Document:

<PAGE>

                                                                    EXHIBIT 4(d)

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

                          THIRD SUPPLEMENTAL INDENTURE

                                     between

                    PANHANDLE EASTERN PIPE LINE COMPANY, LLC
                                     Issuer

                                       and

                  BANK ONE TRUST COMPANY, NATIONAL ASSOCIATION
                                     Trustee

                           Dated as of August 18, 2003

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

<PAGE>

                                Table of Contents

<Table>
<S>            <C>                                                                                              <C>
                                   ARTICLE I.

                                   DEFINITIONS

SECTION 1.1    Definition of Terms...............................................................................3

                                   ARTICLE II.

                GENERAL TERMS AND CONDITIONS OF THE SENIOR NOTES

SECTION 2.1    Designation and Principal Amount of the 4.80%
               Series A Notes and the 6.05% Series A Notes......................................................11

SECTION 2.2    Maturity of the 4.80% Series A Notes and the 6.05%
               Series A Notes...................................................................................12

SECTION 2.3    Interest on the 4.80% Series A Notes and the 6.05%
               Series A Notes...................................................................................12

SECTION 2.4    Form of the 4.80% Series A Notes and the 6.05%
               Series A Notes...................................................................................12

SECTION 2.5    Special Transfer Provisions......................................................................13

SECTION 2.6    Designation and Principal Amount of the 4.80% Series
               B Notes and the 6.05% Series B Notes.............................................................14

SECTION 2.7    Maturity of the 4.80% Series B Notes and the 6.05%
               Series B Notes...................................................................................14

SECTION 2.8    Interest on the 4.80% Series B Notes and the 6.05%
               Series B Notes...................................................................................15

SECTION 2.9    Form of the 4.80% Series B Notes and the 6.05%
               Series B Notes...................................................................................15

SECTION 2.10   Redemption of the Senior Notes...................................................................15

                                  ARTICLE III.

                                    COVENANTS

SECTION 3.1    Limitation on Restricted Payments................................................................16

SECTION 3.2    Limitation on Liens..............................................................................17

SECTION 3.3    Restriction on Sale-Leasebacks...................................................................19

SECTION 3.4    Financial Information............................................................................20

SECTION 3.5    Applicability of Covenants.......................................................................21

                                   ARTICLE IV.

                                     DEFAULT

SECTION 4.1    General..........................................................................................21

SECTION 4.2    Additional Event of Default......................................................................21
</Table>

                                       i

<PAGE>

<Table>
<S>            <C>                                                                                              <C>
                                   ARTICLE V.

                                   DEFEASANCE

SECTION 5.1    General..........................................................................................22

SECTION 5.2    Covenant Defeasance..............................................................................22

                                   ARTICLE VI.

                              FORM OF SENIOR NOTES

SECTION 6.1    Form of Senior Notes.............................................................................22

                                  ARTICLE VII.

                            ISSUANCE OF SENIOR NOTES

SECTION 7.1    Original Issue of Senior Notes...................................................................39

SECTION 7.2    Additional Senior Notes..........................................................................40

                                  ARTICLE VIII.

                                  MISCELLANEOUS

SECTION 8.1    Ratification of Indenture........................................................................40

SECTION 8.2    Trustee Not Responsible for Recitals.............................................................40

SECTION 8.3    Governing Law....................................................................................40

SECTION 8.4    Separability.....................................................................................41

SECTION 8.5    Counterparts.....................................................................................41
</Table>

EXHIBIT A         Form of Owner Senior Notes Certification to be delivered in
                  connection with the exchange of the Temporary Regulation S
                  Global Note

EXHIBIT B         Form of Depositary Certification to be delivered in connection
                  with exchanges of the Temporary Regulation S Global Note

                                       ii

<PAGE>

                  THIRD SUPPLEMENTAL INDENTURE, dated as of August 18, 2003 (the
"Third Supplemental Indenture"), between Panhandle Eastern Pipe Line Company,
LLC (formerly known as Panhandle Eastern Pipe Line Company), a Delaware limited
liability company (the "Issuer"), and Bank One Trust Company, National
Association, as trustee (the "Trustee") under the indenture, dated as of March
29, 1999, among the Issuer, CMS Panhandle Holding Company, a Michigan
corporation, and NBD Bank, as trustee (the "Base Indenture" and, as so
supplemented, the "Indenture").

                  WHEREAS, CMS Panhandle Holding Company and the Issuer executed
and delivered the Base Indenture to NBD Bank to provide for the future issuance
of CMS Panhandle Holding Company's unsecured debt securities guaranteed by the
Issuer, to be issued from time to time in one or more series as might be
determined by CMS Panhandle Holding Company under the Indenture, in an unlimited
aggregate principal amount which may be authenticated and delivered as provided
in the Base Indenture;

                  WHEREAS, the Issuer, CMS Panhandle Holding Company, and NBD
Bank executed the First Supplemental Indenture, dated as of March 29, 1999,
under which CMS Panhandle Holding Company issued a series of Debt Securities in
three tranches known as its 6.125% Senior Notes due 2004, 6.500% Senior Notes
due 2009 and 7.000% Senior Notes due 2029 in aggregate principal amounts of
$300,000,000, $200,000,000 and $300,000,000, respectively;

                  WHEREAS, Panhandle Eastern Pipe Line Company became the Issuer
as provided for in the Base Indenture as a result of the merger of CMS Panhandle
Holding Company into Panhandle Eastern Pipe Line Company, effective June 15,
1999, and Bank One Trust Company, National Association became the Trustee
provided for in the Base Indenture as a result of the merger of NBD Bank into
Bank One Trust Company, National Association;

                  WHEREAS, the Issuer and the Trustee executed the Second
Supplemental Indenture, dated as of March 27, 2000, under which the Issuer
issued a series of Debt Securities known as its 8.25% Senior Notes due 2010,
Series A, in the principal amount of $100,000,000 (the "2010 A Senior Notes"),
and a series of Senior Notes to be issued in exchange for the 2010 A Senior
Notes, known as the Issuer's "8.25% Senior Notes Due 2010, Series B," in the
principal amount of $100,000,000;

                  WHEREAS, in June, 2003, Southern Union Panhandle, LLC, a
wholly-owned subsidiary of Southern Union Company ("Southern Union"), acquired
all of the outstanding capital stock of the Issuer, after which Southern Union
caused Panhandle Eastern Pipe Line Company to convert to a Delaware limited
liability company;

                  WHEREAS, the Issuer desires to provide for the establishment
of two new series of its Debt Securities: (i) the 4.80% Senior Notes due 2008
(as defined below) in the initial principal amount of $300,000,000, consisting
of two tranches, the first tranche of 4.80% Senior Notes due 2008 known as
"4.80% Senior Notes due 2008, Series A" (the "4.80% Series A Notes"), and the
second tranche of 4.80% Senior Notes due 2008 to be issued in exchange for the
4.80% Series A Notes, known as "4.80% Senior Notes due 2008, Series B" (the
"4.80% Series

                         THIRD SUPPLEMENTAL INDENTURE 1
<PAGE>

B Notes", and together with the 4.80% Series A Notes, the "4.80% Senior
Notes due 2008"); and (ii) the 6.05% Senior Notes due 2013 (as defined below) in
the initial principal amount of $250,000,000, consisting of two tranches, the
first tranche of 6.05% Senior Notes due 2013 known as "6.05% Senior Notes due
2013, Series A" (the "6.05% Series A Notes"), and the second tranche of 6.05%
Senior Notes due 2013 to be issued in exchange for the 6.05% Series A Notes,
known as the "6.05% Senior Notes due 2013, Series B" (the "6.05% Series B Notes"
and, together with the 6.05% Series A Notes, the "6.05% Senior Notes due 2013"
and, together with the 4.80% Senior Notes due 2008 and any Additional Senior
Notes (as defined below), the "Senior Notes"), the form and substance of such
Senior Notes and the terms, provisions and conditions thereof to be set forth as
provided in the Base Indenture and this Third Supplemental Indenture;

                  WHEREAS, there is no limit on the amount of Additional Senior
Notes (as defined below) that may be issued after the initial issuance of the
Initial Senior Notes (as defined below), provided that at the time of issuance
of any Additional Senior Notes no Default or Event of Default shall have
occurred and be continuing;

                  WHEREAS, the Issuer and the Initial Purchasers named therein
have entered into a Registration Rights Agreement, dated as of August 18, 2003
(as amended, supplemented or otherwise modified from time to time, the
"Registration Rights Agreement"), which requires the Issuer to use its
reasonable best efforts to make an Exchange Offer (as defined below) which would
enable holders of the 4.80% Series A Notes and the 6.05% Series A Notes to
exchange such Senior Notes for 4.80% Series B Notes and 6.05% Series B Notes,
respectively, not subject to certain restrictions under the Securities Act or to
cause a Shelf Registration Statement to be declared effective with respect to
the respective resale of the 4.80% Series A Notes or the 6.05% Series A Notes;

                  WHEREAS, the Issuer wishes to amend and add certain provisions
to the Base Indenture for the benefit of the holders of the Senior Notes; and

                  WHEREAS, the Issuer has requested that the Trustee execute and
deliver this Third Supplemental Indenture, and all requirements necessary to
make this Third Supplemental Indenture a valid instrument, in accordance with
its terms, and to make the Senior Notes, when executed by the Issuer and
authenticated and delivered by the Trustee, the valid obligations of the Issuer,
have been performed, and the execution and delivery of this Third Supplemental
Indenture has been duly authorized in all respects:

                  NOW THEREFORE, in consideration of the purchase and acceptance
of the Senior Notes to be issued hereunder by the holders thereof, and for the
purpose of setting forth, as provided in the Indenture, the form and substance
of the Senior Notes and the terms, provisions and conditions thereof, the Issuer
covenants and agrees with the Trustee as follows:

                         THIRD SUPPLEMENTAL INDENTURE 2
<PAGE>

                                   ARTICLE I.

                                   DEFINITIONS

                  SECTION 1.1 Definition of Terms.

                  Unless the context otherwise requires:

                  (a) a term defined in the Base Indenture has the same meaning
when used in this Third Supplemental Indenture;

                  (b) a term defined anywhere in this Third Supplemental
Indenture has the same meaning throughout;

                  (c) the singular includes the plural and vice versa;

                  (d) a reference to a Section or Article is to a Section or
Article of this Third Supplemental Indenture;

                  (e) headings are for convenience of reference only and do not
affect interpretation;

                  (f) the following terms have the meanings given to them in
this Section 1.01(f):

                  "Additional Senior Notes" means any additional Senior Notes
(other than Initial Senior Notes) issued from time to time under this Third
Supplemental Indenture in accordance with Section 2.4 of the Base Indenture, as
a part of the same Series as the applicable Initial Senior Notes; provided, that
no Additional Senior Notes may be issued during the continuance of a Default or
an Event of Default.

                  "Adjusted Consolidated Net Income" means, for any period, the
net income of the Issuer and its Consolidated Subsidiaries, plus (i)
depreciation and amortization expense of the Issuer and its Consolidated
Subsidiaries, (ii) income taxes and deferred taxes of the Issuer and its
Consolidated Subsidiaries and (iii) other non-cash charges, in each case,
determined on a consolidated basis in accordance with generally accepted
accounting principles; provided, however, that there shall not be included in
such Adjusted Consolidated Net Income any net income of any Person if such
Person is not a Subsidiary, except that (A) the Issuer's equity in the net
income of any such Person for such period shall be included in such Adjusted
Consolidated Net Income up to the aggregate amount of cash actually distributed
by such Person during such period to the Issuer or a Consolidated Subsidiary of
the Issuer as a dividend or other distribution and (B) the Issuer's equity in a
net loss of any such Person for such period shall be included in determining
such Adjusted Consolidated Net Income.

                  "Capital Stock" means any and all shares, interests, rights to
purchase, warrants, options, participations or other equivalents of or interests
in (however designated) corporate stock or limited liability company interests,
including any Preferred Stock or letter stock;

                         THIRD SUPPLEMENTAL INDENTURE 3
<PAGE>

provided that Hybrid Preferred Securities are not considered Capital Stock for
purposes of this definition.

                  "Clearstream" means Clearstream Banking, S.A.

                  "Comparable Treasury Issue" means the United States Treasury
security or securities selected by an Independent Investment Banker as having an
actual or interpolated maturity comparable to the remaining term of the Senior
Notes to be redeemed that would be utilized, at the time of selection and in
accordance with customary financial practice, in pricing new issues of corporate
debt securities of a comparable maturity to the remaining term of such Senior
Notes.

                  "Comparable Treasury Price" means, with respect to any
redemption date, (A) the average of the Reference Treasury Dealer Quotations for
such redemption date, after excluding the highest and lowest such Reference
Treasury Dealer Quotations, or (B) if the Trustee obtains fewer than four such
Reference Treasury Dealer Quotations, the average of all such quotations.

