accompanying financial statements reflect all adjustments necessary to present a fair statement of the results for the interim periods presented, and all adjustments are of a normal
recurring nature.

(2)  Bank Mergers

On February 28, 2001, State National Bancshares, Inc. ("State National"), Independent Bankshares, Inc.'s (the "Company") sole shareholder,
contributed its ownership interest in State National Bank of West Texas, Lubbock, Texas ("the Lubbock Bank"), an indirect wholly owned subsidiary of State National, to the Company. The Company in
turn, contributed to Independent Financial Corp., a Delaware subsidiary of the Company, all of the capital stock of the Lubbock Bank. On March 9, 2001, the State National Bank of West Texas,
Abilene, Texas (the "Abilene Bank"), an indirect wholly owned subsidiary of the Company, was merged (the "Lubbock Merger") with and into the Lubbock Bank. The Lubbock Bank continued as the surviving
entity in the Lubbock Merger (the "Bank") and is an indirect wholly owned subsidiary of the Company. There was no merger consideration paid as, prior to the Lubbock Merger, the Abilene Bank and the
Lubbock Bank were both direct or indirect subsidiaries of State National. The balance sheet and results of operations of the Lubbock Bank have been included in the Company's consolidated financial
statements since August 11, 2000, the date of acquisition of the Company by State National. At August 11, 2000, the Lubbock Bank had total assets of $210,409,000, total deposits of
$190,828,000, total loans of $121,130,000 and stockholder's equity of $18,405,000. References made to the Company include all of the Company's subsidiaries unless specifically noted otherwise.

(3)  Accumulated Other Comprehensive Income

An analysis of accumulated other comprehensive income for the quarters and nine-month periods ended September 30, 2002 and 2001, is as follows:

Unrealized Gain (Loss) on Available-for-sale Securities, netQuarter Ended September 30,

Nine Month Period Ended
September 30,2002

2001

2002

2001(In thousands)Balance, beginning of period

$
3,516

$
2,722

$
3,022

$
1,618Current period change


873


0


1,367


1,104Balance, at September 30

$
4,389

$
2,722

$
4,389

$
2,722


(4)  Adoption of Accounting Standards and Goodwill Impairment

The Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 141,Business
Combinations("Statement 141"), and Financial Accounting Standards No. 142,Goodwill and Other Intangible Assets("Statement 142"). Statement 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001.

5

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Statement 141 also included guidance on the initial recognition and measurement of goodwill and other intangible assets arising from business combinations completed after June 30, 2001.
Statement 142 prohibits the amortization of goodwill and intangible assets with indefinite useful lives. Statement 142 requires that these assets be reviewed for impairment at least
annually. Intangible assets with finite lives will continue to be amortized over their estimated useful lives. Additionally, Statement 142 requires that goodwill included in the carrying value of
equity method investments no longer be amortized.

Statement
142 was effective for the Company's fiscal year beginning January 1, 2002. The implementation of Statement 142 resulted in the Company recording a one-time,
non-cash, goodwill impairment charge of $15,642,000 during the first quarter of 2002. This charge reflects the cumulative effect of adopting the accounting change in the statement of
operations, but does not affect the Company's operations and has no impact on cash flows. The application of the nonamortization provisions of Statement 142 resulted in an increase in net income
before federal income taxes and cumulative effect of a change in accounting principle of $1,297,000 for the nine month period ended September 30, 2002 and is expected to result in an increase
in net income before federal income taxes and cumulative effect of changes in accounting principle of $1,730,000 pre tax for the year ended 2002.

Intangibles
consist of the following:

|                                              |                                                    |  |    | September 30, 2002 |   | September 30, 2001
|--------------------------------------------- | -------------------------------------------------- |  | -- | ------------------ | - | ------------------
|
|Amortized Intangible                          |                                                    |  |    |                    |   |                   
|                                              | Core Deposit Intangible                            |  | 10 |                    | $ | 17,080,000        
|Intangible Assets Not Subject to Amortization |                                                    |  |    |                    |   |                   
|                                              | Goodwill                                           |  |    |                    | $ | 16,098,000        
|Aggregate Amortization Expense:               |                                                    |  |    |                    |   |                   
|                                              | For the nine month period ended September 30, 2002 |  | $  | 1,416,000          |   |                   

Aggregate
Amortization Expense is anticipated to be as follows for the year ended December 31:

2002

$
1,873,0002003


1,639,0002004


1,512,0002005


1,480,0002006


1,432,000Total

$
7,936,000


The
change in the carrying amount of goodwill for the nine month period ended September 30, 2002 is as follows:

Balance as of January 1, 2002

$
31,740,000Impairment Loss


(15,642,000
)Balance as of September 30, 2002

$
16,098,000


Substantial
loan charge offs that occurred during the year in 2001 were attributable to loans that were carried by the Company at the date of Acquisition of the Company by State
National. As a result of charged-off loans, management of the Company required that other related loans be paid off thereby generating a further reduction in loans. The significant time
devoted by management and

6

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various loan officers to identify and charge off problem loans and to facilitate the early pay offs of related loans resulted in a slowing of loan growth to new and existing customers of the Bank.
The overall reduction in fair value of the Company primarily resulting from these factors along with other factors caused an impairment of $15,642,000 to be calculated under the guidance established
by Statement 142 and recorded in the first quarter of 2002 to the goodwill associated with the Acquisition. The fair value of the Company was calculated through a combination of the market comparison,
asset value, earnings value and acquisition analysis methods by a third party.

The
following table adjusts earnings for the adoption of Statement 142.

|                           |                                                                | Quarter Ended
September 30, |                                                                   | Nine Month Period Ended
September 30, |  
|-------------------------- | -------------------------------------------------------------- | --------------------------- | ----------------------------------------------------------------- | ------------------------------------- | -
|
|Reported Net Income (Loss) |                                                                | $                           | 1,015,000                                                         |                                       | $
|                           | Add Back Goodwill Amortization                                 |                             |                                                                   | 0                                     |  
|                           |                                                                |                             |                                                                   |                                       |  
|                           |                                                                |                             |                                                                   | Adjusted Net Income (Loss)            |  
|                           | Add Back Cumulative Effect of a Change in Accounting Principle |                             |                                                                   | 0                                     |  
|                           |                                                                |                             |                                                                   |                                       |  
|                           |                                                                |                             | Adjusted Net Income (Loss) If Statements 142 had not been Adopted |                                       | $

(5)  Branch Sale

On July 1, 2002 the Bank sold its branch in Bangs, Texas to an unrelated financial institution. At July 1, 2002 the branch had total assets of
$1,609,000, total loans, net of allowance for loan loss of $1,263,000 and total deposits of $5,194,000. A loss of $21,000 was recorded related to this transaction. Net income for the period ended
June 30, 2002 for this branch was $44,000.

(6)  Subsequent Event

On October 11, 2002 the Bank sold its branch in Trent, Texas to an unrelated financial institution. On this date, the branch had total assets of
$1,582,000, total loans, net of allowance for loan loss of $1,446,000 and total deposits of $9,164,000. A loss of $13,000 was recorded related to this transaction. Net income for the period ended
September 30, 2002 for this branch was $43,000. The effect of this transaction is not reflected in the financial statements as of and for the period ended September 30, 2002.

7

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

This Quarterly Report on Form 10-Q contains certain forward-looking statements and information relating to Independent
Bankshares, Inc. (the "Company", and at or prior to the date of the Acquisition, "IBK") and its subsidiaries that are based on the beliefs of the Company's management as well as assumptions
made by and information currently available to the Company's management. When used in this report, the words "anticipate," "believe," "estimate," "expect" and "intend" and words or phrases of similar
import, as they relate to the Company or its subsidiaries or Company management, are intended to identify forward-looking statements. Such statements are intended to be covered by the
safe-harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995 and we are including this statement for purposes of invoking those
safe harbor provisions. These forward-looking statements reflect the current view of the Company with respect to future events and are subject to certain risks, uncertainties and assumptions, many of
which are beyond the Company's control, related to certain factors including, without limitation, competitive factors, general economic conditions nationally and within the State of Texas, customer
relations, the interest rate environment, governmental regulation and supervision, nonperforming asset levels, loan concentrations, changes in industry practices, acts of terrorism and war, one time
events and other factors described herein. Based upon changing conditions, should any one or more of these risks or uncertainties materialize, or should any underlying assumptions prove incorrect,
actual results may vary materially from those described herein as anticipated, believed, estimated, expected or intended. The Company does not intend to update these forward-looking
statements.

The Company

The Company is a bank holding company headquartered in Lubbock, Texas. The Company is an indirect wholly owned subsidiary of State National
Bancshares, Inc., Lubbock, Texas ("State National"). State National acquired the Company at the close of business on August 11, 2000, in an all cash transaction (the "Acquisition"). At
September 30, 2002, the Company owned all of the common securities of Independent Capital Trust ("Independent Capital") and indirectly owned through a Delaware subsidiary, Independent Financial
Corp. ("Independent Financial"), 100% of the stock of State National Bank of West Texas, Lubbock, Texas (the "Bank"). At September 30, 2002, the Company operated full-service
banking locations in the Texas cities of Abilene (four locations), Azle (two locations), Big Spring, Lubbock (three locations), Odessa (two locations), Plainview, San Angelo, Stamford, Trent and
Winters. On October 11, 2002, the Company sold its branch in Trent, Texas to an unrelated financial institution. The Company has sold some of its smaller branches in an effort to streamline its
services and concentrate on the larger market areas.

General

The following discussion and analysis presents the more significant factors affecting the Company's results of operations for each of the quarters and
nine-month periods ended September 30, 2002 and 2001, and the financial condition at September 30, 2002, and December 31, 2001. This discussion and analysis should be
read in conjunction with the Consolidated Financial Statements, notes thereto and other financial information appearing elsewhere in this quarterly report.

Analysis of Results of Operations

Net Income (Loss)

Net income for the quarter ended September 30, 2002 amounted to $1,015,000 compared to net loss of $556,000 for the quarter ended September 30,
2001. Net income before cumulative effect of a change in accounting principle for the nine month period ended September 30, 2002 was $3,148,000 compared to net loss before cumulative effect of
a change in accounting principle of $3,805,000 for the nine month period ended September 30, 2001. The increase in net income between the quarter ended

8

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September 30, 2002 compared to the quarter ended September 30, 2001 as well as the increase in net income before cumulative effect of a change in accounting principle for the nine month
period ended September 30, 2002 compared to the nine month period ended September 30, 2001 was primarily due to the reduction of the provision for loan loss recorded in the nine month
period ended September 30, 2002 as compared to the loan loss provision recorded for the same periods in 2001 and the discontinuation of goodwill amortization beginning January 1, 2002
due to the adoption of Statement 142. Giving effect to the cumulative effect of a change in accounting principle, net loss for the nine month period ended September 30, 2002, was $12,494,000
compared to net loss of $3,805,000 for the nine month period ended September 30, 2001. The loss in the nine month period ended September 30, 2002 was due to a $15,642,000 impairment
recorded in the first quarter of 2002 as a cumulative effect of a change in accounting principle, related to the adoption of Statement of Accounting Standards, No. 142 "Goodwill and Other
Intangible Assets" ("FAS 142").

Net Interest Income

Net interest income represents the amount by which interest income on interest-earning assets, including loans and securities exceeds interest paid on
interest-bearing liabilities, including deposits and other borrowed funds. Net interest income is the principal source of the Company's earnings. Interest
rate fluctuations, as well as changes in the amount and type of interest-earning assets and interest-bearing liabilities, combine to affect net interest income.

Net
interest income amounted to $5,762,000 for the third quarter of 2002, an increase of $282,000, or 5.15%, when compared to the second quarter of 2001. Net interest income for the
third quarter of 2001 was $5,480,000. Net interest income for the first nine months of 2002 was $17,161,000, an increase of $782,000, or 4.77%, when compared to net interest income of $16,379,000 for
the first nine months of 2001. Net interest margin on a fully taxable-equivalent basis increased from 3.89% for the third quarter of 2001 to 4.66% for the third quarter of 2002, as well as from 3.80%
for the first nine months of 2001 to 4.51% for the first nine months of 2002. The decreases in the prime interest rate during 2001 began in January 2001. During the quarter and the nine month
period ended September 30, 2001, in which the prime interest rate decreased from 6.75% to 6.00% and from 9.5% to 6.00%, respectively, interest earning assets were repricing faster than interest
bearing liabilities, thereby pulling the net interest margin at September 30, 2001 down. During the nine month period ended September 30, 2002, there have been no reductions in the prime
interest rate. This allowed the repricing lag effect of interest bearing liabilities to be reduced and creates an upward trend in the net interest margin from September 30, 2001 to
September 30, 2002.

At
September 30, 2002, approximately $141,159,000, or 49.20%, of the Company's total loans, net of unearned income, were loans with floating interest rates. During 2001, loans
with floating interest rates had been subjected to rapidly declining interest rates. In addition, total loans, net of unearned income, decreased $30,753,000 since September 30, 2001. The
declining interest rates were the primary cause of the decrease in loan yields from 8.56% at September 30, 2001 to 7.21% at September 30, 2002.

Security
yields decreased from 6.53% at September 30, 2001 to 5.33% at September 30, 2002. This decrease was primarily caused by declines in yields in the bond market on
new purchases between the periods ended September 30, 2001 and September 30, 2002.

These
net changes caused the Company's overall yield on interest earning assets to decrease from 7.01% for the quarter ended September 30, 2001 to 6.18% for the quarter ended
September 30 2002, and to decrease from 7.42% to 6.21% for the nine month period ended September 30, 2001 and 2002, respectively.

Average
overall rates paid for various types of certificates of deposit decreased when comparing the first nine months of 2001 to the first nine months of 2002. For example, the average
rate paid for

9

---

certificates of deposit less than $100,000 decreased from 5.56% for the first nine months of 2001 to 3.10% for the first nine months of 2002, while the average rate paid by the Company for
certificates of deposit of $100,000 or more also decreased from 5.89% during the first nine months of 2001 to 3.35% during the first nine months of 2002.

Rates
on other types of deposits, such as interest-bearing demand, savings and money market deposits, also decreased from an average of 2.10% during the nine month period ended
September 30, 2001 to an average of 0.86% during the first nine months of 2002. These decreases were primarily caused by the rapidly declining interest rate environment, which existed during
the time period from September 30, 2001 to September 30, 2002. These changes caused the Company's overall cost of interest-bearing deposits to decrease from 4.31% for the first nine
months of 2001 to 2.12% for the first nine months of 2002.

The
following table presents the average balance sheets of the Company for the quarters and nine month periods ended September 30, 2002 and 2001, and indicates the interest earned
or paid on the major categories of interest-earning assets and interest-bearing liabilities on a fully taxable-equivalent basis and the average rates earned or paid on each major category. This
analysis details the

10

---

contribution of interest-earning assets and the impact of the cost of funds on overall net interest income.

|                                                                                   |                                                                            | Quarter Ended September 30,           |                                           
|---------------------------------------------------------------------------------- | -------------------------------------------------------------------------- | ------------------------------------- | ------------------------------------------
|
|
|
|ASSETS                                                                             |                                                                            |                                       |                                           
|Interest-earning assets:                                                           |                                                                            |                                       |                                           
|                                                                                   | Loans, net of unearned income(1)                                           |                                       | $                                         
|                                                                                   | Securities(2)                                                              |                                       |                                           
|                                                                                   | Interest-earning time deposits in other banks                              |                                       |                                           
|                                                                                   | Federal funds sold                                                         |                                       |                                           
|                                                                                   |                                                                            |                                       |                                           
|                                                                                   |                                                                            | Total interest-earning assets         |                                           
|                                                                                   |                                                                            |                                       |                                           
|Noninterest-earning assets:                                                        |                                                                            |                                       |                                           
|                                                                                   | Cash and due from banks                                                    |                                       |                                           
|                                                                                   | Intangible assets                                                          |                                       |                                           
|                                                                                   | Premises and equipment                                                     |                                       |                                           
|                                                                                   | Accrued interest receivable and other assets                               |                                       |                                           
|                                                                                   | Allowance for possible loan losses                                         |                                       |                                           
|                                                                                   |                                                                            |                                       |                                           
|                                                                                   |                                                                            | Total noninterest-earning assets      |                                           
|                                                                                   |                                                                            |                                       |                                           
|                                                                                   |                                                                            |                                       | Total assets                              
|                                                                                   |                                                                            |                                       |                                           
|LIABILITIES AND STOCKHOLDER'S EQUITY                                               |                                                                            |                                       |                                           
|Interest-bearing liabilities:                                                      |                                                                            |                                       |                                           
|                                                                                   | Interest-bearing, savings and money market deposits                        |                                       | $                                         
|                                                                                   | Time deposits                                                              |                                       |                                           
|                                                                                   | Federal funds purchased and securities sold under agreements to repurchase |                                       |                                           
|                                                                                   |                                                                            |                                       |                                           
|                                                                                   |                                                                            |                                       | Total interest-bearing liabilities        
|                                                                                   |                                                                            |                                       |                                           
|Noninterest-bearing liabilities:                                                   |                                                                            |                                       |                                           
|                                                                                   | Demand deposits                                                            |                                       |                                           
|                                                                                   | Accrued interest payable and other liabilities                             |                                       |                                           
|                                                                                   |                                                                            |                                       |                                           
|                                                                                   |                                                                            | Total noninterest-bearing liabilities |                                           
|                                                                                   |                                                                            |                                       |                                           
|                                                                                   |                                                                            |                                       | Total liabilities                         
|Guaranteed preferred beneficial interests in the Company's subordinated debentures |                                                                            |                                       | 10,928                                    
|Stockholder's equity                                                               |                                                                            |                                       | 63,208                                    
|                                                                                   |                                                                            |                                       |                                           
|                                                                                   |                                                                            |                                       | Total liabilities and stockholder's equity
|                                                                                   |                                                                            |                                       |                                           
|Tax-equivalent net interest income                                                 |                                                                            |                                       |                                           
|                                                                                   |                                                                            |                                       |                                           
|Interest rate spread(3)                                                            |                                                                            |                                       |                                           
|                                                                                   |                                                                            |                                       |                                           
|Net interest margin(4)                                                             |                                                                            |                                       |                                           
|                                                                                   |                                                                            |                                       |                                           