                  "Consolidated Debt" means the total Debt of the Issuer and its
Consolidated Subsidiaries, as set forth on the consolidated balance sheet of the
Issuer and its Consolidated Subsidiaries for the Issuer's most recently
completed fiscal quarter, prepared in accordance with generally accepted
accounting principles.

                  "Consolidated Interest Expense" means, for any period, the
total interest expense in respect of Consolidated Debt of the Issuer and its
Consolidated Subsidiaries, including, without duplication, (i) interest expense
attributable to capital leases, (ii) amortization of debt discount, (iii)
capitalized interest, (iv) cash and noncash interest payments, (v) commissions,
discounts and other fees and charges owed with respect to letters of credit and
bankers' acceptance financing, (vi) net costs under Interest Rate Protection
Agreements (including amortization of discount), and (vii) interest expense in
respect of obligations of other Persons that constitutes Debt of the Issuer or
any of its Consolidated Subsidiaries, provided, however, that Consolidated
Interest Expense shall exclude any costs otherwise included in interest expense
recognized on early retirement of debt.

                  "Consolidated Net Tangible Assets" means, at any date of
determination, the total amount of assets after deducting therefrom (i) all
current liabilities (excluding (A) any current liabilities that by their terms
are extendable or renewable at the option of the obligor thereon to a time more
than 12 months after the time as of which the amount thereof is being computed,
and (B) current maturities of long-term debt), and (ii) the value (net of any
applicable reserves) of all goodwill, trade names, trademarks, patents and other
like intangible assets, all as set forth on the consolidated balance sheet of
the Issuer and its Consolidated Subsidiaries for the Issuer's most recently
completed fiscal quarter, prepared in accordance with generally accepted
accounting principles. "Intangible assets" does not include any value write-up
of tangible assets in connection with acquisition transactions accounted for on
a purchase method.

                  "Consolidated Subsidiary" means any Subsidiary whose accounts
are or are required to be consolidated with the accounts of the Issuer in
accordance with generally accepted accounting principles.

                         THIRD SUPPLEMENTAL INDENTURE 4
<PAGE>

                  "DTC" means The Depository Trust Company, or any successor
thereto.

                  "Debt" means any obligation created or assumed by any Person
for the repayment of money borrowed and any purchase money obligation created or
assumed by such Person.

                  "Depositary" means, with respect to the Global Notes, DTC.

                  "Depositary Certification" has the meaning set forth in
Section 2.4 hereof.

                  "Euroclear" means The Euroclear System.

                  "Exchange Act" means the Securities Exchange Act of 1934, as
amended.

                  "Exchange Notes" means the 4.80% Series B Notes and 6.05%
Series B Notes to be offered to Holders in exchange for the 4.80% Series A Notes
and the 6.05% Series A Notes, respectively, pursuant to an Exchange Offer or
otherwise pursuant to a Registration of Senior Notes containing terms identical
in all material respects to the Senior Notes of such Series for which they are
exchanged, except that (i) interest thereon shall accrue from the last date on
which interest was paid on the Senior Notes or, if no such interest has been
paid, from the date of issuance of the Senior Notes and (ii) the provisions
relating to an increase in the stated rate of interest thereon upon the
occurrence of a Registration Default shall be eliminated, (iii) the transfer
restrictions and legends relating to restrictions on ownership and transfer
thereof as a result of the issuance of the Senior Notes without Registration
shall be eliminated, and (iv) each of the Exchange Notes so issued will be
represented by one or more Global Notes in book-entry form unless exchanged for
Exchange Notes in definitive certificated form under the circumstances provided
hereunder.

                  "Exchange Offer" means the exchange offer by the Issuer of
Exchange Notes for Senior Notes pursuant to the Registration Rights Agreement.

                  "Exchangeable Stock" means any Capital Stock of a corporation
or a limited liability company that is exchangeable or convertible into another
security (other than Capital Stock of such corporation or limited liability
company that is neither Exchangeable Stock nor Redeemable Stock).

                  "Fixed Charge Coverage Ratio" means the ratio of Adjusted
Consolidated Net Income plus Consolidated Interest Expense to Consolidated
Interest Expense, for the four fiscal quarters of the Issuer ending immediately
prior to the date of determination.

                  "Funded Debt" means all Debt maturing one year or more from
the date of the creation thereof, all Debt directly or indirectly renewable or
extendable, at the option of the debtor, by its terms or by the terms of any
instrument or agreement relating thereto, to a date one year or more from the
date of the creation thereof, and all Debt under a revolving credit or similar
agreement obligating the lender or lenders to extend credit over a period of one
year or more.

                         THIRD SUPPLEMENTAL INDENTURE 5
<PAGE>

                  "Global Note" means a Senior Note bearing a legend specified
in Section 6.1 evidencing all or part of a series of Senior Notes, issued to the
Depositary or its nominee with respect to such Series and registered in the name
of such Depositary or nominee.

                  "Holder" means a Person in whose name a Senior Note is
registered.

                  "Hybrid Preferred Securities" means preferred securities
issued by a Hybrid Preferred Securities Subsidiary, where such preferred
securities have the following characteristics: (i) such Hybrid Preferred
Securities Subsidiary lends substantially all of the proceeds from the issuance
of such preferred securities to the Issuer in exchange for subordinated debt
issued by the Issuer; (ii) such preferred securities contain terms providing for
the deferral of distributions corresponding to provisions providing for the
deferral of interest payments on such subordinated debt; and (iii) the Issuer
makes periodic interest payments on such subordinated debt, which interest
payments are in turn used by the Hybrid Preferred Securities Subsidiary to make
corresponding payments to the holders of the Hybrid Preferred Securities.

                  "Hybrid Preferred Securities Subsidiary" means any business
trust or limited partnership (or similar entity) (i) all of the common equity
interest of which is owned (either directly or indirectly through one or more
wholly-owned Subsidiaries of the Issuer) at all times by the Issuer, (ii) that
has been formed for the purpose of issuing Hybrid Preferred Securities and (iii)
substantially all of the assets of which consist at all times solely of
subordinated debt issued by the Issuer and payments made from time to time on
such subordinated debt.

                  "Independent Investment Banker" means one of the Reference
Treasury Dealers appointed by the Trustee after consultation with the Issuer.

                  "Initial Senior Notes" means either the initial $300,000,000
million aggregate principal amount of 4.80% Senior Notes due 2008 or the initial
$250,000,000 million aggregate principal amount of 6.05% Senior Notes due 2013
issued under this Third Supplemental Indenture and when the context requires,
collectively.

                  "Interest Rate Protection Agreement" means any interest rate
swap agreement, interest rate cap agreement or other financial agreement or
arrangement designed to protect the Issuer or any of its Subsidiaries against
fluctuations in interest rates.

                  "Leverage Ratio" means 100% multiplied by the ratio of
Consolidated Debt to Total Capital at the end of the most recent fiscal quarter
preceding the date of determination.

                  "Lien" means any mortgage, pledge, security interest, charge,
lien or other encumbrance of any kind, whether or not filed, recorded or
perfected under applicable law.

                  "Loan" means any direct or indirect advance (other than
advances to customers in the ordinary course of business that are recorded as
receivables on the balance sheet of the Person making such advances), loan or
other extension of credit (including by way of guarantee or similar arrangement)
to another Person or any purchase of Debt issued by another Person, where such
advance, loan, extension of credit or Debt is subordinated in right of payment
to the senior creditors of the borrower.

                         THIRD SUPPLEMENTAL INDENTURE 6
<PAGE>

                  "Moody's" means Moody's Investors Service, Inc., and any
successor thereto which is a nationally recognized statistical rating
organization, or if such entity shall cease to rate the applicable Series of the
Senior Notes or shall cease to exist and there shall be no such successor
thereto, any other nationally recognized statistical rating organization
selected by the Issuer which is acceptable to the Trustee.

                  "Non-Convertible Capital Stock" means, with respect to any
corporation or any limited liability company, any non-convertible Capital Stock
of such corporation or limited liability company and any Capital Stock of such
corporation or limited liability company convertible solely into non-convertible
Capital Stock other than Preferred Stock of such corporation or limited
liability company; provided, however, that Non-Convertible Capital Stock shall
not include any Redeemable Stock or Exchangeable Stock.

                  "Owner Senior Notes Certification" has the meaning set forth
in Section 2.4 hereof.

                  "Permitted Liens" means:

                  (i) Liens upon rights-of-way for pipeline purposes;

                  (ii) any governmental Lien, mechanics', materialmen's,
         carriers' or similar Lien incurred in the ordinary course of business
         which is not yet due or which is being contested in good faith by
         appropriate proceedings and any undetermined Lien which is incidental
         to construction;

                  (iii) the right reserved to, or vested in, any municipality or
         public authority by the terms of any right, power, franchise, grant,
         license, permit or by any provision of law, to purchase or recapture or
         to designate a purchaser of, any property;

                  (iv) Liens for taxes and assessments which are (A) for the
         then current year, (B) not at the time delinquent, or (C) delinquent
         but the validity of which is being contested at the time by the Issuer
         or any of its Subsidiaries in good faith;

                  (v) Liens of, or to secure performance of, leases;

                  (vi) any Lien upon, or deposits of, any assets in favor of any
         surety company or clerk of court for the purpose of obtaining indemnity
         or stay of judicial proceedings;

                  (vii) any Lien upon property or assets acquired or sold by the
         Issuer or any Restricted Subsidiary resulting from the exercise of any
         rights arising out of defaults on receivables;

                  (viii) any Lien incurred in the ordinary course of business in
         connection with workmen's compensation, unemployment insurance,
         temporary disability, social security, retiree health or similar laws
         or regulations or to secure obligations imposed by statute or
         governmental regulations;

                         THIRD SUPPLEMENTAL INDENTURE 7
<PAGE>

                  (ix) any Lien upon any property or assets in accordance with
         customary banking practice to secure any Debt incurred by the Issuer or
         any Restricted Subsidiary in connection with the exporting of goods to,
         or between, or the marketing of goods in, or the importing of goods
         from, foreign countries; or

                  (x) any Lien in favor of the United States of America or any
         state thereof, or any other country, or any political subdivision of
         any of the foregoing, to secure partial, progress, advance or other
         payments pursuant to any contract or statute, or any Lien securing
         industrial development, pollution control or similar revenue bonds.

                  "Principal Property" means any natural gas pipeline system,
natural gas gathering system or natural gas storage facility located in the
United States, except any such property that in the opinion of the Board of
Directors is not of material importance to the business conducted by the Issuer
and its Consolidated Subsidiaries taken as a whole.

                  "Private Exchange Notes" shall mean any Senior Notes issued to
an Initial Purchaser (as defined in the Registration Rights Agreement)
simultaneously with the delivery of the Exchange Notes in an Exchange Offer, in
exchange for the Initial Senior Notes held by such Initial Purchaser, that are
identical (except that such Private Exchange Notes shall bear transfer
restrictions substantially in the form contained in Section 6.1 hereof with
respect to Rule 144A Global Notes, and other appropriate transfer restrictions)
to the Exchange Notes.

                  "Prospectus" shall mean the prospectus included in a
Registration Statement, including any preliminary prospectus, and any such
prospectus as amended or supplemented by any prospectus supplement, including
any such prospectus supplement with respect to the terms of the offering of any
portion of the Senior Notes covered by a Shelf Registration Statement, and by
all other amendments and supplements to a prospectus, including post-effective
amendments, and in each case including all material incorporated by reference
therein.

                  "Redeemable Stock" means any Capital Stock that by its terms
or otherwise is required to be redeemed prior to the 90th day before the stated
maturity of any of the outstanding Senior Notes of any Series or is redeemable
at the option of the holder thereof at any time prior to the 90th day before the
stated maturity of any of the outstanding Senior Notes of either Series.

                  "Reference Treasury Dealer" means each of Merrill Lynch,
Pierce, Fenner & Smith Incorporated, J.P. Morgan Securities Inc. or their
affiliates plus three others which are primary U.S. Government securities
dealers, and their respective successors; provided, however, that if any of the
foregoing or their affiliates shall cease to be a primary U.S. Government
securities dealer in The City of New York (a "Primary Treasury Dealer"), the
Issuer shall substitute therefor another Primary Treasury Dealer.

                  "Reference Treasury Dealer Quotations" means, with respect to
each Reference Treasury Dealer and any redemption date, the average, as
determined by the Trustee, of the bid and asked prices for the Comparable
Treasury Issue (expressed in each case as a percentage of its principal amount)
quoted in writing to the Trustee by such Reference Treasury Dealer at 3:30 p.m.
New York time on the third Business Day preceding such redemption date.