---

11

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|                                                                                   |                                                                            | Nine Month Period Ended September 30, |                                      
|---------------------------------------------------------------------------------- | -------------------------------------------------------------------------- | ------------------------------------- | -------------------------------------
|
|
|
|ASSETS                                                                             |                                                                            |                                       |                                      
|Interest-earning assets:                                                           |                                                                            |                                       |                                      
|                                                                                   | Loans, net of unearned income(1)                                           |                                       | $                                    
|                                                                                   | Securities(2)                                                              |                                       |                                      
|                                                                                   | Interest-earning time deposits in other banks                              |                                       |                                      
|                                                                                   | Federal funds sold                                                         |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|                                                                                   |                                                                            | Total interest-earning assets         |                                      
|                                                                                   |                                                                            |                                       |                                      
|Noninterest-earning assets:                                                        |                                                                            |                                       |                                      
|                                                                                   | Cash and due from banks                                                    |                                       |                                      
|                                                                                   | Intangible assets                                                          |                                       |                                      
|                                                                                   | Premises and equipment                                                     |                                       |                                      
|                                                                                   | Accrued interest receivable and other assets                               |                                       |                                      
|                                                                                   | Allowance for possible loan losses                                         |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|                                                                                   |                                                                            | Total noninterest-earning assets      |                                      
|                                                                                   |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       | Total assets                         
|                                                                                   |                                                                            |                                       |                                      
|LIABILITIES AND STOCKHOLDER'S EQUITY                                               |                                                                            |                                       |                                      
|Interest-bearing liabilities:                                                      |                                                                            |                                       |                                      
|                                                                                   | Interest-bearing, savings and money market deposits                        |                                       | $                                    
|                                                                                   | Time deposits                                                              |                                       |                                      
|                                                                                   | Federal funds purchased and securities sold under agreements to repurchase |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       | Total interest-bearing liabilities   
|                                                                                   |                                                                            |                                       |                                      
|Noninterest-bearing liabilities:                                                   |                                                                            |                                       |                                      
|                                                                                   | Demand deposits                                                            |                                       |                                      
|                                                                                   | Accrued interest payable and other liabilities                             |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       | Total noninterest-bearing liabilities
|                                                                                   |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|Guaranteed preferred beneficial interests in the Company's subordinated debentures |                                                                            |                                       | 10,924                               
|Stockholder's equity                                                               |                                                                            |                                       | 66,876                               
|                                                                                   |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|Tax-equivalent net interest income                                                 |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|Interest rate spread(3)                                                            |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      
|Net interest margin(4)                                                             |                                                                            |                                       |                                      
|                                                                                   |                                                                            |                                       |                                      

---

12

---

The following table presents the changes in the components of net interest income and identifies the part of each change due to differences in the
average volume of interest-earning assets and interest-bearing liabilities and the part of each change due to the average rate on those assets and liabilities. The changes in interest due to both rate
and volume in the table have been allocated to volume or rate change in proportion to the absolute amounts of the change in each.

|                                           |                                               | Quarter Ended
September 30, 2002 vs. 2001                                  |                        | Nine Month Period Ended
September 30, 2002 vs. 2001 |     
|------------------------------------------ | --------------------------------------------- | -------------------------------------------------------------------------- | ---------------------- | --------------------------------------------------- | ----
|
|
|
|Interest-earning assets:                   |                                               |                                                                            |                        |                                                     |     
|                                           | Loans, net of unearned income(1)              |                                                                            | $                      | (650                                                | )   
|                                           | Securities(2)                                 |                                                                            |                        | 212                                                 |     
|                                           | Interest-earning time deposits in other banks |                                                                            |                        | 42                                                  |     
|                                           | Federal funds sold                            |                                                                            |                        | (503                                                | )   
|                                           |                                               |                                                                            |                        |                                                     |     
|                                           |                                               | Total interest income                                                      |                        |                                                     | (899
|                                           |                                               |                                                                            |                        |                                                     |     
|Interest-bearing liabilities:              |                                               |                                                                            |                        |                                                     |     
|                                           | Deposits:                                     |                                                                            |                        |                                                     |     
|                                           |                                               | Savings and money market deposits                                          |                        |                                                     | (30 
|                                           |                                               | Time deposits                                                              |                        |                                                     | (981
|                                           |                                               | Federal funds purchased and securities sold under agreements to repurchase |                        |                                                     | 0   
|                                           |                                               |                                                                            |                        |                                                     |     
|                                           |                                               |                                                                            | Total interest expense |                                                     |     
|                                           |                                               |                                                                            |                        |                                                     |     
|Increase (decrease) in net interest income |                                               | $                                                                          | 112                    |                                                     | $   
|                                           |                                               |                                                                            |                        |                                                     |     

---

Provision for Loan Losses

The amount of the provision for loan losses is based on periodic (not less than quarterly) evaluations of the loan portfolio, especially nonperforming and other
potential problem loans. During these evaluations, consideration is given to such factors as: management's evaluation of specific loans; the level and composition of nonperforming loans; historical
loss experience; results of examinations by regulatory agencies; an internal asset review process conducted by the Company; expectations of economic conditions and their impact on particular
industries and individual borrowers; the market value of collateral; the strength of available guarantees; concentrations of credits; and other judgmental factors. The provisions for loan losses made
for the quarter and nine month period ended September 30, 2002, were $78,000 and a reversal of $77,000, respectively, compared to provisions of $1,000,000 and $5,565,000 for the quarter and
nine-month period ended September 30, 2001, respectively. These represent decreases of $922,000, and $5,642,000, respectively, over the comparative period. The substantially larger
provisions in quarter and nine month periods ended September 30, 2001 were due to the deterioration, discovered in 2001 of the Company's collateral position on two particular large borrowing
relationships, which relationships existed at the date of the Acquisition of the Company by State National. The reversals in the provision for the nine month period ended September 30, 2002
were primarily due to recoveries received during 2002.

13

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Noninterest Income

Total noninterest income increased $302,000, or 23.6%, from $1,282,000 during the third quarter of 2001 to $1,584,000 during the third quarter of 2002. Total
noninterest income also increased $781,000, or 20.0%, from $3,911,000 for the first nine months of 2001 to $4,692,000 for the first nine months of 2002.

Service
charges on deposit accounts and on other types of services are the major source of noninterest income to the Company. This source of income increased $130,000, or 16.1%, from
$810,000 during the third quarter of 2001 to $940,000 during the third quarter of 2002, and increased $363,000, or 14.3%, from $2,544,000 for the first nine months of 2001 to $2,907,000 for the first
nine months of 2002. The increase in service charges on deposit accounts was primarily due to management emphasis placed on full collection of returned check fees in 2002.

Trust
fees from the operation of the trust department of the Company increased $4,000, or 3.5%, from $113,000 during the third quarter of 2001 to $117,000 during the same period in 2002,
and decreased $12,000, or 3.3%, from $381,000 for the first nine months of 2001 to $369,000 for the first nine months of 2002. The overall decrease was primarily the result of
non-recurring income recorded in the first quarter of 2001.

Other
income is the sum of several components of noninterest income including other customer service fees, brokerage service fees, credit and debit card income, safe deposit box rental
income, Bank Owned Life Insurance ("BOLI") income, mortgage origination fees and other sources of miscellaneous income. Other income increased $168,000, or 46.8%, from $359,000 during the second
quarter of 2001 to $527,000 during the third quarter of 2002, and increased $430,000, or 43.6%, from $986,000 for the first nine months of 2001 to $1,416,000 for the corresponding period in 2002. The
increase in 2002 is primarily due to income generated from the BOLI, which was purchased in March 2001. The period ended September 30, 2001 includes seven months of income and the period
ended September 30, 2002 includes nine months of income. The increase in 2002 is also due to an increase in mortgage origination fees. The Company had limited involvement in this market in
early 2001 and, beginning in late 2001, began to increase the level of participation in this market.

Noninterest Expenses

Total noninterest expenses decreased $507,000, or 7.8%, from $6,496,000 during the third quarter of 2001 to $5,989,000 during the third quarter of 2002, and
decreased $2,603,000, or 13.0%, from $20,083,000 during the first nine months of 2001 to $17,480,000 during the first nine months of 2002.

Salaries
and employee benefits, the largest single component of noninterest expense, increased $143,000, or 5.5%, from $2,620,000 for the third quarter of 2001 to $2,763,000 for the
corresponding period of 2002, and decreased $380,000, or 4.7%, from $8,175,000 for the nine month period ended September 30, 2001, to $7,795,000 for the corresponding period of 2002. The
increase from quarter to quarter was primarily a result of employee raises which went into effect beginning July 1, 2002. The overall decrease between the nine month periods ended
September 30, 2002 was primarily a result of efficiencies created after the completion of the Acquisition of the Company by State National and the Lubbock Merger.

Amortization
of intangible assets decreased $552,000, or 53.9%, from $1,024,000 during the third quarter of 2001 to $472,000 during the third quarter of 2002, and decreased $1,652,000,
or 53.9%, from $3,068,000 for the first nine months of 2001 to $1,416,000 for the first nine months of 2002. The majority of the decrease is due to the adoption of FAS 142. This statement of
accounting standard requires that goodwill no longer be amortized beginning January 1, 2002. The balance of intangible amortization expense at September 30, 2001 included $1,371,000 of
amortization related to goodwill. The remainder of the decrease is due to the overall decrease in core deposit intangible amortization

14

---

expense. As core deposit intangibles are amortized using an accelerated method, the amortization expense will decrease each year over the first half of the life of the core deposit intangible
balances.

Net
occupancy expense increased $22,000, or 2.3%, from $960,000 for the third quarter of 2001 to $982,000 for the same period in 2002, and increased $52,000, or 1.9%, from $2,812,000 for
the first nine months of 2001 to $2,864,000 for the first nine months of 2002. The increase in net occupancy
expense is primarily due to the costs associated with the removal of old documents and data. Document retention policies were reviewed and it was determined that older documents and data which were no
longer required to be retained, were able to be destroyed and removed. Several storage facilities, which held some of these very old records, were cleaned out and many of the old documents were
eliminated or moved to different storage facilities. The increase in expense is also related to clean up costs associated with an event of flooding that occurred at one of the Abilene branches. These
increases were partially offset by decreases in furniture and equipment depreciation.

Professional
fees, which include legal, accounting and other professional fees, increased $54,000, or 45.0%, from $120,000 during the third quarter of 2001 to $174,000 during the third
quarter of 2002. The increase is due primarily to collection efforts occurring during the third quarter of 2002 as well as legal expenses related to the sale of the branches. These expenses also
decreased $145,000, or 21.6%, from $672,000 during the first nine months of 2001 to $527,000 for the corresponding period of 2002, due primarily to nonrecurring accounting fees in the first quarter of
2001 associated with various regulatory filings that were required as a result of the Lubbock Merger.

Distributions
on guaranteed preferred beneficial interests in the Company's subordinated debentures totaled $280,000 for the third quarter of 2001 and 2002, and totaled $839,000 for the
first nine month of 2001 and $840,000 for the first nine months of 2002.

Communication
expense decreased $42,000, or 17.4%, from $242,000 in the third quarter of 2001 to $200,000 in the third quarter of 2002, and decreased $79,000, or 11.5%, from $685,000 in
the first nine months of 2001 to $606,000 for the corresponding period of 2002. The decrease is primarily due to efficiencies created over time, after the completion of the Lubbock Merger and the
Acquisition of the Company by State National.

Data
processing expense decreased $52,000, or 33.3%, from $156,000 in the third quarter of 2001 to $104,000 in the third quarter of 2002, and decreased $94,000, or 19.1%, from $493,000
in the first nine months of 2001 to $399,000 for the corresponding period of 2002. The decrease is primarily due to efficiencies created over time, after the completion of the Lubbock Merger and the
Acquisition of the Company by State National.

Net
costs applicable to other real estate and other repossessed assets consist of expenses associated with holding and maintaining repossessed assets, the net gain or loss on the sales
of such assets, the write-down of the carrying value of the assets and any rental income that is credited as a reduction in expense. The Company recorded net costs of $12,000 in the third
quarter of 2002 as compared to net costs of $56,000 in the third quarter of 2001 and recorded net costs of $10,000 for the first nine months of 2002 as compared to net costs of $44,000 for the same
period in 2001. The decrease in net costs recorded during the nine months ended September 30, 2002 was related to the sale of other repossessed assets which were acquired many years ago, before
the Acquisition of the Company by State National. These assets had been written off before the Acquisition due to the length of time the assets were on the books, so the entire sale was recorded as a
gain.

Merger-related
expenses decreased from $51,000 in the first nine months of 2001 to $0 in the same period in 2002. The merger related expenses recorded in 2001 were related to the Lubbock
Merger.

Other
noninterest expense includes, among many other items, stationary, printing and supplies expense, advertising and business development expense, postage, loan and collection
expenses, armored car and courier fees, travel, insurance, ATM transaction expenses, regulatory examinations, franchise

15

---

taxes, dues and subscriptions, Federal Deposit Insurance Corporation ("FDIC") insurance expense and directors' fees. These expenses decreased $36,000, or 3.5%, from $1,038,000 during the third
quarter of 2001 to $1,002,000 during the third quarter of 2002, and decreased $221,000, or 6.8%, from $3,244,000 for the first nine months of 2001 to $3,023,000 for the first nine months of 2002. The
decrease in other expenses is primarily due to efficiencies created over time, after the completion of the Lubbock Merger and the Acquisition of the Company by State National.

Federal Income Taxes

The Company recorded a federal income tax benefit of $178,000 in the third quarter of 2001 compared to $264,000 in federal income tax expense in the third quarter
of 2002, and recorded a federal income tax benefit of $1,553,000 in the first nine months of 2001 as compared to $1,302,000 in federal income tax expense in the same period for 2002. The benefit
recorded during the first nine months of 2001 was due to the increased provision for loan losses, causing a loss for the period.

Impact of Inflation

The effects of inflation on the local economy and on the Company's operating results have been relatively modest during the past several years. Because
substantially all of the Company's assets and liabilities are monetary in nature, such as cash, securities, loans and deposits, their values are less sensitive to the effects of inflation than to
changing interest rates, which do not necessarily change in accordance with inflation rates. The Company tries to control the impact of interest rate fluctuations by managing the relationship between
its interest rate-sensitive assets and liabilities. See "Analysis of Financial ConditionInterest Rate Sensitivity" herein.

16

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Analysis of Financial Condition

Assets

Total assets decreased $75,271,000, or 11.8%, from $637,383,000 at December 31, 2001, to $562,112,000 at September 30, 2002. This decrease is
primarily due to a decrease in deposits resulting from conservative deposit pricing and an overall decline in deposit rates.

Cash, Due From Banks and Interest-earning Time Deposits

The amount of total cash, due from banks and interest-earning time deposits decreased $15,829,000, or 43.89%, from $36,062,000 at December 31, 2001, to
$20,233,000 at September 30, 2002. The decrease during the period is due primarily to a decrease in the balance required to be maintained with the Federal Reserve Bank. After an
in-depth analysis performed by a third party, the Company was able to restructure many of its transaction accounts to reduce the overall required reserves, thereby decreasing the balance
required to be kept with the Federal Reserve Bank. The decrease is also due to improved management of currency on hand.

Federal Funds Sold

Federal funds sold decreased $1,215,000, or 11.54%, from $10,528,000 at December 31, 2001, to $9,313,000 at September 30, 2002. The decrease is
primarily due to shrinkage of the deposit balance.

Securities

Securities decreased $24,282,000, or 11.2%, from $216,112,000 at December 31, 2001, to $191,830,000 at September 30, 2002, due primarily to
shrinkage of the deposit balance.

The
Board of Directors of the Company reviews all securities transactions monthly and the securities portfolio periodically. The Company's current investment policy provides for the
purchase of U.S. Treasury securities, U.S. government agency securities, mortgage-backed securities having average maturities of twelve years or less and for the purchase of state, county and
municipal agencies' securities with maximum maturities of 10 years. The Company's policy is to maintain a securities portfolio with staggered maturities to meet its overall liquidity needs.
Municipal securities must be rated A or better. Certain school district issues, however, are acceptable with a Baa rating. All securities totaling $191,830,000 are classified as
available-for-sale and are carried at fair value at September 30, 2002. The decision to sell securities classified as available-for-sale is based
upon management's assessment of changes in economic or financial market conditions.

Certain
of the Company's securities are pledged to secure public and trust fund deposits and for other purposes required or permitted by law. At September 30, 2002, the book value
of U.S. Treasury and other U.S. Government agency securities so pledged amounted to $37,427,000, or 19.5% of the total securities portfolio.

17

---

The
following table summarizes the amounts and the distribution of the Company's securities held at the dates indicated.

|                                   |                                                                                       | September 30, 2002 |         | December 31, 2001 |      
|---------------------------------- | ------------------------------------------------------------------------------------- | ------------------ | ------- | ----------------- | -----
|
|
|Carrying value:                    |                                                                                       |                    |         |                   |      
|                                   | U.S. Treasury securities and obligations of U.S. Government agencies and corporations |                    | $       | 132,232           |      
|                                   | Mortgage-backed securities and collateralized mortgage obligations                    |                    |         | 52,128            |      
|                                   | Obligations of states and political subdivisions                                      |                    |         | 3,603             |      
|                                   | Other securities                                                                      |                    |         | 3,867             |      
|                                   |                                                                                       |                    |         |                   |      
|Total carrying value of securities |                                                                                       | $                  | 191,830 |                   | 100.0
|                                   |                                                                                       |                    |         |                   |      
|Total fair value of securities     |                                                                                       | $                  | 191,830 |                   |      
|                                   |                                                                                       |                    |         |                   |      

The
following table provides the maturity distribution and weighted average interest rates of the Company's total securities portfolio at September 30, 2002. The yield has been
computed by relating the forward income stream on the securities, plus or minus the anticipated amortization of premiums or accretion of discounts, to the carrying value of the securities. The book
value of previous securities classified as held-to-maturity was their cost, adjusted for previous amortization or accretion. The

18

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restatement of the yields on tax-exempt securities to a fully taxable-equivalent basis has been computed assuming a tax rate of 34%.

|Type and Maturity Grouping at September 30, 2002                                       |                                 | Principal
Amount                                                                            |                  | Carrying
Value |         | Estimated
Fair Value |         | Weighted
Average
Yield |        
|-------------------------------------------------------------------------------------- | ------------------------------- | ------------------------------------------------------------------------------------------- | ---------------- | -------------- | ------- | -------------------- | ------- | ---------------------- | -------
|
|U.S. Treasury securities and obligations of U.S. Government agencies and corporations: |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|                                                                                       | Within one year                 |                                                                                             | $                | 23,692         |         | $                    | 24,124  |                        | $      
|                                                                                       | After one but within five years |                                                                                             |                  | 98,786         |         |                      | 103,057 |                        |        
|                                                                                       | After five but within ten years |                                                                                             |                  | 4,317          |         |                      | 5,051   |                        |        
|                                                                                       |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|                                                                                       |                                 | Total U.S. Treasury securities and obligations of U.S. Government agencies and corporations |                  |                | 126,795 |                      |         | 132,232                |        
|                                                                                       |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|Mortgage-backed securities and collateralized mortgage obligations                     |                                 |                                                                                             | 51,069           |                |         | 52,128               |         |                        | 52,128 
|                                                                                       |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|Obligations of states and political subdivisions:                                      |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|                                                                                       | Within one year                 |                                                                                             |                  | 441            |         |                      | 447     |                        |        
|                                                                                       | After one but within five years |                                                                                             |                  | 2,280          |         |                      | 2,370   |                        |        
|                                                                                       | After five but within ten years |                                                                                             |                  | 610            |         |                      | 653     |                        |        
|                                                                                       | After ten years                 |                                                                                             |                  | 120            |         |                      | 133     |                        |        
|                                                                                       |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|                                                                                       |                                 | Total obligations of states and political subdivisions                                      |                  |                | 3,451   |                      |         | 3,603                  |        
|                                                                                       |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|Other securities:                                                                      |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|                                                                                       | Within one year                 |                                                                                             |                  | 0              |         |                      | 0       |                        |        
|                                                                                       | After one but within five years |                                                                                             |                  | 0              |         |                      | 0       |                        |        
|                                                                                       | After five but within ten years |                                                                                             |                  | 0              |         |                      | 0       |                        |        
|                                                                                       | After ten years                 |                                                                                             |                  | 3,867          |         |                      | 3,867   |                        |        
|                                                                                       |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|                                                                                       |                                 | Total other securities                                                                      |                  |                | 3,867   |                      |         | 3,867                  |        
|                                                                                       |                                 |                                                                                             |                  |                |         |                      |         |                        |        
|                                                                                       |                                 |                                                                                             | Total securities |                | $       | 185,182              |         | $                      | 191,830
|                                                                                       |                                 |                                                                                             |                  |                |         |                      |         |                        |        

Loan Portfolio

Total loans, net of unearned income, decreased $17,310,000, or 5.7%, from $304,246,000 at December 31, 2001, to $286,936,000 at September 30, 2002.
The decrease during the first nine months of 2002 was primarily a result of the pay down of loans with fewer renewals occurring due to current economic conditions.