                         THIRD SUPPLEMENTAL INDENTURE 8
<PAGE>

                  "Registration" means a registered exchange offer for any
Senior Notes by the Issuer pursuant to a Registration Statement or other
registration for resale of any Senior Notes under the Securities Act pursuant to
a Shelf Registration Statement, in each case in accordance with the terms of the
Registration Rights Agreement.

                  "Registration Default" has the meaning set forth in the
Registration Rights Agreement.

                  "Registration Rights Agreement" has the meaning set forth in
the recitals to this Third Supplemental Indenture, and shall also include any
registration rights agreements entered into by the Issuer in connection with the
issuance of any Additional Senior Notes.

                  "Registration Statement" means a registration statement of the
Issuer under the Securities Act registering (i) the exchange of 4.80% Series A
Notes or 6.05% Series A Notes, respectively, for 4.80% Series B Notes or 6.05%
Series B Notes, for distribution pursuant to the Exchange Offer, or (ii) the
resale of the Initial Senior Notes or Private Exchange Notes pursuant to a Shelf
Registration Statement.

                  "Regulation S Legend" has the meaning set forth in Section 6.1
hereof.

                  "Regulation S Restricted Period" means the 40 calendar days
after the original issue date of the Senior Notes.

                  "Regulation S Global Note" has the meaning set forth in
Section 2.4 hereof.

                  "Restricted Subsidiary" means any Subsidiary of the Issuer
owning or leasing any Principal Property.

                  "Rule 144A" means Rule 144A under the Securities Act.

                  "Rule 144A Global Note" has the meaning set forth in Section
2.4 hereof.

                  "Rule 144A Legend" has the meaning set forth in Section 6.1
hereof.

                  "Sale-Leaseback Transaction" means, with respect to the Issuer
or any Restricted Subsidiary, the sale or transfer by the Issuer or such
Restricted Subsidiary of any Principal Property to a Person (other than the
Issuer or a Subsidiary of the Issuer) and the taking back by the Issuer or such
Restricted Subsidiary, as the case may be, of a lease of such Principal
Property. With respect to the Issuer, "Sale-Leaseback Transaction" means the
sale or transfer by the Issuer of any assets or property to another Person and
the taking back by the Issuer of a lease of such assets or property.

                  "SEC" means the Securities and Exchange Commission, as from
time to time constituted, created under the Securities Exchange Act of 1934, as
amended, or, if at any time after the execution of this Third Supplemental
Indenture such Commission is not existing and performing the duties now assigned
to it under the Trust Indenture Act, then the body performing such duties at
such time.

                         THIRD SUPPLEMENTAL INDENTURE 9
<PAGE>

                  "Securities Act" means the Securities Act of 1933, as amended.

                  "Senior Notes" has the meaning assigned to it in the recitals
to this Third Supplemental Indenture. The Initial Senior Notes and the
Additional Senior Notes shall be treated as a single class for all purposes
under this Third Supplemental Indenture, and unless the context otherwise
requires, all references to the Senior Notes shall include the Initial Senior
Notes, the Exchange Notes, the Private Exchange Notes and any Additional Senior
Notes.

                  "Series" means either the 4.80% Senior Notes due 2008 or the
6.05% Senior Notes due 2013. For the avoidance of doubt, each Series includes
both the Initial Senior Notes and any Additional Senior Notes issued pursuant to
such Series.

                  "Shelf Registration Statement" shall mean a "shelf"
registration statement of the Issuer which covers all or a portion of the Senior
Notes (other than Exchange Notes) on an appropriate form under Rule 415 under
the Securities Act, or any similar rule that may be adopted by the SEC, and all
amendments and supplements to such registration statement, including
post-effective amendments, in each case including the Prospectus contained
therein, all exhibits thereto and all material incorporated by reference
therein.

                  "Standard & Poor's" means Standard & Poor's, a division of The
McGraw-Hill Companies, Inc., and any successor thereto which is a nationally
recognized statistical rating organization, or if such entity shall cease to
rate the applicable Series of the Senior Notes or shall cease to exist and there
shall be no such successor thereto, any other nationally recognized statistical
rating organization selected by the Issuer which is acceptable to the Trustee.

                  "Subsidiary" means, with respect to any Person, (i) any
corporation at least a majority of whose outstanding Voting Stock shall at the
time be owned, directly or indirectly, by such Person or by one or more of its
Subsidiaries or by such Person and one or more of its Subsidiaries, (ii) any
limited liability company, general partnership, joint venture or similar entity,
at least a majority of whose outstanding membership, partnership or similar
interests shall at the time be owned by such Person, or by one or more of its
Subsidiaries, or by such Person and one or more of its Subsidiaries and (iii)
any limited partnership of which such Person or any of its Subsidiaries is a
general partner.

                  "Temporary Regulation S Global Note" has the meaning set forth
in Section 2.4 hereof.

                  "Total Capital" means the sum of (i) Consolidated Debt and
(ii) Capital Stock, Hybrid Preferred Securities, premium on Capital Stock,
capital surplus, capital in excess of par value and retained earnings (however
the foregoing may be designated), less, to the extent not otherwise deducted,
the cost of shares of Capital Stock of the Issuer held in treasury, all as set
forth on the consolidated balance sheet of the Issuer and its Consolidated
Subsidiaries for the Issuer's most recently completed fiscal quarter, prepared
in accordance with generally accepted accounting principles.

                  "Treasury Rate" means, with respect to any redemption date,
the rate per annum equal to the semiannual equivalent yield to maturity or
interpolated (on a day count basis) of the Comparable Treasury Issue, assuming a
price for the Comparable Treasury Issue (expressed as a

                         THIRD SUPPLEMENTAL INDENTURE 10
<PAGE>

percentage of its principal amount) equal to the Comparable Treasury Price for
such redemption date.

                  "Voting Stock" means securities of any class or classes the
holders of which are ordinarily, in the absence of contingencies, entitled to
vote for corporate directors or managers (in the case of a limited liability
company) (or persons performing similar functions).

                  (g) solely for purposes of this Third Supplemental Indenture,

                      (1) the defined term "Business Day" contained in Section
           1.01 of the Base Indenture shall be replaced in its entirety by the
           following new definition:

                  "Business Day" means a day on which banking institutions in
the Borough of Manhattan, New York, New York are not authorized or required by
law or regulation to close; and

                      (2) the defined term "Board of Directors" contained in
           Section 1.01 of the Base Indenture shall be deemed to include the
           Board of Managers of a limited liability company.

                                   ARTICLE II.

                         GENERAL TERMS AND CONDITIONS OF
                                THE SENIOR NOTES

                  SECTION 2.1 Designation and Principal Amount of the 4.80%
Series A Notes and the 6.05% Series A Notes.

                  There is hereby authorized two series of Debt Securities
designated as follows:

                  (a) The "4.80% Senior Notes due 2008, Series A", the principal
amount of which shall be as set forth in any written order of the Issuer for the
authentication and delivery of Senior Notes pursuant to Section 2.4 of the Base
Indenture; and

                  (b) The "6.05% Senior Notes due 2013, Series A" , the
principal amount of which shall be as set forth in any written order of the
Issuer for the authentication and delivery of Senior Notes pursuant to Section
2.4 of the Base Indenture;

provided, however, that Additional Senior Notes may be issued by the Issuer at
any time subject to the terms and conditions of the Base Indenture and this
Third Supplemental Indenture, provided, that at the time of such issuance no
Default or Event of Default shall have occurred and be continuing.

                  The initial principal amount of the 4.80% Series A Notes shall
be $ 300,000,000, and the initial principal amount of the 6.05% Series A Notes
shall be $ 250,000,000.

                         THIRD SUPPLEMENTAL INDENTURE 11
<PAGE>

                  SECTION 2.2 Maturity of the 4.80% Series A Notes and the 6.05%
Series A Notes.

                  The 4.80% Series A Notes will mature on August 15, 2008 and
the 6.05% Series A Notes will mature on August 15, 2013.

                  SECTION 2.3 Interest on the 4.80% Series A Notes and the 6.05%
Series A Notes.

                  Interest shall accrue from the date set forth, and shall be
payable on the 4.80% Series A Notes and the 6.05% Series A Notes in the
respective amount and as otherwise set forth, in the respective form of such
Senior Note appearing in Article VI of this Third Supplemental Indenture.

                  SECTION 2.4 Form of the 4.80% Series A Notes and the 6.05%
Series A Notes.

                  The form of the 4.80% Series A Notes and the 6.05% Series A
Notes shall be substantially in the form provided for in Article VI for such
Senior Notes. The terms of each of the 4.80% Series A Notes and the 6.05% Series
A Notes form part of this Third Supplemental Indenture. The 4.80% Series A Notes
and 6.05% Series A Notes shall be respectively represented by one or more Global
Notes in definitive, registered form, without interest coupons. The 4.80% Series
A Notes and 6.05% Series A Notes will be initially issued as Global Notes
registered in the name of Cede & Co. (as nominee for DTC, New York, New York,
which, together with its nominees and their successors, is hereby designated the
Depositary for the 4.80% Series A Notes and 6.05% Series A Notes). The 4.80%
Series A Notes and 6.05% Series A Notes shall initially contain restrictions on
transfer, substantially as described in the form set forth in Section 6.1. Each
4.80% Series A Notes and 6.05% Series A Notes, whether in the form of a Global
Note or in certificated form, shall initially bear a non-registration legend and
a Restricted Certificate of Transfer, in each case in substantially the form set
forth in such form.

                  Beneficial interests in Senior Notes owned by qualified
institutional buyers (as defined in Rule 144A under the Securities Act) ("QIBs")
or sold to QIBs in reliance upon Rule 144A under the Securities Act will be
represented by one or more global certificates registered in the name of Cede &
Co., as registered owner and as nominee for DTC, or another nominee designated
by DTC (the "Rule 144A Global Notes") in definitive, fully registered form
without interest coupons in denominations of US$1,000 and any integral multiples
of US$1,000. Senior Notes of each Series sold outside the United States in
offshore transactions in reliance on Regulation S under the Securities Act, will
be represented by one or more Temporary Global Notes (each, a "Temporary
Regulation S Global Note") in definitive, fully registered form without interest
coupons in denominations of US$1,000 and any integral multiples of US$1,000, and
will be deposited with the Trustee as custodian for DTC and registered in the
name of Cede & Co., or another nominee designated by DTC for the respective
accounts of Euroclear and Clearstream. The Trustee and the Issuer will have no
responsibility under the Indenture for transfers of beneficial interests in the
4.80% Series A Notes or the 6.05% Series A Notes. So long as a Senior Note bears
a non-registration legend and a Restricted Certificate of Transfer the Trustee
shall authenticate and issue new Senior Notes upon a registration of transfer
only upon

                         THIRD SUPPLEMENTAL INDENTURE 12
<PAGE>

receipt of a Restricted Certificate of Transfer in the form set forth in Section
6.1 hereof. The Trustee shall refuse to register any transfer of a Senior Note
in violation of the legend set forth on such Senior Note and without appropriate
completion of the Restricted Certificate of Transfer on such Senior Note.

                  During the Regulation S Restricted Period, beneficial
interests in a Temporary Regulation S Global Note may only be held through
Euroclear and Clearstream until such interests are exchanged for corresponding
interests in an unrestricted Global Note (the "Regulation S Global Note") as
provided in the next sentence. A holder of a beneficial interest in a Regulation
S Temporary Global Note must provide written certification (an "Owner Senior
Notes Certification") to Euroclear or Clearstream, as the case may be, that the
beneficial owner of the interest in such Global Note is not a U.S. Person (as
defined in Rule 902(k) under the Securities Act) or is a U.S. Person who
purchased such beneficial interest in a transaction that did not require
registration under the Securities Act in the form set forth in Exhibit A, and
Euroclear or Clearstream, as the case may be, must provide to the Trustee a
similar certification in the form set forth in Exhibit B (a "Depositary
Certification"), prior to any exchange of such beneficial interest for a
beneficial interest in a Regulation S Global Note. Any such exchange may take
place only after the expiration of the Regulation S Restricted Period. After any
such exchange, Holders of beneficial interests of the Regulation S Global Notes
may hold such interests through organizations other than Euroclear and
Clearstream that are participants in DTC.

                  Subject to the conditions set forth therein and in the
Indenture, pursuant to the Registration Rights Agreement, the non-registration
legend and the Restricted Certificate of Transfer may be removed or rendered
inapplicable in the event of the consummation of an Exchange Offer or upon a
resale under an effective Shelf Registration Statement, in each case, in respect
of the 4.80% Series A Notes and the 6.05% Series A Notes, as the case may be.

                  SECTION 2.5 Special Transfer Provisions.

         For the purposes of this Third Supplemental Indenture, unless and until
a 4.80% Series A Note or a 6.05% Series A Note is exchanged for an Exchange Note
or is resold, in each case in connection with an effective Registration
Statement pursuant to the Registration Rights Agreement, the following
provisions shall apply to each such Senior Note:

                  (a) Transfers of Interests in a Rule 144A Global Note. With
respect to the registration of any proposed transfer of an interest in a Rule
144A Global Note, if the Senior Note to be transferred consists of a Rule 144A
Global Note (i) to be transferred to a transferee who takes delivery in the form
of an interest in a Temporary Regulation S Global Note or a Regulation S Global
Note (if after the Regulation S Restricted Period), the registrar shall register
the transfer if such transfer is being made by a proposed transferor who has
delivered to the registrar a Restricted Certificate of Transfer substantially in
the form set forth in Section 6.1 hereof or (ii) to be transferred to a
transferee who takes delivery in the form of an interest in a Rule 144A Global
Note, the transfer of such interest may be effected only through the book entry
system maintained by the Depositary.

                         THIRD SUPPLEMENTAL INDENTURE 13
<PAGE>

                  (b) Transfers of Interests in a Temporary Regulation S Global
Note. With respect to registration of any proposed transfer of an interest in a
Temporary Regulation S Global Note to a person who takes delivery in the form of
a Restricted Senior Note or an interest in a Rule 144A Global Note, the
registrar shall register the transfer of any Senior Note if the proposed
transferor has delivered to the Issuer a Restricted Certificate of Transfer from
the transferor substantially in the form set forth in Section 6.1 hereof or a
certificate from the transferee advising the Issuer that it is purchasing the
Senior Note for its own account or an account with respect to which it exercises
sole investment discretion and that it and any such account is a QIB within the
meaning of Rule 144A, and is aware that the sale to it is being made in reliance
on Rule 144A and that the Senior Notes delivered to it shall bear the Rule 144A
Legend and acknowledges that it has received such information regarding the
Issuer as it has requested pursuant to Rule 144A and that it is aware that the
transferor is relying upon its foregoing representations in order to claim the
exemption from registration provided by Rule 144A. The Issuer shall use its best
efforts to cause the Depositary to ensure that beneficial interests in a
Regulation S Temporary Global Note may be held only in or through accounts
maintained at the Depositary by or on behalf of Euroclear or Clearstream, and no
Person shall be entitled to effect any transfer or exchange that would result in
any such interest being held otherwise than in or through such account, except
as provided in this Section 2.5.

                  SECTION 2.6 Designation and Principal Amount of the 4.80%
Series B Notes and the 6.05% Series B Notes.

                  There is hereby authorized two series of Debt Securities
designated as follows:

                  (a) The "4.80% Senior Notes due 2008, Series B", the principal
amount of which shall be as set forth in any written order of the Issuer for the
authentication and delivery of Senior Notes pursuant to Section 2.4 of the Base
Indenture; and

                  (b) The "6.05% Senior Notes due 2013, Series B", the principal
amount of which shall be as set forth in any written order of the Issuer for the
authentication and delivery of Senior Notes pursuant to Section 2.4 of the Base
Indenture;

provided, however, that Additional Senior Notes may be issued by the Issuer at
any time subject to the terms and conditions of the Base Indenture and this
Third Supplemental Indenture, provided, that at the time of such issuance no
Default or Event of Default shall have occurred and be continuing.

                  The initial principal amount of the 4.80% Series B Notes shall
not exceed $300,000,000, and the initial principal amount of the 6.05% Series B
Notes shall not exceed $250,000,000.

                  SECTION 2.7 Maturity of the 4.80% Series B Notes and the 6.05%
Series B Notes.

                  The 4.80% Series B Notes will mature on August 15, 2008 and
the 6.05% Series B Notes will mature on August 15, 2008.

                         THIRD SUPPLEMENTAL INDENTURE 14
<PAGE>

                  SECTION 2.8 Interest on the 4.80% Series B Notes and the 6.05%
Series B Notes.

                  Interest shall accrue from the date set forth, and shall be
payable on the 4.80% Series B Notes and the 6.05% Series B Notes in the
respective amount and as otherwise set forth, in the respective form of such
Senior Note appearing in Article VI of this Third Supplemental Indenture.

                  SECTION 2.9 Form of the 4.80% Series B Notes and the 6.05%
Series B Notes.

                  The form of each of the 4.80% Series B Notes and the 6.05%
Series B Notes shall be substantially in the form provided for in Article VI for
such Senior Notes, and such Senior Notes, being Exchange Notes, shall not
contain terms with respect to transfer restrictions (unless they are Private
Exchange Notes) or additional interest payable upon the occurrence of a
Registration Default. The terms of the 4.80% Series B Notes and the 6.05% Series
B Notes form part of this Third Supplemental Indenture. The 4.80% Series B Notes
and 6.05% Series B Notes shall be respectively represented by one or more Global
Notes in definitive, registered form, without interest coupons. The 4.80% Series
B Notes and 6.05% Series B Notes will be initially issued as Global Notes
registered in the name of Cede & Co. (as nominee for DTC, New York, New York,
which, together with its nominees and their successors, is hereby designated the
Depositary for the 4.80% Series B Notes and 6.05% Series B Notes).

                  SECTION 2.10 Redemption of the Senior Notes.

                  The Senior Notes will be redeemable as a whole or in part, at
the option of the Issuer at any time, at a redemption price equal to the greater
of (i) 100% of the principal amount of such Senior Notes and (ii) the sum of the
present values of the remaining scheduled payments of principal and interest
thereon (exclusive of interest accrued to the date of redemption) discounted to
the redemption date on a semiannual basis (assuming a 360-day year consisting of
twelve 30-day months) at the Treasury Rate plus 20 basis points in the case of
the 4.80% Senior Notes due 2008 or 25 basis points in the case of the 6.05%
Senior Notes due 2013, plus in each case accrued and unpaid interest thereon to
the date of redemption.

                  Notice of any redemption will be mailed at least 30 days but
not more than 60 days before the redemption date by the Issuer or by the Trustee
on the Issuer's behalf to each Holder of Senior Notes to be redeemed.

                  Unless the Issuer defaults in payment of the redemption price,
on and after the applicable redemption date interest will cease to accrue on the
Senior Notes or portions thereof called for redemption.

                         THIRD SUPPLEMENTAL INDENTURE 15
<PAGE>

                                  ARTICLE III.

                                    COVENANTS

                  SECTION 3.1 Limitation on Restricted Payments.

                  (a) So long as any of the Senior Notes are outstanding and
during any time that such Senior Notes are rated below Baa3 (or an equivalent
rating) by Moody's and below BBB- (or an equivalent rating) by Standard &
Poor's, the Issuer will not, and will not permit any of its Restricted
Subsidiaries, directly or indirectly, to:

                           (i) declare or pay any dividend or make any
                  distribution on the Capital Stock of the Issuer to the direct
                  or indirect holders of its Capital Stock (except dividends or
                  distributions payable solely in its Non-Convertible Capital
                  Stock or in options, warrants or other rights to purchase such
                  Non-Convertible Capital Stock and except dividends or
                  distributions payable to the Issuer or a Subsidiary of the
                  Issuer);

                           (ii) purchase, redeem or otherwise acquire or retire
                  for value any Capital Stock of the Issuer; or

                           (iii) make any Loan to Southern Union or any of its
                  Affiliates that is not a Subsidiary of the Issuer;

(any such dividend, distribution, purchase, redemption, other acquisition,
retirement or Loan described in (i) through (iii) above being hereinafter
referred to as a "Restricted Payment"), unless at the time the Issuer or such
Restricted Subsidiary makes such Restricted Payment and after giving effect
thereto:

                                    (1) no Default or Event of Default shall
                  have occurred and be continuing (or would result therefrom);

                                    (2) the Issuer's Fixed Charge Coverage Ratio
                  is greater than or equal to 2.2; and

                                    (3) the Issuer's Leverage Ratio is less than
                  or equal to 55%.

                  Notwithstanding the foregoing, the Issuer or any of its
Restricted Subsidiaries may declare, make or pay any Restricted Payment, if at
the time the Issuer or such Restricted Subsidiary makes such Restricted Payment
and after giving effect thereto:

                                    (1) no Default or Event of Default shall
                  have occurred and be continuing (or would result therefrom);
                  and

                                    (2) the aggregate amount of such Restricted
                  Payment and all other Restricted Payments made since the
                  original date of issuance of the Initial Senior Notes would
                  not exceed the sum of:

                         THIRD SUPPLEMENTAL INDENTURE 16
<PAGE>

                                    (A) $175 million;

                                    (B) 75% of Adjusted Consolidated Net Income
                                    accumulated since the original date of
                                    issuance of the Initial Senior Notes to the
                                    end of the most recent fiscal quarter ending
                                    at least 45 days prior to the date of such
                                    Restricted Payment; and

                                    (C) the aggregate net cash proceeds received
                                    by the Issuer after the original date of
                                    issuance of the Initial Senior Notes from
                                    capital contributions or the issuance of
                                    Capital Stock of the Issuer to a Person who
                                    is not a Subsidiary of the Issuer, or from
                                    the issuance to such a Person of options,
                                    warrants or other rights to acquire such
                                    Capital Stock of the Issuer.

                  None of the foregoing provisions will prohibit:

                           (i) dividends or other distributions paid in respect
                  of any class of Capital Stock issued by the Issuer in
                  connection with the acquisition of any business or assets by
                  the Issuer or a Restricted Subsidiary where the dividends or
                  other distributions with respect to such Capital Stock are
                  payable solely from the net earnings of such business or
                  assets;

                           (ii) any purchase or redemption of Capital Stock of
                  the Issuer made by exchange for, or out of the proceeds of the
                  substantially concurrent sale of, Non-Convertible Capital
                  Stock of the Issuer; or

                           (iii) dividends paid within 60 days after the date of
                  declaration thereof if at such date of declaration such
                  dividends would have complied with this covenant.

                  SECTION 3.2 Limitation on Liens.

                  (a) The Issuer shall not, nor will it permit any Restricted
Subsidiary to, create, assume, incur or suffer to exist any Lien upon any
Principal Property, whether owned or leased on the date of the Indenture or
thereafter acquired, to secure any Debt of the Issuer or any other Person (other
than the Senior Notes), without in any such case making effective provision
whereby all of the Senior Notes outstanding shall be secured equally and ratably
with, or prior to, such Debt so long as such Debt shall be so secured. There is
excluded from this restriction:

                           (i) any Lien upon any property or assets of the
                  Issuer or any Restricted Subsidiary in existence on the date
                  of the Indenture or created pursuant to an "after-acquired
                  property" clause or similar term in existence on the date of
                  the Indenture or any mortgage, pledge agreement, security
                  agreement or other similar instrument in existence on the date
                  of the Indenture;

                           (ii) any Lien upon any property or assets created at
                  the time of acquisition of such property or assets by the
                  Issuer or any Restricted Subsidiary or within 18 months after
                  such time to secure all or a portion of the purchase price

                         THIRD SUPPLEMENTAL INDENTURE 17
<PAGE>

                  for such property or assets or Debt incurred to finance such
                  purchase price, whether such Debt was incurred prior to, at
                  the time of or within 18 months of such acquisition;

                           (iii) any Lien upon any property or assets existing
                  thereon at the time of the acquisition thereof by the Issuer
                  or any Restricted Subsidiary (whether or not the obligations
                  secured thereby are assumed by the Issuer or any Restricted
                  Subsidiary);

                           (iv) any Lien upon any property or assets of a Person
                  existing thereon at the time such Person becomes a Restricted
                  Subsidiary by acquisition, merger or otherwise (whether or not
                  such Lien was created in anticipation of such acquisition);

                           (v) any Lien securing obligations assumed by the
                  Issuer or any Restricted Subsidiary existing at the time of
                  the acquisition by the Issuer or any Restricted Subsidiary of
                  the property or assets subject to such Lien or at the time of
                  the acquisition of the Person which owns such property or
                  assets;

                           (vi) any Lien on property to secure all or part of
                  the cost of construction or improvements thereon or to secure
                  Debt incurred prior to, at the time of, or within 18 months
                  after completion of such construction or making of such
                  improvements, to provide funds for any such purpose;

                           (vii) any Lien in favor of the Issuer or any
                  Restricted Subsidiary;

                           (viii) any Lien created or assumed by the Issuer or
                  any Restricted Subsidiary in connection with the issuance of
                  Debt the interest on which is excludable from gross income of
                  the holder of such Debt pursuant to the Internal Revenue Code
                  of 1986, as amended, or any successor statute, for the purpose
                  of financing, in whole or in part, the acquisition or
                  construction of property or assets to be used by the Issuer or
                  any Subsidiary;