The
Company primarily makes installment loans to individuals and commercial and real estate loans to small to medium-sized businesses and professionals. The Company offers a variety of
commercial lending products, including revolving lines of credit, letters of credit, working capital loans and loans to finance accounts receivable, inventory and equipment and various types of
agriculture loans. Typically, the Company's commercial loans have floating rates of interest, are for varying terms (generally not exceeding five years), are personally guaranteed by the borrower and
are collateralized by accounts receivable, inventory or other business assets.

19

---

The
following table presents the Company's loan balances at the dates indicated separated by loan types.

September 30,
2002

December 31,
2001(In thousands)Real estate loans

$
137,692

$
135,544Commercial loans


85,536


98,129Loans to individuals


27,112


37,873Agriculture and other loans


36,603


32,724Total loans


286,943


304,270Less unearned income


7


24Loans, net of unearned income

$
286,936

$
304,246


Loan
concentrations are considered to exist when there are amounts loaned to a multiple number of borrowers engaged in similar activities that would cause them to be similarly impacted
by economic or other conditions. The Company had no concentrations of loans at September 30, 2002, except for those described above and a geographic concentration of loans in West and North
Texas. The Bank had no loans outstanding to foreign countries or borrowers headquartered in foreign countries at September 30, 2002.

Management
of the Company may renew loans at maturity when requested by a customer whose financial strength appears to support such renewal or when such renewal appears to be in the
Company's best interest. The Company requires payment of accrued interest in such instances and may adjust the rate of interest, require a principal reduction or modify other terms of the loan at the
time of renewal.

The
following table presents the distribution of the maturity of the Company's loans and the interest rate sensitivity of those loans, excluding loans to individuals, at
September 30, 2002. The table also presents the portion of loans that have fixed interest rates or interest rates that fluctuate over the life of the loans in accordance with changes in the
money market environment as represented by the prime rate.

One Year
and Less

One to
Five Years

Over Five
Years

Total
Carrying
Value(In thousands)Real estate loans

$
66,144

$
62,113

$
9,435

$
137,692Commercial loans


72,134


12,362


1,040


85,536Agriculture and other loans


34,406


1,993


204


36,603Total loans

$
172,684

$
76,468

$
10,679

$
259,831With fixed interest rates

$
43,053

$
67,607

$
8,012

$
118,672With variable interest rates


129,631


8,861


2,667


141,159Total loans

$
172,684

$
76,468

$
10,679

$
259,831


Allowance for Loan Losses

Implicit in the Company's lending activities is the fact that loan losses will be experienced and that the risk of loss will vary with the type of loan being made
and the creditworthiness of the borrower over the term of the loan. To reflect the currently perceived risk of loss associated with the Company's loan portfolio, additions are made to the Company's
allowance for loan losses (the "allowance"). The

20

---

allowance is created by direct charges against income (the "provision" for loan losses), and the allowance is available to absorb probable loan losses. See "Analysis of Results of
OperationsProvision for Loan Losses" above.

The
allowance is reduced by loan charge-offs, increased by recoveries of loans previously charged off and increased or decreased by the loan loss provision to arrive at a
balance determined by management to be appropriate. The Company's allowance was $6,929,000, or 2.4% of loans, net of unearned income, at September 30, 2002, compared to $6,525,000, or 2.2% of
loans, net of unearned income, at December 31, 2001.

Credit
and loan decisions are made by management and the Board of Directors of the Company in conformity with loan policies established by the Board of Directors of the Company. The
Company's practice is to charge off any loan or portion of a loan when it is determined by management to be uncollectible due to the borrower's failure to meet repayment terms, the borrower's
deteriorating or deteriorated financial condition, the depreciation of the underlying collateral, the loan's classification as a loss by regulatory examiners or for other reasons. The Company charged
off $182,000 and $850,000 in loans during the third quarter and first nine months of 2002, respectively. Recoveries during the third quarter and first nine months of 2002 were $127,000 and $1,331,000,
respectively.

21

---

The
following table presents the provisions for loan losses, loans charged off and recoveries on loans previously charged off, the amount of the allowance, the average loans outstanding
and certain pertinent ratios for the quarters and nine-month periods ended September 30, 2002 and 2001.

|                                                                                                             |                             | Quarter Ended September 30, |                                   | Nine Month Period Ended
September 30, |    
|------------------------------------------------------------------------------------------------------------ | --------------------------- | --------------------------- | --------------------------------- | ------------------------------------- | ---
|
|
|Analysis of allowance for loan losses:                                                                       |                             |                             |                                   |                                       |    
|Balance, beginning of period                                                                                 |                             | $                           | 6,906                             |                                       | $  
|                                                                                                             | Provision for loan losses   |                             |                                   | 78                                    |    
|                                                                                                             |                             |                             |                                   |                                       |    
|                                                                                                             |                             |                             | 6,984                             |                                       |    
|                                                                                                             |                             |                             |                                   |                                       |    
|Loans charged off:                                                                                           |                             |                             |                                   |                                       |    
|                                                                                                             | Real estate loans           |                             |                                   | 22                                    |    
|                                                                                                             | Commercial loans            |                             |                                   | 37                                    |    
|                                                                                                             | Loans to individuals        |                             |                                   | 123                                   |    
|                                                                                                             | Agriculture other loans     |                             |                                   | 0                                     |    
|                                                                                                             |                             |                             |                                   |                                       |    
|                                                                                                             |                             | Total charge-offs           |                                   |                                       | 182
|                                                                                                             |                             |                             |                                   |                                       |    
|Recoveries of loans previously charged off:                                                                  |                             |                             |                                   |                                       |    
|                                                                                                             | Real estate loans           |                             |                                   | 0                                     |    
|                                                                                                             | Commercial loans            |                             |                                   | 76                                    |    
|                                                                                                             | Loans to individuals        |                             |                                   | 22                                    |    
|                                                                                                             | Agriculture and other loans |                             |                                   | 29                                    |    
|                                                                                                             |                             |                             |                                   |                                       |    
|                                                                                                             |                             | Total recoveries            |                                   |                                       | 127
|                                                                                                             |                             |                             |                                   |                                       |    
|                                                                                                             |                             |                             | Net loans charged off (recovered) |                                       |    
|                                                                                                             |                             |                             |                                   |                                       |    
|Balance, at September 30                                                                                     |                             | $                           | 6,929                             |                                       | $  
|                                                                                                             |                             |                             |                                   |                                       |    
|Average loans outstanding, net of unearned income                                                            |                             | $                           | 282,552                           |                                       | $  
|                                                                                                             |                             |                             |                                   |                                       |    
|Ratio of nonperforming loans to total loans, net of unearned income, at end of period                        |                             |                             | 2.92                              | %                                     |    
|                                                                                                             |                             |                             |                                   |                                       |    
|Ratio of net loan charge-offs (recoveries) to average loans outstanding, net of unearned income (annualized) |                             |                             | 0.02                              | %                                     |    
|                                                                                                             |                             |                             |                                   |                                       |    
|Ratio of allowance for loan losses to nonperforming loans, at end of period                                  |                             |                             | 82.61                             | %                                     |    
|                                                                                                             |                             |                             |                                   |                                       |    
|Ratio of allowance for loan losses to total loans, net of unearned income, at end of period                  |                             |                             | 2.41                              | %                                     |    
|                                                                                                             |                             |                             |                                   |                                       |    

The
increase in the balance of the allowance from September 30, 2001 to September 30, 2002, is primarily due to the recording of $1,331,000 in recoveries. The majority of
the recovery during the first nine months of 2002 was related to a substantial loan charge off of a particular large relationship, which occurred in the second quarter of 2001. Settlement of
negotiations with borrowers occurred in the first quarter of 2002 and a portion of the loan balance, which was previously charged off, was recovered.

The
amount of the allowance is established by management, based upon estimated risks inherent in the existing loan portfolio. The allowance is comprised of three components: specific
reserves on identified problem loans, historical loss percentages applied to pools of loans with similar

22

---

characteristics, and an unallocated portion. Management reviews the loan portfolio on a periodic basis to evaluate potential problem loans. This review encompasses management's estimate of current
economic conditions and the potential impact on various industries, prior loan loss experience and the financial conditions of individual borrowers. Loans that have been specifically identified as
problem or nonperforming loans are reviewed on at least a quarterly basis, and management critically evaluates the prospect of ultimate losses arising from such loans, based on the borrower's
financial condition and the value of available collateral. When a risk can be specifically quantified for a loan, that amount is specifically allocated in the allowance. In addition, the Company
allocates the allowance based upon the historical loan loss experience of the different types of loans. Despite such allocation, both the allocated and unallocated portions of the allowance are
available for charge-offs for all loans.