                           (ix) any Lien upon property or assets of any foreign
                  Restricted Subsidiary to secure Debt of that foreign
                  Restricted Subsidiary;

                           (x) Permitted Liens;

                           (xi) any Lien created by any program providing for
                  the financing, sale or other disposition of trade or other
                  receivables classified as current assets in accordance with
                  United States generally accepted accounting principles entered
                  into by the Issuer or by a Subsidiary of the Issuer, provided
                  that such program is on terms customary for similar
                  transactions, or any document executed by any Subsidiary of
                  the Issuer in connection therewith, provided that such Lien is
                  limited to the trade or other receivables in respect of which
                  such program is created or exists, and the proceeds thereof;

                         THIRD SUPPLEMENTAL INDENTURE 18
<PAGE>

                           (xii) any Lien upon any additions, improvements,
                  replacements, repairs, fixtures, appurtenances or component
                  parts thereof attaching to or required to be attached to
                  property or assets pursuant to the terms of any mortgage,
                  pledge agreement, security agreement or other similar
                  instrument, creating a Lien upon such property or assets
                  permitted by clauses (i) through (xi), inclusive, above; or

                           (xiii) any extension, renewal, refinancing, refunding
                  or replacement (or successive extensions, renewals,
                  refinancing, refundings or replacements) of any Lien, in whole
                  or in part, that is referred to in clauses (i) through (vi),
                  inclusive, above (and Liens related thereto referred to in
                  clause (xii) above), or of any Debt secured thereby; provided,
                  however, that the principal amount of Debt secured thereby
                  shall not exceed the greater of the principal amount of Debt
                  so secured at the time of such extension, renewal,
                  refinancing, refunding or replacement and the original
                  principal amount of Debt so secured (plus in each case the
                  aggregate amount of premiums, other payments, costs and
                  expenses paid or incurred in connection with such extension,
                  renewal, refinancing, refunding or replacement); provided
                  further, however, that such extension, renewal, refinancing,
                  refunding or replacement shall be limited to all or a part of
                  the property (including improvements, alterations and repairs
                  on such property) subject to the encumbrance so extended,
                  renewed, refinanced, refunded or replaced (plus improvements,
                  alterations and repairs on such property).

                  Notwithstanding the foregoing, the Issuer may, and may permit
any Restricted Subsidiary to, create, assume, incur, or suffer to exist any Lien
upon any Principal Property to secure Debt of the Issuer or any other Person
(other than the Senior Notes) that is not otherwise excepted by clauses (i)
through (xiii), inclusive, above without securing the Senior Notes, provided
that the aggregate principal amount of all Debt then outstanding secured by such
Lien and all similar Liens, together with all net sale proceeds from
Sale-Leaseback Transactions (excluding Sale-Leaseback Transactions permitted by
clauses (i) through (iv), inclusive, of Section 3.3(a) of this Third
Supplemental Indenture) does not exceed the greater of 15% of Consolidated Net
Tangible Assets or 15% of Total Capital.

                  SECTION 3.3 Restriction on Sale-Leasebacks.

                  (a) The Issuer shall not, nor shall it permit any Restricted
Subsidiary to, engage in a Sale-Leaseback Transaction, unless:

                           (i) the Sale-Leaseback Transaction occurs within 18
                  months from the date of acquisition of the Principal Property
                  subject thereto or the date of the completion of construction
                  or commencement of full operations on such Principal Property,
                  whichever is later;

                           (ii) the Sale-Leaseback Transaction involves a lease
                  for a period, including renewals, of not more than four years;

                           (iii) the Issuer or such Restricted Subsidiary would
                  be entitled to incur Debt secured by a Lien on the Principal
                  Property subject thereto (pursuant to

                         THIRD SUPPLEMENTAL INDENTURE 19
<PAGE>

                  clauses (i) through (xiii), inclusive, of the first paragraph
                  of Section 3.2(a) of this Third Supplemental Indenture) in a
                  principal amount equal to or exceeding the net sale proceeds
                  from the Sale-Leaseback Transaction without securing the
                  Senior Notes; or

                           (iv) the Issuer or such Restricted Subsidiary, within
                  an 18-month period after such Sale-Leaseback Transaction,
                  applies or causes to be applied an amount not less than the
                  net sale proceeds from such Sale-Leaseback Transaction to (A)
                  the repayment, redemption or retirement of Funded Debt of the
                  Issuer or any Subsidiary of the Issuer, or (B) investment in
                  another Principal Property or in a Subsidiary of the Issuer
                  which owns another Principal Property.

                  Notwithstanding the foregoing, the Issuer may, and may permit
any Restricted Subsidiary to, effect any Sale-Leaseback Transaction that is not
otherwise excepted by clauses (i) through (iv), inclusive, above, provided that
the net sale proceeds from such Sale-Leaseback Transaction, together with the
aggregate principal amount of outstanding Debt (other than the Senior Notes)
secured by Liens upon any Principal Properties not excepted by clauses (i)
through (xiii), inclusive, of Section 3.2(a) of this Third Supplemental
Indenture, do not exceed the greater of 15% of Consolidated Net Tangible Assets
or 15% of Total Capital.

                  SECTION 3.4 Financial Information.

                  Whether or not required by the SEC's rules and regulations, so
long as any Senior Notes are outstanding, the Issuer shall furnish to the
Holders of the Senior Notes, within the time periods specified in the SEC's
rules and regulations:

     (1)  all quarterly and annual reports that would be required to be filed
          with the SEC on Forms 10-Q and 10-K if the Issuer was required to file
          such reports; and

     (2)  all current reports that would be required to be filed with the SEC on
          Form 8-K if the Issuer was required to file such reports.

                  The Issuer will be required to prepare all such reports in all
material respects in accordance with all applicable rules and regulations. The
Issuer will include in each annual report on Form 10-K a report on its
consolidated financial statements by its certified public accountant. In
addition, whether or not required by the SEC, the Issuer shall file a copy of
each of the reports referred to in clauses (1) and (2) above with the SEC for
public availability within the time periods specified in the SEC's applicable
rules and regulations (unless the SEC will not accept such a filing) and make
that information available to securities analysts and prospective investors upon
request.

                  This Issuer currently files reports with the SEC on a
voluntary basis. Following the consummation of the Exchange Offer contemplated
by the Registration Rights Agreement, the Issuer will be required under the
Exchange Act to file such reports. If, at any time after consummation of the
Exchange Offer contemplated by the Registration Rights Agreement, the Issuer is
no longer subject to the periodic reporting requirements of the Exchange Act for
any reason, the Issuer will nevertheless continue filing the reports specified
in the preceding paragraphs with the SEC within the time periods specified above
unless the SEC will not accept

                         THIRD SUPPLEMENTAL INDENTURE 20
<PAGE>

such a filing. The Issuer agrees not to take any action for the purpose of
causing the SEC not to accept any such filings. If, notwithstanding the
foregoing, the SEC will not accept the Issuer's filings for any reason, the
Issuer will post the reports referred to in this Section 3.4 on the website
www.panhandleenergy.com within the time periods that would apply if the Issuer
was required to file those reports with the SEC.

                  For so long as any Senior Notes remain outstanding, at any
time the Issuer is not required to file the reports required by this Section 3.4
with the SEC, the Issuer shall furnish at the Issuer's cost to the Holders and
to securities analysts and prospective investors, upon their request, the
information required to be delivered pursuant to Rule 144A(d)(4) under the
Securities Act.

                  SECTION 3.5 Applicability of Covenants.

                  Unless otherwise stated herein, the foregoing covenants
contained in this Article III shall only be in effect so long as any of the
Senior Notes are outstanding.

                                   ARTICLE IV.

                                     DEFAULT

                  SECTION 4.1 General.

                  All of the events specified in paragraphs (1) through (6) in
Section 6.01(a) of the Base Indenture shall be "Events of Default" with respect
to each Series of Senior Notes.

                  SECTION 4.2 Additional Event of Default.

                  The following event shall be an "Event of Default" with
respect to each Series of Senior Notes: as a result of any action taken by the
Issuer or its direct or indirect equity holders, there is a change in the
Issuer's federal income tax status or a change in the deemed issuer of any
Senior Note of such Series for federal income tax purposes, unless (i) Holders
of more than 50% in principal amount of the applicable Series of the Senior
Notes consent to such change or (ii) (a) the Issuer certifies to the Trustee
that it has received a ruling from the Internal Revenue Service or (b) the
Issuer delivers to the Trustee an opinion of nationally recognized independent
counsel reasonably acceptable in form and substance to the Trustee, in either
case to the effect that the Holders of the applicable Series of Senior Notes
will not recognize income, gain or loss for federal income tax purposes as a
result of the change and that such Holders will be subject to federal income tax
on the same amounts, in the same manner and at the same times as would have been
the case if the change had not occurred.

                         THIRD SUPPLEMENTAL INDENTURE 21
<PAGE>

                                   ARTICLE V.

                                   DEFEASANCE

                  SECTION 5.1 General.

                  All of the provisions of Article XI of the Base Indenture
shall be applicable to the Senior Notes.

                  SECTION 5.2 Covenant Defeasance.

                  With respect to and pursuant to the terms of Section 11.02(b)
of the Base Indenture, the release of covenant obligations provided for therein
shall, with respect to the Senior Notes, also apply to Section 3.1, Section 3.2,
and Section 3.3 of this Third Supplemental Indenture.

                                   ARTICLE VI.

                              FORM OF SENIOR NOTES

                  SECTION 6.1 Form of Senior Notes.

                  The 4.80% Series A Notes, 6.05% Series A Notes, 4.80% Series B
Notes and 6.05% Series B Notes, and the Trustee's Certificate of Authentication
to be endorsed thereon, are to be substantially in the following forms:

   (FORM OF FACE OF 4.80% SENIOR NOTES DUE 2008, SERIES A, 6.05% SENIOR NOTES
                DUE 2013, SERIES A, AND PRIVATE EXCHANGE NOTES)

                  Unless and until a Security is exchanged for an Exchange Note
(except for a Private Exchange Note) or sold in connection with an effective
Registration Statement pursuant to the Registration Rights Agreement, (i) the
Rule 144A Global Notes shall bear the legend set forth below on the face thereof
and (ii) the Regulation S Global Notes shall bear the legend set forth below on
the face thereof until at least the 41st day after the original issue date of
the Senior Notes and receipt by the Issuer and the Trustee of a certificate
substantially in the form contained in Section 6.1 hereof.

                  [FOR EACH RULE 144A GLOBAL NOTE ADD THE FOLLOWING LEGEND (THE
"RULE 144A LEGEND"):

                  THE SENIOR NOTES HAVE NOT BEEN REGISTERED UNDER THE SECURITIES
                  ACT OF 1933, AS AMENDED (THE "SECURITIES ACT"), OR ANY STATE
                  OR OTHER SECURITIES LAWS. NEITHER THIS SENIOR NOTE NOR ANY
                  INTEREST HEREIN MAY BE REOFFERED, SOLD, ASSIGNED, TRANSFERRED,
                  PLEDGED, ENCUMBERED OR OTHERWISE DISPOSED OF IN THE ABSENCE OF
                  SUCH REGISTRATION OR UNLESS SUCH TRANSACTION IS

                         THIRD SUPPLEMENTAL INDENTURE 22
<PAGE>

                  EXEMPT FROM, OR NOT SUBJECT TO, THE REGISTRATION REQUIREMENTS
                  OF THE SECURITIES ACT. BY ITS ACQUISITION HEREOF, THE HOLDER
                  (1) REPRESENTS THAT IT IS A "QUALIFIED INSTITUTIONAL BUYER"
                  (AS DEFINED IN RULE 144A ("RULE 144A") UNDER THE SECURITIES
                  ACT), (2) AGREES NOT TO OFFER, SELL OR OTHERWISE TRANSFER THIS
                  SENIOR NOTE EXCEPT (A) TO PANHANDLE EASTERN PIPE LINE COMPANY,
                  LLC, (B) PURSUANT TO A REGISTRATION STATEMENT WHICH HAS BEEN
                  DECLARED EFFECTIVE UNDER THE SECURITIES ACT, (C) FOR SO LONG
                  AS THE SENIOR NOTES ARE ELIGIBLE FOR RESALE PURSUANT TO RULE
                  144A, TO A PERSON IT REASONABLY BELIEVES IS A "QUALIFIED
                  INSTITUTIONAL BUYER" AS DEFINED IN RULE 144A THAT PURCHASES
                  FOR ITS OWN ACCOUNT OR FOR THE ACCOUNT OF A QUALIFIED
                  INSTITUTIONAL BUYER, IN EACH CASE TO WHOM NOTICE IS GIVEN THAT
                  THE TRANSFER IS BEING MADE IN RELIANCE ON RULE 144A, (D) IN AN
                  OFFSHORE TRANSACTION IN ACCORDANCE WITH RULE 903 OR RULE 904
                  OF REGULATION S UNDER THE SECURITIES ACT OR (E) PURSUANT TO
                  ANOTHER AVAILABLE EXEMPTION FROM THE REGISTRATION REQUIREMENTS
                  OF THE SECURITIES ACT, AND (3) AGREES THAT IT WILL GIVE TO
                  EACH PERSON TO WHOM THIS SENIOR NOTE IS TRANSFERRED A NOTICE
                  SUBSTANTIALLY TO THE EFFECT OF THIS LEGEND; PROVIDED THAT
                  PANHANDLE EASTERN PIPE LINE COMPANY, LLC AND THE TRUSTEE SHALL
                  HAVE THE RIGHT PRIOR TO ANY SUCH OFFER, SALE OR TRANSFER (I)
                  PURSUANT TO CLAUSE (E) ABOVE TO REQUIRE THE DELIVERY OF AN
                  OPINION OF COUNSEL, CERTIFICATION AND/OR OTHER INFORMATION
                  SATISFACTORY TO EACH OF THEM, AND (II) IN EACH OF THE
                  FOREGOING CASES, BUT ONLY IF THIS SENIOR NOTE IS NOT A GLOBAL
                  NOTE (AS DEFINED IN THE INDENTURE REFERRED TO HEREIN), TO
                  REQUIRE THAT A CERTIFICATE OF TRANSFER IN THE FORM APPEARING
                  ON THE OTHER SIDE OF THIS SENIOR NOTE IS COMPLETED AND
                  DELIVERED BY THE TRANSFEROR TO PANHANDLE EASTERN PIPE LINE
                  COMPANY, LLC AND THE TRUSTEE.]

                  [FOR EACH TEMPORARY REGULATION S GLOBAL NOTE ADD THE FOLLOWING
LEGEND (THE "REGULATION S LEGEND"):

                           THE SENIOR NOTES HAVE NOT BEEN REGISTERED UNDER THE
                  SECURITIES ACT OF 1933, AS AMENDED

                         THIRD SUPPLEMENTAL INDENTURE 23
<PAGE>

                  (THE "SECURITIES ACT"), OR ANY STATE OR OTHER SECURITIES LAWS.
                  NEITHER THIS SENIOR NOTE NOR ANY INTEREST HEREIN MAY BE
                  REOFFERED, SOLD, ASSIGNED, TRANSFERRED, PLEDGED, ENCUMBERED OR
                  OTHERWISE DISPOSED OF IN THE ABSENCE OF SUCH REGISTRATION OR
                  UNLESS SUCH TRANSACTION IS EXEMPT FROM, OR NOT SUBJECT TO, THE
                  REGISTRATION REQUIREMENTS OF THE SECURITIES ACT. BY ITS
                  ACQUISITION HEREOF, THE HOLDER (1) REPRESENTS THAT IT IS NOT A
                  "U.S. PERSON" (AS DEFINED IN REGULATION S ("REGULATION S")
                  UNDER THE SECURITIES ACT), (2) AGREES NOT TO OFFER, SELL OR
                  OTHERWISE TRANSFER THIS SENIOR NOTE PRIOR TO THE DATE WHICH IS
                  40 DAYS AFTER THE ORIGINAL ISSUE DATE OF THE SENIOR NOTES (THE
                  "REGULATION S RESTRICTED PERIOD") EXCEPT (A) TO PANHANDLE
                  EASTERN PIPE LINE COMPANY, LLC, (B) PURSUANT TO A REGISTRATION
                  STATEMENT WHICH HAS BEEN DECLARED EFFECTIVE UNDER THE
                  SECURITIES ACT, (C) FOR SO LONG AS THE SENIOR NOTES ARE
                  ELIGIBLE FOR RESALE PURSUANT TO RULE 144A ("RULE 144A") UNDER
                  THE SECURITIES ACT, TO A PERSON IT REASONABLY BELIEVES IS A
                  "QUALIFIED INSTITUTIONAL BUYER" AS DEFINED IN RULE 144A THAT
                  PURCHASES FOR ITS OWN ACCOUNT OR FOR THE ACCOUNT OF A
                  QUALIFIED INSTITUTIONAL BUYER, IN EACH CASE TO WHOM NOTICE IS
                  GIVEN THAT THE TRANSFER IS BEING MADE IN RELIANCE ON RULE
                  144A, (D) IN AN OFFSHORE TRANSACTION IN ACCORDANCE WITH RULE
                  903 OR RULE 904 OF REGULATION S OR (E) PURSUANT TO ANOTHER
                  AVAILABLE EXEMPTION FROM THE REGISTRATION REQUIREMENTS OF THE
                  SECURITIES ACT, AND (3) AGREES THAT IT WILL GIVE TO EACH
                  PERSON TO WHOM THIS SENIOR NOTE IS TRANSFERRED A NOTICE
                  SUBSTANTIALLY TO THE EFFECT OF THIS LEGEND; PROVIDED THAT
                  PANHANDLE EASTERN PIPE LINE COMPANY, LLC AND THE TRUSTEE SHALL
                  HAVE THE RIGHT PRIOR TO ANY SUCH OFFER, SALE OR TRANSFER (I)
                  PURSUANT TO CLAUSE (E) ABOVE TO REQUIRE THE DELIVERY OF AN
                  OPINION OF COUNSEL, CERTIFICATION AND/OR OTHER INFORMATION
                  SATISFACTORY TO EACH OF THEM, AND (II) IN EACH OF THE
                  FOREGOING CASES, BUT ONLY IF THIS SENIOR NOTE IS NOT A GLOBAL
                  NOTE (AS DEFINED IN THE INDENTURE REFERRED TO HEREIN), TO
                  REQUIRE THAT A CERTIFICATE OF TRANSFER IN THE FORM APPEARING

                         THIRD SUPPLEMENTAL INDENTURE 24
<PAGE>

                  ON THE OTHER SIDE OF THIS SENIOR NOTE IS COMPLETED AND
                  DELIVERED BY THE TRANSFEROR TO PANHANDLE EASTERN PIPE LINE
                  COMPANY, LLC AND THE TRUSTEE. THIS LEGEND WILL BE REMOVED UPON
                  THE REQUEST OF THE HOLDER AFTER THE TERMINATION OF THE
                  REGULATION S RESTRICTED PERIOD FOLLOWING COMPLIANCE WITH THE
                  CERTIFICATION REQUIREMENTS SET FORTH IN THE INDENTURE.]

                  This Security is a Global Note within the meaning of the
Indenture hereinafter referred to and is registered in the name of the
Depositary or a nominee of the Depositary. This Security is exchangeable for
Securities registered in the name of a person other than the Depositary or its
nominee only in the limited circumstances described in the Indenture, and may
not be transferred except as a whole by the Depositary to a nominee of the
Depositary, by a nominee of the Depositary to the Depositary or another nominee
of the Depositary or by the Depositary or any such nominee to a successor
Depositary or a nominee of such a successor Depositary.

                  Unless this certificate is presented by an authorized
representative of The Depository Trust Company, a New York corporation ("DTC"),
to the Issuer or its agent for registration of transfer, exchange or payment,
and any certificate issued is registered in the name of Cede & Co. or such other
name as is requested by an authorized representative of DTC (and any payment is
made to Cede & Co. or to such other entity as is requested by an authorized
representative of DTC), ANY TRANSFER, PLEDGE OR OTHER USE HEREOF FOR VALUE OR
OTHERWISE BY OR TO ANY PERSON IS WRONGFUL inasmuch as the registered owner
hereof, Cede & Co., has an interest herein.

                  Unless and until it is exchanged in whole or in part for
Securities in definitive registered form in accordance with the provisions of
the Indenture applicable to such exchange, this certificate may not be
transferred except as a whole by DTC to a nominee of DTC or by a nominee of DTC
to DTC or another nominee of DTC or by DTC or any such nominee to a successor
Depository or a nominee of such successor Depository.

CUSIP No. [      ]                                           $[      ]

                    Panhandle Eastern Pipe Line Company, LLC

                               [4.80% SENIOR NOTE
                     DUE 2008, SERIES A][6.05% SENIOR NOTE
                              DUE 2013, SERIES A]

                  PANHANDLE EASTERN PIPE LINE COMPANY, LLC, a Delaware limited
liability company (the "Issuer"), for value received, hereby promises to pay to
Cede & Co., or registered assigns, the principal sum of [Amount in Words]
dollars ($[ ]) on [ ], 20[ ]

                         THIRD SUPPLEMENTAL INDENTURE 25
<PAGE>

("Maturity") and to pay interest thereon from [ ], 200[ ] (the "Original Issue
Date") or from the most recent interest payment date (each such date, an
"Interest Payment Date") to which interest has been paid or duly provided for,
semi-annually in arrears on February 15th and August 15th in each year,
commencing [ ], 2003 and at Maturity at the rate of [ ]% per annum, until the
principal hereof shall have become due and payable, and on any overdue principal
and premium, if any, and (without duplication and to the extent that payment of
such interest is enforceable under applicable law) on any overdue installment of
interest at the same rate per annum; provided that if any Registration Default
with respect to this Senior Note occurs under the Registration Rights Agreement,
then the per annum interest rate on this Senior Note will increase for the
period from the occurrence of such Registration Default until such time as no
Registration Default is in effect with respect to this Senior Note (at which
time the interest rate will be reduced to its initial rate) at a per annum rate
of 0.25% for the first 90-day period following the occurrence of such
Registration Default, and by an additional 0.25% thereafter (up to a maximum of
0.50%). The amount of interest payable on any Interest Payment Date shall be
computed on the basis of a 360-day year of twelve 30-day months. In the event
that any date on which interest is payable on this Senior Note is not a Business
Day, then payment of interest payable on such date will be made on the next
succeeding day which is a Business Day (and without any interest or other
payment in respect of any such delay), except that, if such Business Day is in
the next succeeding calendar year, such payment shall be made on the immediately
preceding Business Day, in each case with the same force and effect as if made
on such date. The interest installment so payable, and punctually paid or duly
provided for, on any Interest Payment Date will, as provided in the Indenture,
be paid to the person in whose name this Senior Note (or one or more Predecessor
Securities, as defined in said Indenture) is registered at the close of business
on the regular record date for such interest installment which shall be the
close of business on the 1st day of the calendar month in which such Interest
Payment Date occurs. Any such interest installment not punctually paid or duly
provided for shall forthwith cease to be payable to the registered holders on
such regular record date, and may be paid to the person in whose name this
Senior Note (or one or more Predecessor Securities) is registered at the close
of business on a special record date to be fixed by the Trustee (as defined
below) for the payment of such defaulted interest, notice whereof shall be given
to the registered holders of this series of Senior Notes not less than 10 days
prior to such special record date, or may be paid at any time in any other
lawful manner not inconsistent with the requirements of any securities exchange
on which the Senior Notes may be listed, and upon such notice as may be required
by such exchange, all as more fully provided in the Indenture. Any accrued and
unpaid interest (including any additional interest payable upon the occurrence
of a Registration Default) on this Senior Note upon the issuance of an Exchange
Note (as defined in the Indenture) or a Private Exchange Note (as defined in the
Indenture) in exchange for this Senior Note shall cease to be payable to the
holder hereof and shall be payable on the next Interest Payment Date for such
Exchange Note or Private Exchange Note to the holder thereof on the related
regular record date. The principal of (and premium, if any) and the interest on
this Senior Note shall be payable at the office or agency of the Trustee
maintained for that purpose in any coin or currency of the United States of
America which at the time of payment is legal tender for payment of public and
private debts; provided, however, that payment of interest may be made at the
option of the Issuer by check mailed to the registered holder at such address as
shall appear in the Security Register.

                         THIRD SUPPLEMENTAL INDENTURE 26
<PAGE>

                  This Senior Note shall not be entitled to any benefit under
the Indenture hereinafter referred to, be valid or become obligatory for any
purpose until the Certificate of Authentication hereon shall have been signed by
or on behalf of the Trustee.

                  The provisions of this Senior Note are continued on the
reverse side hereof and such continued provisions shall for all purposes have
the same effect as though fully set forth at this place.

                  IN WITNESS WHEREOF, the Issuer has caused this instrument to
be executed.

Dated [      ], 2003

                                        PANHANDLE EASTERN PIPE LINE COMPANY, LLC

                                        By
                                           -------------------------------------
                                           Name:
                                           Title:

Attest:

By
   ---------------------------------
   Name:
   Title:

                     (FORM OF CERTIFICATE OF AUTHENTICATION)
                          CERTIFICATE OF AUTHENTICATION

                  This is one of the Senior Notes of the series of Senior Notes
described in the within-mentioned Indenture.