At
September 30, 2002 and December 31, 2001, loans identified as being impaired consisted of loans placed on non-accrual status.

At
September 30, 2002 and December 31, 2001, the recorded investment in loans that are considered to be impaired under FAS 114 was approximately $8,388,000 and
$5,581,000, respectively. Included in this amount at September 30, 2002 and December 31, 2001, was approximately $8,353,000 and $4,710,000, respectively, of impaired loans for which the
related specific reserve for loan losses was approximately $1,889,000 and $1,190,000, respectively. Impaired loans of $35,000 and $871,000 at September 30, 2002 and December 31, 2001,
respectively, did not have a specific reserve for loan losses.

The
following table shows the allocations in the allowance and the respective percentages of each loan category to total loans at September 30, 2002, and December 31, 2001.

September 30, 2002

December 31, 2001Amount of
Allowance
Allocated to
Category

Percent of Loans by Category to Loans, Net of Unearned Income

Amount of
Allowance
Allocated to
Category

Percent of Loans by Category to Loans, Net of Unearned Income(Dollars in thousands)Real estate loans

$
1,067

48.0
%
$
1,092

44.5
%Commercial loans


1,777

29.8


1,714

32.3Loans to individuals


699

9.4


868

12.4Agriculture and other loans


222

12.8


19

10.8Total allocated


3,765

100.0
%

3,693

100.0
%Unallocated


3,164




2,832Total allowance for possible loan losses

$
6,929



$
6,525


Loan Review Process

The Company follows a loan review program to evaluate the credit risk in its loan portfolio. Through the loan review process, the Company maintains an internally
classified loan list that, along with the list of nonperforming loans discussed herein, helps management assess the overall quality of the loan portfolio and the adequacy of the allowance. Loans
classified as "substandard" are those loans with clear and defined weaknesses such as highly leveraged positions, unfavorable financial ratios, uncertain repayment sources, involvement in bankruptcy
proceedings or poor financial condition, which may jeopardize recoverability of the loan. Loans classified as "doubtful" are those loans that have characteristics similar to substandard loans, but
also have an increased risk that a loss may occur or at least a portion of the loan may require a charge-off if liquidated at present. Although loans classified as substandard do not
duplicate loans classified as doubtful, both substandard and doubtful loans may

23

---

include some loans that are past due at least 90 days, are on nonaccrual status or have been restructured. Loans classified as "loss" are those loans that are usually in the process of being
charged off. There were no loans designated as loss at September 30, 2002.

In
addition to the internally classified loans, the Company also has a "watch list" of loans that further assists management in monitoring its loan portfolio. A loan is included on the
watch list if it demonstrates one or more deficiencies requiring attention in the near term or if the loan's ratios have weakened to a point where more frequent monitoring is warranted. These loans do
not have all the characteristics of a classified loan (substandard, doubtful or loss), but do have weakened elements as compared with those of a satisfactory credit. Management of the Company reviews
these loans in assessing the adequacy of the allowance. Substantially all of the loans on the watch list at September 30, 2002, were current and paying in accordance with loan terms. See
"Nonperforming Assets" herein.

Nonperforming Assets

Nonperforming assets consist of nonaccrual, past due and restructured loans. A past due loan is an accruing loan that is contractually past due 90 days or
more as to principal or interest payments. Loans on which management does not expect to collect interest in the normal course of business are placed on nonaccrual or are restructured. When a loan is
placed on nonaccrual, any interest previously accrued but not yet collected is reversed against current income unless, in the opinion of management, the outstanding interest remains collectible.
Thereafter, interest is included in income only to the extent of cash received. A loan is restored to accrual status when all interest and principal payments are current and the borrower has
demonstrated to management the ability to make payments of principal and interest as scheduled.

A
"troubled debt restructuring" is a restructured loan upon which interest accrues at a below market rate or upon which certain principal has been forgiven so as to aid the borrower in
the final repayment of the loan, with any interest previously accrued, but not yet collected, being reversed against current income. Interest is accrued based upon the new loan terms.

Nonperforming
loans are fully or substantially collateralized by assets, with any excess of loan balances over collateral values allocated in the allowance. Assets acquired through
foreclosure are carried at the lower of cost or estimated fair value, net of estimated costs of disposal, if any. See "Other Real Estate and Other Repossessed Assets" herein.

Foreclosures
on defaulted loans result in the Company acquiring other real estate and other repossessed assets. Accordingly, the Company incurs other expenses, specifically net costs
applicable to other real estate and other repossessed assets, in maintaining, insuring and selling such assets. The Company attempts to convert nonperforming loans into interest-earning assets,
although usually at a lower dollar amount than the face value of such loans, either through liquidation of the collateral securing the loan or through intensified collection efforts.

The
following table lists nonaccrual, past due and restructured loans and other real estate and other repossessed assets at September 30, 2002, and December 31, 2001.

September 30,
2002

December 31,
2001(In thousands)Nonaccrual loans

$
8,388

$
5,581Accruing loans contractually past due over 90 days


27


223Restructured loans


17


29Other real estate and other repossessed assets


629


691Total nonperforming assets

$
9,061

$
6,524


24

---

The
gross interest income that would have been recorded during the third quarter and first nine months of 2002 on the Company's nonaccrual loans if such loans had been current, in
accordance with the original terms thereof and outstanding throughout the period or, if shorter, since origination, was approximately $132,000 and $321,000, respectively. No interest income was
actually recorded (received) on loans that were on nonaccrual during the nine month period ended September 30, 2002.

A
potential problem loan is defined as a loan where information about possible credit problems of the borrower is known, causing management to have serious doubts as to the ability of
the borrower to comply with the present loan repayment terms and which may result in the inclusion of such loan in one of the nonperforming asset categories. The Company does not believe it has any
potential problem loans other than those reported in the previous table or those included on the watch list as discussed above.

Intangible Assets

Intangible assets decreased $17,069,000, or 39.0%, from $43,719,000 at December 31, 2001, to $26,650,000 at September 30, 2002. This decrease was
primarily due to the impairment of goodwill of $15,642,000 recorded in the first quarter of 2002. The remaining decrease is caused by core deposit intangible amortization expense recorded during the
first nine months of 2002.

25

---



Premises and Equipment

Premises and equipment decreased $602,000, or 3.9%, during the first nine months of 2002, from $15,380,000 at December 31, 2002, to $14,778,000 at
September 30, 2002. The decrease was primarily due to depreciation recorded during 2002 totaling $1,111,000. This decrease was partially offset by additions to premises and equipment.

Other Assets

Other assets consists of accrued interest receivable, other real estate and other repossessed assets and various other assets. The balance of other assets
increased $1,440,000, or 8.1%, from $17,861,000 at December 31, 2001 to $19,301,000 at September 30, 2002.

Accrued
interest receivable consists of interest that has accrued on securities and loans, but is not yet payable under the terms of the related agreements. The balance of accrued
interest receivable decreased $668,000, or 12.6%, from $5,321,000 at December 31, 2001, to $4,653,000 at September 30, 2002. The decrease was primarily a result of a decrease in loans
and the reclassification during the period of certain loans to nonaccrual status where interest previously accrued is reversed. Of the total balance at September 30, 2002, $2,525,000, or 54.3%,
was interest accrued on loans and $2,128,000, or 45.7%, was interest accrued on securities. The amounts of accrued interest receivable and percentages attributable to loans and securities at
December 31, 2001, were $2,953,000, or 55.5%, and $2,368,000, or 44.5%, respectively.

Other
real estate and other repossessed assets consist of real property and other assets unrelated to banking premises or facilities. Income derived from other real estate and other
repossessed assets, if any, is generally less than that which would have been earned as interest at the original contract rates on the related loans. At September 30, 2002, and
December 31, 2001, other real estate and other repossessed assets had an aggregate book value of $629,000 and $691,000, respectively. Other real estate and other repossessed assets decreased
$62,000, or 9.0%, during the first nine months of 2002. Of the September 30, 2002 balance, $494,000 represents four commercial and agricultural properties, $112,000 represents four residential
properties, and $23,000 represents nine repossessed vehicles and other equipment.

The
balance of other assets increased $2,170,000, or 18.3%, to $14,019,000 at September 30, 2002, from $11,849,000 at December 31, 2001, as a result of the additional
purchase of bank owned life insurance on various officers of the Bank.

Deposits

The Company's lending and investing activities are funded almost entirely by core deposits, 57.4% of which are demand, savings and money market deposits at
September 30, 2002. Total deposits decreased $64,228,000, or 11.8%, from $544,030,000 at December 31, 2001, to $479,802,000 at September 30, 2002. The reduction in the deposit
balance was primarily due to decreases in interest rates paid on time deposit accounts causing a lower demand for these accounts. The reduction was one which management planned, specifically in an
effort to realign our deposit mix. The Company does not have any brokered deposits.

26

---

The
following table presents the average amounts of, and the average rates paid on, deposits of the Company for the quarters and nine month periods ended September 30, 2002 and
2001.

|                                                           |                | Quarter Ended September 30, |         | Nine Month Period Ended September 30, |     
|---------------------------------------------------------- | -------------- | --------------------------- | ------- | ------------------------------------- | ----
|
|
|
|Noninterest-bearing demand deposits                        |                | $                           | 97,758  |                                       |    
|Interest-bearing demand, savings and money market deposits |                |                             | 184,028 |                                       | 0.83
|Time deposits of less than $100,000                        |                |                             | 135,903 |                                       | 2.79
|Time deposits of $100,000 or more                          |                |                             | 71,612  |                                       | 3.13
|                                                           |                |                             |         |                                       |     
|                                                           | Total deposits |                             | $       | 489,301                               |     
|                                                           |                |                             |         |                                       |     

The maturity distribution of time deposits of $100,000 or more at September 30, 2002 is presented below.