BANK ONE TRUST COMPANY, NATIONAL
ASSOCIATION, as Trustee

By
    -----------------------------------------
             Authorized Signatory

                         THIRD SUPPLEMENTAL INDENTURE 27
<PAGE>

                        (FORM OF REVERSE OF SENIOR NOTE)

                  This Senior Note is one of a duly authorized series of
Securities of the Issuer (herein sometimes referred to as the "Senior Notes"),
specified in the Indenture, issued or to be issued in one or more series under
and pursuant to an indenture (the "Base Indenture") dated as of March 29, 1999
among the Issuer, CMS Panhandle Holding Company, a Michigan corporation (which
has merged into the Issuer), and NBD Bank, as trustee (predecessor to Bank One
Trust Company, National Association), further supplemented by the Third
Supplemental Indenture dated as of August 18, 2003 between the Issuer and Bank
One Trust Company, National Association, as trustee (the "Trustee") (the Base
Indenture as so supplemented, hereinafter being referred to as the "Indenture"),
to which Indenture and all indentures supplemental thereto reference is hereby
made for a description of the rights, limitations of rights, obligations, duties
and immunities thereunder of the Trustee, the Issuer and the holders of the
Senior Notes. By the terms of the Indenture, the Senior Notes are issuable in
series which may vary as to amount, date of maturity, rate of interest and in
other respects as in the Indenture provided. This series of Senior Notes is not
limited in aggregate principal amount, as specified in said Third Supplemental
Indenture.

                  The Senior Notes are redeemable at the option of the Issuer at
any time and from time to time, in whole or in part, upon not less than 30 days
nor more than 60 days notice to each holder of such Senior Notes, at a
redemption price equal to the greater of (i) 100% of the principal amount of
such Senior Notes to be redeemed and (ii) the sum of the present values of the
remaining scheduled payments of principal and interest thereon (exclusive of
interest accrued to the date of redemption) discounted to the redemption date on
a semiannual basis (assuming a 360-day year consisting of twelve 30-day months)
at the Treasury Rate plus [ ] basis points(1) plus in each case accrued and
unpaid interest thereon to the date of redemption. Unless there is a default in
the payment of the redemption price, on and after the applicable redemption
date, interest will cease to accrue on the Senior Notes or portions thereof
called for redemption.

                  "Comparable Treasury Issue" means the United States Treasury
security or securities selected by an Independent Investment Banker as having an
actual or interpolated maturity comparable to the remaining term of the Senior
Notes to be redeemed that would be utilized, at the time of selection and in
accordance with customary financial practice, in pricing new issues of corporate
debt securities of a comparable maturity to the remaining term of such Senior
Notes.

                  "Comparable Treasury Price" means, with respect to any
redemption date, (A) the average of the Reference Treasury Dealer Quotations for
such redemption date, after excluding the highest and lowest such Reference
Treasury Dealer Quotations, or (B) if the Trustee obtains fewer than four such
Reference Treasury Dealer Quotations, the average of all such quotations.

                  "Independent Investment Banker" means one of the Reference
Treasury Dealers appointed by the Trustee after consultation with the Issuer.

----------

(1)      Insert 20 basis points in the case of the 4.80% Senior Notes due 2008,
         Series A and 25 basis points in the case of the 6.05% Senior Notes due
         2013, Series A

                         THIRD SUPPLEMENTAL INDENTURE 28
<PAGE>

                  "Reference Treasury Dealer" means each of Merrill Lynch,
Pierce, Fenner & Smith Incorporated, J.P. Morgan Securities Inc. or their
affiliates plus three others which are primary U.S. Government securities
dealers, and their respective successors; provided, however, that if any of the
foregoing or their affiliates shall cease to be a primary U.S. Government
securities dealer in The City of New York (a "Primary Treasury Dealer"), the
Issuer shall substitute therefor another Primary Treasury Dealer.

                  "Reference Treasury Dealer Quotations" means, with respect to
each Reference Treasury Dealer and any redemption date, the average, as
determined by the Trustee, of the bid and asked prices for the Comparable
Treasury Issue (expressed in each case as a percentage of its principal amount)
quoted in writing to the Trustee by such Reference Treasury Dealer at 3:30 p.m.
New York time on the third Business Day preceding such redemption date.

                  "Treasury Rate" means, with respect to any redemption date,
the rate per annum equal to the semiannual equivalent yield to maturity or
interpolated (on a day count basis) of the Comparable Treasury Issue, assuming a
price for the Comparable Treasury Issue (expressed as a percentage of its
principal amount) equal to the Comparable Treasury Price for such redemption
date.

                  The Issuer may purchase the Senior Notes in the open market,
by tender or otherwise. Senior Notes so purchased may be held, resold or
surrendered to the Trustee for cancellation. If applicable, the Issuer will
comply with the requirements of Rule 14e-1 under the Securities Exchange Act of
1934, as amended (the "Exchange Act"), and other securities laws and regulations
in connection with any such purchase.

                  No sinking fund is provided for the Senior Notes.

                  If an Event of Default with respect to this Senior Note shall
occur and be continuing, the principal of this Senior Note may be declared due
and payable in the manner and with the effect provided in the Indenture.

                  The Indenture contains provisions for defeasance at any time
of (i) the entire indebtedness of this Senior Note or (ii) certain restrictive
covenants and certain other obligations with respect to this Senior Note, in
each case upon compliance with certain conditions set forth therein.

                  The Indenture permits, with certain exceptions as therein
provided, modifications and amendments of the Indenture by the Issuer and the
Trustee with the consent of the holders of a majority in aggregate principal
amount of the outstanding Senior Notes.

                  The Indenture provides that the holders of a majority in
aggregate principal amount of the outstanding Senior Notes may, on behalf of the
holders of all Senior Notes, modify or eliminate restrictive covenants, which
right includes the right to waive insofar as the Senior Notes are concerned,
compliance by the Issuer with certain restrictive provisions of the Indenture.

                  The Indenture provides that the holders of a majority in
aggregate principal amount of the outstanding Senior Notes may, on behalf of all
holders of Senior Notes, waive any

                         THIRD SUPPLEMENTAL INDENTURE 29
<PAGE>

past default under the Indenture with respect to any Senior Notes, except a
default (i) in the payment of principal of, or premium, if any, or any interest
on any Senior Note; or (ii) in respect of a covenant or provision of the
Indenture which cannot be modified or amended without the consent of the holder
of each outstanding Senior Note affected.

                  The Indenture provides that, subject to the duty of the
Trustee during default to act with the required standard of care, the Trustee
will be under no obligation to exercise any of its rights or powers under the
Indenture at the request or direction of any of the holders, unless such holders
shall have offered to the Trustee reasonable indemnity. Subject to such
provisions for the indemnification of the Trustee, the holders of a majority in
aggregate principal amount of the outstanding Senior Notes have the right to
direct the time, method and place of conducting any proceeding for any remedy
available to the Trustee, or exercising any trust or power conferred on the
Trustee, with respect to the Senior Notes; provided, however, that the Trustee
shall not be obligated to take any action unduly prejudicial to holders not
joining in such direction or involving the Trustee in personal liability.

                  No reference herein to the Indenture and no provision of this
Senior Note or of the Indenture shall alter or impair the obligation of the
Issuer, which is absolute and unconditional, to pay the principal of and any
premium and interest on this Senior Note at the times, place and rate, and in
the coin or currency, herein prescribed.

                  As provided in the Indenture and subject to certain
limitations therein and herein set forth, the transfer of this Senior Note is
registrable in the Security Register, upon surrender of this Senior Note for
registration of transfer at the office or agency of the Issuer in any place
where the principal of and any premium and interest on this Senior Note are
payable, duly endorsed by, or accompanied by a written instrument of transfer in
form satisfactory to the Issuer and the Security Registrar duly executed by, the
holder hereof or his attorney duly authorized in writing, and thereupon one or
more new Senior Notes of this series and of like tenor, of authorized
denominations and for the same aggregate principal amount, will be issued to the
designated transferee or transferees.

                  The Senior Notes are issuable only in registered form without
coupons in denominations of $1,000 and any integral multiple thereof. As
provided in the Indenture and subject to certain limitations therein set forth,
Senior Notes are exchangeable for a like aggregate principal amount of Senior
Notes and of like tenor of a different authorized denomination, as requested by
the holder surrendering the same.

                  No service charge shall be made for any such registration of
transfer or exchange, but the Issuer may require payment of a sum sufficient to
cover any tax or other governmental charge payable in connection therewith.

                  The Issuer shall not be required to (a) issue, exchange or
register the transfer of this Senior Note for a period of 15 days next preceding
the mailing of the notice of redemption of Senior Notes or (b) exchange or
register the transfer of any Senior Note or any portion thereof selected, called
or being called for redemption, except in the case of any Senior Note to be
redeemed in part, the portion thereof not so to be redeemed.

                         THIRD SUPPLEMENTAL INDENTURE 30
<PAGE>

                  Prior to due presentment of this Senior Note for registration
of transfer, the Issuer, the Trustee and any agent of the Issuer or the Trustee
may treat the Person in whose name this Senior Note is registered as the owner
hereof for all purposes, whether or not this Senior Note be overdue, and neither
the Issuer, the Trustee nor any such agent shall be affected by notice to the
contrary.

                  No recourse shall be had for the payment of the principal of
or the interest on this Senior Note, or for any claim based hereon, or otherwise
in respect hereof, or based on or in respect of the Indenture, against any
incorporator, stockholder, officer or director, past, present or future, as
such, of the Issuer or of any predecessor or successor corporation, whether by
virtue of any constitution, statute or rule of law, or by the enforcement of any
assessment or penalty or otherwise, all such liability being, by the acceptance
hereof and as part of the consideration for the issuance hereof, expressly
waived and released.

                  All terms used in this Senior Note which are defined in the
Indenture shall have the meanings assigned to them in the Indenture.

[IF SENIOR NOTE IS A RESTRICTED SENIOR NOTE -

                      (RESTRICTED CERTIFICATE OF TRANSFER)

                  FOR VALUE RECEIVED, THE UNDERSIGNED HEREBY SELL(S), ASSIGN(S)
AND TRANSFER(S) UNTO ______________________

(Please print or typewrite name and address including postal zip code, of
assignee)

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

(PLEASE INSERT SOCIAL SECURITY NUMBER OR OTHER IDENTIFYING NUMBER OF ASSIGNEE)

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

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

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

the within Senior Note and all rights thereunder, and hereby irrevocably
constitutes and appoints

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

to transfer said Senior Note on the books of the Issuer, with full power of
substitution in the premises.

The undersigned certifies that said Senior Note is being resold, pledged or
otherwise transferred as follows: (check one)

[ ]      to the Issuer;

[ ]      to a Person whom the undersigned reasonably believes is a qualified
         institutional buyer within the meaning of Rule 144A under the
         Securities Act of 1933, as amended (the

                         THIRD SUPPLEMENTAL INDENTURE 31
<PAGE>

         "Securities Act") purchasing for its own account or for the account of
         a qualified institutional buyer to whom notice is given that the
         resale, pledge or other transfer is being made in reliance on Rule
         144A;

[ ]      in an offshore transaction in accordance with Rule 903 or 904 of
         Regulation S under the Securities Act;

[ ]      as otherwise permitted by the non-registration legend appearing on this
         Senior Note; or

[ ]      as otherwise agreed by the Issuer, confirmed in writing to the Trustee,
         as follows: (describe)

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

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

Dated:                                                                         ]
        --------------------------------             --------------------------
                                                          [Name of Assignor]

[IF SENIOR NOTE IS NOT A RESTRICTED SENIOR NOTE -

                            (CERTIFICATE OF TRANSFER)

                  FOR VALUE RECEIVED, THE UNDERSIGNED HEREBY SELL(S), ASSIGN(S)
AND TRANSFER(S) UNTO ______________________

                  (Please print or typewrite name and address including postal
zip code, of assignee)

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

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

(PLEASE INSERT SOCIAL SECURITY NUMBER OR OTHER IDENTIFYING NUMBER OF ASSIGNEE)

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

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

                  the within Senior Note and all rights thereunder, and hereby
irrevocably constitutes and appoints ________________________ to transfer said
Senior Note on the books of the Issuer, with full power of substitution in the
premises.

Dated:                                                                         ]
        --------------------------------             ---------------------------
                                                          [Name of Assignor]

                         THIRD SUPPLEMENTAL INDENTURE 32
<PAGE>

     (FORM OF FACE OF 4.80% SENIOR NOTES DUE 2008, SERIES B AND 6.05% SENIOR
                           NOTES DUE 2013, SERIES B)

                  This Security is a Global Note within the meaning of the
Indenture hereinafter referred to and is registered in the name of the
Depositary or a nominee of the Depositary. This Security is exchangeable for
Securities registered in the name of a person other than the Depositary or its
nominee only in the limited circumstances described in the Indenture, and may
not be transferred except as a whole by the Depositary to a nominee of the
Depositary, by a nominee of the Depositary to the Depositary or another nominee
of the Depositary or by the Depositary or any such nominee to a successor
Depositary or a nominee of such a successor Depositary.