At September 30,
2002(In thousands)3 months or less

$
25,259Over 3 through 6 months


25,321Over 6 through 12 months


12,536Over 12 months


9,418Total time deposits of $100,000 or more

$
72,534


Time
deposits of $100,000 or more are a more volatile and costly source of funds than other deposits and are most likely to affect the Company's future earnings because of interest rate
sensitivity. At September 30, 2002, and December 31, 2001, deposits of $100,000 or more represented approximately 12.9% and 13.9%, respectively, of the Company's total assets.

Fed Funds Purchased and Securities Sold Under Agreement to Repurchase

The balance of fed funds purchased and securities sold under agreement to repurchase increased $40,000, or 26.5%, from $151,000 at December 31, 2001 to
$191,000 at September 30, 2002.

Other Liabilities

Other liabilities consists of accrued interest payable and other liabilities accrued for various types of expenses and current and deferred federal income taxes
payable. Other liabilities increased $36,000, or 1.0% from $6,903,000 at December 31, 2001 to $6,939,000 at September 30, 2002.

Accrued
interest payable consists of interest that has accrued on deposits, but is not yet payable under the terms of the related agreements. The balance of accrued interest payable
decreased $735,000, or 50.3%, from $1,462,000 at December 31, 2001, to $727,000 at September 30, 2002, due to a decrease in interest-bearing deposit balances as well as decreases in
interest rates being paid on interest-bearing time deposits during the first nine months of 2002.

The
most significant components of other liabilities are amounts accrued for various types of expenses and current and deferred federal income taxes payable. The balance of other
liabilities increased $771,000 or 14.2%, from $5,441,000 at December 31, 2001, to $6,212,000 at September 30,

27

---

2002. The increase in other liabilities is primarily due to an increase in the deferred tax liability related to the unrealized gain or loss of available for sale securities.

Interest Rate Sensitivity

Interest rate risk arises when an interest-earning asset matures or when its rate of interest changes in a time frame different from that of the supporting
interest-bearing liability. The Company seeks to minimize the difference between the amount of interest-earning assets and the amount of interest-bearing liabilities that could change interest rates
in the same time frame in an attempt to reduce the risk of significant adverse effects on the Company's net interest income caused by interest rate changes. The Company does not attempt to match each
interest-earning asset with a specific interest-bearing liability. Instead, as shown in the following table, it aggregates all of its interest-earning assets and interest-bearing liabilities to
determine the difference between the two in specific time frames. This difference is known as the rate-sensitivity gap. A company is considered to be asset sensitive, or having a positive
gap, when the amount of interest earning-assets maturing or repricing within a given period exceeds the amount of its interest-bearing liabilities also maturing or repricing within that time period.
Conversely, a company is considered to be liability sensitive, or having a negative gap, when the amount of its interest-bearing liabilities maturing or repricing within a given time period exceeds
the amount of its interest-earning assets also maturing or repricing within that time period. During a period of rising interest rates, a negative gap would tend to affect net income adversely, while
a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a
positive gap would tend to affect net interest income adversely. Maintaining a balanced position will reduce risk associated with interest rate changes, but it will not guarantee a stable interest
rate spread because the various rates within a time frame may change by differing amounts and occasionally change in different directions. Management regularly monitors the interest sensitivity
position and considers this position in its decisions in regard to interest rates and maturities for interest-earning assets acquired and interest-bearing liabilities accepted.

In
adjusting the Company's asset/liability position, management attempts to manage the Company's interest rate risk while enhancing net interest margins. The rates, terms and interest
rate indices of the Company's interest-earning assets result primarily from the Company's strategy of investing in loans and securities, which permit the Company to limit its exposure to interest rate
risk, together with credit risk, while at the same time achieving a positive and relatively stable interest rate spread from the difference between the income earned on interest-earning assets and the
cost of interest-bearing liabilities.

The
Company's ratios of interest-sensitive assets to interest-sensitive liabilities, as shown in the following table, are 71.1% at the 90-day interval, 64.8% at the
180-day interval and 77.5% at the 365-day interval at September 30, 2002. Currently, the Company is in a liability-sensitive position at the three intervals. However,
the Company had $178,520,000 of interest-bearing demand, savings and money market deposits at September 30, 2002, on which, from the Company's experience, interest rates change more slowly.
Therefore, excluding these types of deposits, the Company's interest-sensitive assets to interest-sensitive liabilities ratio at the 365-day interval would have been 154.33% at
September 30, 2002. The interest sensitivity position is presented as of a point in time and can be modified to some extent by management as changing conditions dictate.

28

---

The
following table shows the interest rate sensitivity position of the Company at September 30, 2002.

|                              |                                               | Cumulative Volumes
Subject to Repricing Within |         | Volumes
Subject to
Repricing
After
1 Year |         |         
|----------------------------- | --------------------------------------------- | ---------------------------------------------- | ------- | ----------------------------------------- | ------- | --------
|
|
|Interest-earning assets:      |                                               |                                                |         |                                           |         |         
|                              | Federal funds sold                            |                                                | $       | 9,313                                     |         | $       
|                              | Securities                                    |                                                |         | 23,824                                    |         |         
|                              | Loans, net of unearned income                 |                                                |         | 144,013                                   |         |         
|                              |                                               |                                                |         |                                           |         |         
|                              |                                               | Total interest-earning assets                  |         |                                           | 177,150 |         
|                              |                                               |                                                |         |                                           |         |         
|Interest-bearing liabilities: |                                               |                                                |         |                                           |         |         
|                              | Demand, savings and money market deposits     |                                                |         | 178,520                                   |         |         
|                              | Securities Sold Under Agreement to Repurchase |                                                |         | 191                                       |         |         
|                              | Time deposits                                 |                                                |         | 70,344                                    |         |         
|                              |                                               |                                                |         |                                           |         |         
|                              | Total interest-bearing liabilities            |                                                |         | 249,055                                   |         |         
|                              |                                               |                                                |         |                                           |         |         
|Rate-sensitivity gap(1)       |                                               | $                                              | (71,905 | )                                         | $       | (110,046
|                              |                                               |                                                |         |                                           |         |         
|Rate-sensitivity ratio(2)     |                                               |                                                | 71.1    | %                                         |         | 64.8    
|                              |                                               |                                                |         |                                           |         |         

---

In
addition to the gap analysis, determining the sensitivity of future earnings to an instantaneous hypothetical plus or minus basis point parallel rate shock can be accomplished through
the use of simulation modeling. Simulation of earnings included the modeling of the balance sheet as an ongoing entity. Balance sheet items are modeled to project net interest income based on an
instantaneous hypothetical change in interest rates. Floors are established within the simulation model on the interest rate changes for different interest earning and interest bearing products during
periods of low interest rates. The resulting net interest income for the next twelve-month period is compared to the net interest income amount calculated using flat rates. This difference represents
the Bank's earnings sensitivity to an instantaneous plus or minus basis point parallel rate shock. The following table displays the percent change in net interest income simulated at various
instantaneous plus or minus basis point parallel rate shocks.

Net Interest Income
Period Ended
September 30,Changes in
Interest Rates2002

2001+200

8.9
%
7.8
%+100

6.3
%
4.5
%0

0.0
%
0.0
%-100

(5.3
)%
(4.6
)%-200

(7.9
)%
(10.1
)%


The
results are within the policy limits established by the Company's Board of Directors.

29

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Selected Financial Ratios

The
following table presents selected financial ratios (annualized) for the quarters and nine month periods ended September 30, 2002 and 2001.

Quarter Ended
September 30,

Nine Month Period Ended
September 30,2002

2001

2002

2001Income (loss) Before Cumulative Effect of a Change in Accounting Principle to:Average assets

0.71
%
(0.33
)%
0.71
%
(0.74
)%Average interest-earning assets

0.82

(0.39
)
0.82

(0.88
)Average stockholder's equity

6.42

(2.73
)
6.28

(6.36
)Net income (loss) to:Average assets

0.71

(0.33
)
(2.80
)
(0.74
)Average interest-earning assets

0.82

(0.39
)
(3.26
)
(0.88
)Average stockholder's equity

6.42

(2.73
)
(24.91
)
(6.36
)Dividend payout(1) to:Net income

N/A

N/A

N/A

N/AAverage stockholder's equity

N/A

N/A

N/A

N/AAverage stockholder's equity to:Average total assets

11.08

11.99

11.25

11.67Average loans(2)

22.37

25.90

23.66

23.96Average total deposits

12.92

14.09

13.11

13.64Average interest-earning assets to:Average total assets

87.29

83.88

85.95

84.75Average total deposits

101.73

98.53

100.18

99.07Average total liabilities

100.33

97.08

98.89

97.72Ratio to total average deposits of:Average loans(2)

57.75

54.38

55.41

56.95Average noninterest bearing deposits

19.98

17.86

19.72

16.75Average interest-bearing deposits

80.02

82.14

80.28

83.25Total interest expense to total interest income

24.70

44.57

27.53

48.77Efficiency Ratio(3)

71.13

75.95

69.62

79.26


---

Liquidity

The Bank

Liquidity with respect to a financial institution is the ability to meet its short-term needs for cash without suffering an unfavorable impact on its
on-going operations. The need for the Bank to maintain funds on hand arises principally from maturities of short-term borrowings, deposit withdrawals, customers' borrowing
needs and the maintenance of reserve requirements. Liquidity with respect to a financial institution can be met from either assets or liabilities. On the asset side, the primary sources of liquidity
are cash and due from banks, federal funds sold, maturities of securities and scheduled repayments and maturities of loans. The Bank maintains adequate levels of cash and near-cash
investments to meet its day-to-day needs. Cash and due from banks averaged $18,548,000 and

30

---

$24,918,000 during the third quarter and first nine months of 2002, respectively, and $30,683,000 and $32,901,000 during the third quarter and first nine months of 2001, respectively. These amounts
comprised 3.3% and 4.2% of average total assets during the third quarter and first nine months of 2002, respectively, and 4.5% and 4.8% of average total assets during the third quarter and first nine
months of 2001, respectively.

The
average level of securities, interest-earning time deposits in other banks and federal funds sold was $215,224,000 and $228,378,000 during the third quarter and first nine months of
2002, respectively, and $254,932,000 and $246,320,000 during the third quarter and first nine months of 2001, respectively.

Securities
totaling $1,414,000 were sold during the quarter and the nine month period ended September 30, 2002 and a total of $59,919,000 of securities classified as
available-for-sale were sold during the quarter and nine month period ended September 30, 2001. At September 30, 2002, $24,571,000, or 12.8%, of the Company's
securities portfolio, excluding mortgage-backed securities, matured within one year, and $105,427,000, or 55.0%, excluding mortgage-backed securities, matured after one but within five years. The
Bank's commercial and real estate lending activities are concentrated in loans with maturities of less than five years with both fixed and adjustable interest rates, while its installment lending
activities are concentrated in loans with maturities of three to five years and with primarily fixed interest rates. At September 30, 2002, approximately $181,260,000, or 63.2%, of the
Company's loans, net of unearned income, matured within one year and/or had adjustable interest rates. Approximately $172,684,000, or 66.5%, of the Company's loans (excluding loans to individuals)
matured within one year and/or had adjustable interest rates. See "Analysis of Financial ConditionLoan Portfolio" above.

On
the liability side, the principal sources of liquidity are deposits, borrowed funds and the accessibility to money and capital markets. Customer deposits are by far the largest source
of funds. During the third quarter and first nine months of 2002, the Company's average deposits were $489,301,000 and $510,159,000, or 85.8% and 85.8%, of average total assets, respectively, compared
to $577,346,000 and $584,858,000, or 85.1% and 85.6% of average total assets, respectively, during the third quarter and first nine months of 2001. The Company attracts its deposits primarily from
individuals and businesses located within its market areas. See "Analysis of Financial ConditionDeposits" above.

The Company

The Company depends on the Bank for liquidity in the form of cash flow, primarily to meet distribution requirements on the Company's subordinated debentures,
which payments, in turn, are used to meet distribution requirements on Independent Capital's Trust Preferred Securities and to cover other operating expenses. The Company's immediate liquidity needs
have been and can continue to be satisfied by advances from the Company's parent company.

The
payment of dividends to the Company is subject to applicable law and the scrutiny of regulatory authorities. Dividends paid by the Bank to Independent Financial during the third
quarter and first nine months of 2002 were $0 and $0, respectively; in turn, Independent Financial and Independent Capital paid dividends to the Company totaling $9,000 and $26,000, respectively,
during the same time periods of 2002. Dividends paid by the Bank to Independent Financial during the third quarter and first nine months of 2001 were $0 and $700,000, respectively; in turn,
Independent Financial and Independent Capital paid dividends to the Company of $9,000 and $726,000, respectively, during the
same time periods. At September 30, 2002, there were no dividends available for payment to Independent Financial by the Bank without first obtaining regulatory approval.

Current
tax liabilities totaling $372,000 and $1,614,000 were paid by the Bank to the Company during the third quarter and the nine month period ended September 30, 2002,
respectively. There

31

---

were no current tax liabilities generated by the Bank during the third quarter and the nine month period ended September 30, 2001 due to the pre-tax loss incurred by the Bank.

Capital Resources

At September 30, 2002, stockholders' equity totaled $64,250,000, or 11.4% of total assets, compared to $75,381,000, or 11.8% of total assets, at
December 31, 2001.

Bank
regulatory authorities in the United States have risk-based capital standards by which all bank holding companies and banks are evaluated in terms of capital adequacy.
These guidelines relate a banking company's capital to the risk profile of its assets. The risk-based capital standards require all banking companies to have Tier 1 capital of at
least 4% and total capital (Tier 1 and Tier 2 capital) of at least 8% of risk-weighted assets, and to be designated as well-capitalized, the banking company must
have Tier 1 and total capital ratios of at least 6% and 10%, respectively. For the Company, Tier 1 capital includes common stockholders' equity (net of available for sale fair value
adjustment) and qualifying guaranteed preferred beneficial interests in the Company's subordinated debentures, reduced by intangible assets net of the deferred tax liability associated with the core
deposit intangible, and any deferred tax asset disallowed for regulatory capital purposes. For the Company, Tier 2 capital is comprised of the remainder of the guaranteed preferred beneficial
interests in the Company's subordinated debentures not qualifying for Tier 1 capital and the qualifying amount of the allowance for loan losses.

Banking
regulators also have leverage ratio requirements. The leverage ratio requirement is measured as the ratio of Tier 1 capital to adjusted quarterly average assets. The
leverage ratio standards require all banking companies to have a minimum leverage ratio of at least 4% and to be designated as well-capitalized, the banking company must have a leverage
ratio of at least 5%. The following table provides a calculation of the Company's risk-based capital and leverage ratios and a comparison of the Company's and the Bank's
risk-based capital ratios and leverage ratios to the minimum regulatory and well-capitalized minimum requirements at September 30, 2002.

|                                  |               | September 30, 2002
|--------------------------------- | ------------- | ------------------
|
|Tier 1 capital                    |               | $                 
|Tier 2 capital                    |               |                   
|                                  |               |                   
|                                  | Total capital |                   
|                                  |               |                   
|Net risk-weighted assets          |               | $                 
|                                  |               |                   
|Adjusted quarterly average assets |               | $                 
|                                  |               |                   

Regulatory
Minimum

"Well
Capitalized"
Minimum

Actual Ratios at
September 30, 2002The CompanyTier 1 capital to net risk-weighted assets ratio

4.00
%
6.00
%
14.05
%Total capital to net risk-weighted assets ratio

8.00

10.00

15.31Leverage ratio

4.00

5.00

8.68The BankTier 1 capital to net risk-weighted assets ratio

4.00
%
6.00
%
14.39
%Total capital to net risk-weighted assets ratio

8.00

10.00

15.65Leverage ratio

4.00

5.00

8.97


32

---

The
Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") requires each federal banking agency to revise its risk-based capital standards to ensure that
those standards take adequate account of interest rate risk, concentration of credit risk and the risks of non-traditional activities, as well as reflect the actual performance and
expected risk of loss on multi-family mortgages. This law also requires each federal banking agency to specify the levels at which an insured institution would be considered "well capitalized,"
"adequately capitalized," "undercapitalized," "significantly undercapitalized" and "critically undercapitalized." Under the FDIC's regulations, the Company and the Bank were both "well capitalized" at
September 30, 2002.

The
Company's ability to generate capital internally through retention of earnings and access to capital markets is essential for satisfying the capital guidelines for bank holding
companies as prescribed by the Federal Reserve Board.

The
payment of dividends on the Common Stock is determined by the Company's Board of Directors in light of circumstances and conditions then existing, including the earnings of the
Company and the Bank, funding requirements and financial condition and applicable laws and regulations. The Company's ability to pay cash dividends is restricted by the requirement that it maintain a
certain level of capital as discussed above in accordance with regulatory guidelines. The Federal Reserve Board has promulgated a policy prohibiting bank holding companies from paying dividends on
common stock unless such bank holding company can pay such dividends from current earnings.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

There has been no material change in the Company's market risk profile from the information disclosed in the Company's Form 10-K for the year
ended December 31, 2001.

Item 4. Controls and Procedures

Based on the evaluation of the Company's disclosure controls and procedures as of a date within 90 days of the filing date of the quarterly report, each of
Tom C. Nichols, the Chairman, President and
Chief Executive Officer, and Don E. Cosby, Executive Vice President and Chief Financial Officer, have concluded that in their judgment the Company's disclosure controls and procedures are designed to
ensure that material information relating to the Company's subsidiaries, is make known to such officers by others within the Company or its subsidiaries.

There
were no significant changes in the Company's internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation,
including any corrective actions with regard to significant deficiencies and material weaknesses.

33

---



PART II  OTHER INFORMATION

Item 1. Legal Proceedings.

From time to time, the Company is a party in litigation proceedings incidental to the normal course of its business. In the opinion of management, the ultimate
liability, if any, resulting from known, current litigation, either singularly or in the aggregate, would not reasonably be expected to have a material adverse effect on the Company's financial
position, results of operations, or cash flows.

Item 2. Changes in Securities.

None

Item 3. Defaults upon Senior Securities.

None

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

None

Item 5. Other Information.

None

Item 6. Exhibits and Reports on Form 8-K.





34

---





SIGNATURE

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.

|Date: November 14, 2002 |  | Independent Bankshares, Inc.
(Registrant)
|----------------------- |  | -----------------------------------------
|                        |  | By:                                      

35

---

I, Tom C. Nichols, certify that:





| |  | Date:                                                                          |  | November 14, 2002
| |  | ------------------------------------------------------------------------------ |  | -----------------
| |  | /s/ Tom C. NicholsTom C. Nichols
Chairman, President & Chief Executive Officer

36

---

I, Don E. Cosby, certify that:

| |  | Date:                                                                           |  | November 14, 2002
| |  | ------------------------------------------------------------------------------- |  | -----------------
| |  | /s/ Don E. CosbyDon E. Cosby
Executive Vice President & Chief Financial Officer

37

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