                  Unless this certificate is presented by an authorized
representative of The Depository Trust Company, a New York corporation ("DTC"),
to the Issuer or its agent for registration of transfer, exchange or payment,
and any certificate issued is registered in the name of Cede & Co. or such other
name as is requested by an authorized representative of DTC (and any payment is
made to Cede & Co. or to such other entity as is requested by an authorized
representative of DTC), ANY TRANSFER, PLEDGE OR OTHER USE HEREOF FOR VALUE OR
OTHERWISE BY OR TO ANY PERSON IS WRONGFUL inasmuch as the registered owner
hereof, Cede & Co., has an interest herein.

                  Unless and until it is exchanged in whole or in part for
Securities in definitive registered form in accordance with the provisions of
the Indenture applicable to such exchange, this certificate may not be
transferred except as a whole by DTC to a nominee of DTC or by a nominee of DTC
to DTC or another nominee of DTC or by DTC or any such nominee to a successor
Depository or a nominee of such successor Depository.

CUSIP No. [       ]                                       $[        ]

                    Panhandle Eastern Pipe Line Company, LLC

                               [4.80% SENIOR NOTE
                      DUE 2008, SERIES B][6.05% SENIOR NOTE
                               DUE 2013, SERIES B]

                  PANHANDLE EASTERN PIPE LINE COMPANY, LLC, a Delaware limited
liability company (the "Issuer"), for value received, hereby promises to pay to
Cede & Co., or registered assigns, the principal sum of [Amount in Words]
dollars ($[ ]) on [ ], 20[ ] ("Maturity") and to pay interest thereon from [ ],
200[ ] (the "Original Issue Date") or from the most recent interest payment date
(each such date, an "Interest Payment Date") to which interest has been paid or
duly provided for, semi-annually in arrears on February 15th and August 15th in
each year, commencing [ ] and at Maturity at the rate of [ ]% per annum, until
the principal hereof shall have become due and payable, and on any overdue
principal and

                         THIRD SUPPLEMENTAL INDENTURE 33
<PAGE>

premium, if any, and (without duplication and to the extent that payment of such
interest is enforceable under applicable law) on any overdue installment of
interest at the same rate per annum. The amount of interest payable on any
Interest Payment Date shall be computed on the basis of a 360-day year of twelve
30-day months. In the event that any date on which interest is payable on this
Senior Note is not a Business Day, then payment of interest payable on such date
will be made on the next succeeding day which is a Business Day (and without any
interest or other payment in respect of any such delay), except that, if such
Business Day is in the next succeeding calendar year, such payment shall be made
on the immediately preceding Business Day, in each case with the same force and
effect as if made on such date. The interest installment so payable, and
punctually paid or duly provided for, on any Interest Payment Date will, as
provided in the Indenture, be paid to the person in whose name this Senior Note
(or one or more Predecessor Securities, as defined in said Indenture) is
registered at the close of business on the regular record date for such interest
installment which shall be the close of business on the 1st day of the calendar
month in which such Interest Payment Date occurs. Any such interest installment
not punctually paid or duly provided for shall forthwith cease to be payable to
the registered holders on such regular record date, and may be paid to the
person in whose name this Senior Note (or one or more Predecessor Securities) is
registered at the close of business on a special record date to be fixed by the
Trustee (as defined below) for the payment of such defaulted interest, notice
whereof shall be given to the registered holders of this series of Senior Notes
not less than 10 days prior to such special record date, or may be paid at any
time in any other lawful manner not inconsistent with the requirements of any
securities exchange on which the Senior Notes may be listed, and upon such
notice as may be required by such exchange, all as more fully provided in the
Indenture. The principal of (and premium, if any) and the interest on this
Senior Note shall be payable at the office or agency of the Trustee maintained
for that purpose in any coin or currency of the United States of America which
at the time of payment is legal tender for payment of public and private debts;
provided, however, that payment of interest may be made at the option of the
Issuer by check mailed to the registered holder at such address as shall appear
in the Security Register.

                  This Senior Note shall not be entitled to any benefit under
the Indenture hereinafter referred to, be valid or become obligatory for any
purpose until the Certificate of Authentication hereon shall have been signed by
or on behalf of the Trustee.

                  The provisions of this Senior Note are continued on the
reverse side hereof and such continued provisions shall for all purposes have
the same effect as though fully set forth at this place.

                  IN WITNESS WHEREOF, the Issuer has caused this instrument to
be executed.

Dated [       ]

                                       PANHANDLE EASTERN PIPE LINE COMPANY, LLC

                                       By
                                          --------------------------------------
                                       Name:
                                       Title:

                         THIRD SUPPLEMENTAL INDENTURE 34
<PAGE>

Attest:

By
   ---------------------------------
Name:
Title:

                  (FORM OF CERTIFICATE OF AUTHENTICATION)

                  CERTIFICATE OF AUTHENTICATION

                  This is one of the Senior Notes of the series of Senior Notes
described in the within-mentioned Indenture.

                  BANK ONE TRUST COMPANY, NATIONAL
                  ASSOCIATION, as Trustee

                  By
                    ----------------------
                    [Authorized Signatory]

                  (FORM OF REVERSE OF SENIOR NOTE)

                  This Senior Note is one of a duly authorized series of
Securities of the Issuer (herein sometimes referred to as the "Senior Notes"),
specified in the Indenture, issued or to be issued in one or more series under
and pursuant to an indenture (the "Base Indenture") dated as of March 29, 1999
among the Issuer, CMS Panhandle Holding Company, a Michigan corporation (which
has merged into the Issuer), and NBD Bank, as trustee (predecessor to Bank One
Trust Company, National Association), further supplemented by the Third
Supplemental Indenture dated as of August 18, 2003 between the Issuer and Bank
One Trust Company, National Association, as trustee (the "Trustee") (the Base
Indenture as so supplemented, hereinafter being referred to as the "Indenture"),
to which Indenture and all indentures supplemental thereto reference is hereby
made for a description of the rights, limitations of rights, obligations, duties
and immunities thereunder of the Trustee, the Issuer and the holders of the
Senior Notes. By the terms of the Indenture, the Senior Notes are issuable in
series which may vary as to amount, date of maturity, rate of interest and in
other respects as in the Indenture provided. This series of Senior Notes is not
limited in aggregate principal amount, as specified in said Third Supplemental
Indenture.

                         THIRD SUPPLEMENTAL INDENTURE 35
<PAGE>
                  The Senior Notes are redeemable at the option of the Issuer at
any time and from time to time, in whole or in part, upon not less than 30 days
nor more than 60 days notice to each holder of such Senior Notes, at a
redemption price equal to the greater of (i) 100% of the principal amount of
such Senior Notes to be redeemed and (ii) the sum of the present values of the
remaining scheduled payments of principal and interest thereon (exclusive of
interest accrued to the date of redemption) discounted to the redemption date on
a semiannual basis (assuming a 360-day year consisting of twelve 30-day months)
at the Treasury Rate plus [ ] basis points(2), plus in each case accrued and
unpaid interest thereon to the date of redemption. Unless there is a default in
the payment of the redemption price, on and after the applicable redemption
date, interest will cease to accrue on the Senior Notes or portions thereof
called for redemption.

                  "Comparable Treasury Issue" means the United States Treasury
security or securities selected by an Independent Investment Banker as having an
actual or interpolated maturity comparable to the remaining term of the Senior
Notes to be redeemed that would be utilized, at the time of selection and in
accordance with customary financial practice, in pricing new issues of corporate
debt securities of a comparable maturity to the remaining term of such Senior
Notes.

                  "Comparable Treasury Price" means, with respect to any
redemption date, (A) the average of the Reference Treasury Dealer Quotations for
such redemption date, after excluding the highest and lowest such Reference
Treasury Dealer Quotations, or (B) if the Trustee obtains fewer than four such
Reference Treasury Dealer Quotations, the average of all such quotations.

                  "Independent Investment Banker" means one of the Reference
Treasury Dealers appointed by the Trustee after consultation with the Issuer.

                  "Reference Treasury Dealer" means each of Merrill Lynch,
Pierce, Fenner & Smith Incorporated, J.P. Morgan Securities Inc. or their
affiliates plus three others which are primary U.S. Government securities
dealers, and their respective successors; provided, however, that if any of the
foregoing or their affiliates shall cease to be a primary U.S. Government
securities dealer in The City of New York (a "Primary Treasury Dealer"), the
Issuer shall substitute therefor another Primary Treasury Dealer.

                  "Reference Treasury Dealer Quotations" means, with respect to
each Reference Treasury Dealer and any redemption date, the average, as
determined by the Trustee, of the bid and asked prices for the Comparable
Treasury Issue (expressed in each case as a percentage of its principal amount)
quoted in writing to the Trustee by such Reference Treasury Dealer at 3:30 p.m.
New York time on the third Business Day preceding such redemption date.

                  "Treasury Rate" means, with respect to any redemption date,
the rate per annum equal to the semiannual equivalent yield to maturity or
interpolated (on a day count basis) of the Comparable Treasury Issue, assuming a
price for the Comparable Treasury Issue (expressed as a percentage of its
principal amount) equal to the Comparable Treasury Price for such redemption
date.

----------

(2)      Insert 20 basis points in the case of the 4.80% Senior Notes due 2008,
         Series B and 25 basis points in the case of the 6.05% Senior Notes due
         2013, Series B

                         THIRD SUPPLEMENTAL INDENTURE 36
<PAGE>

                  The Issuer may purchase the Senior Notes in the open market,
by tender or otherwise. Senior Notes so purchased may be held, resold or
surrendered to the Trustee for cancellation. If applicable, the Issuer will
comply with the requirements of Rule 14e-1 under the Securities Exchange Act of
1934, as amended (the "Exchange Act"), and other securities laws and regulations
in connection with any such purchase.

                  No sinking fund is provided for the Senior Notes.

                  If an Event of Default with respect to this Senior Note shall
occur and be continuing, the principal of this Senior Note may be declared due
and payable in the manner and with the effect provided in the Indenture.

                  The Indenture contains provisions for defeasance at any time
of (i) the entire indebtedness of this Senior Note or (ii) certain restrictive
covenants and certain other obligations with respect to this Senior Note, in
each case upon compliance with certain conditions set forth therein.

                  The Indenture permits, with certain exceptions as therein
provided, modifications and amendments of the Indenture by the Issuer and the
Trustee with the consent of the holders of a majority in aggregate principal
amount of the outstanding Senior Notes.

                  The Indenture provides that the holders of a majority in
aggregate principal amount of the outstanding Senior Notes may, on behalf of the
holders of all Senior Notes, modify or eliminate restrictive covenants, which
right includes the right to waive insofar as the Senior Notes are concerned,
compliance by the Issuer with certain restrictive provisions of the Indenture.

                  The Indenture provides that the holders of a majority in
aggregate principal amount of the outstanding Senior Notes may, on behalf of all
holders of Senior Notes, waive any past default under the Indenture with respect
to any Senior Notes, except a default (i) in the payment of principal of, or
premium, if any, or any interest on any Senior Note; or (ii) in respect of a
covenant or provision of the Indenture which cannot be modified or amended
without the consent of the holder of each outstanding Senior Note affected.

                  The Indenture provides that, subject to the duty of the
Trustee during default to act with the required standard of care, the Trustee
will be under no obligation to exercise any of its rights or powers under the
Indenture at the request or direction of any of the holders, unless such holders
shall have offered to the Trustee reasonable indemnity. Subject to such
provisions for the indemnification of the Trustee, the holders of a majority in
aggregate principal amount of the outstanding Senior Notes have the right to
direct the time, method and place of conducting any proceeding for any remedy
available to the Trustee, or exercising any trust or power conferred on the
Trustee, with respect to the Senior Notes; provided, however, that the Trustee
shall not be obligated to take any action unduly prejudicial to holders not
joining in such direction or involving the Trustee in personal liability.

                  No reference herein to the Indenture and no provision of this
Senior Note or of the Indenture shall alter or impair the obligation of the
Issuer, which is absolute and unconditional,

                         THIRD SUPPLEMENTAL INDENTURE 37
<PAGE>

to pay the principal of and any premium and interest on this Senior Note at the
times, place and rate, and in the coin or currency, herein prescribed.

                  As provided in the Indenture and subject to certain
limitations therein and herein set forth, the transfer of this Senior Note is
registrable in the Security Register, upon surrender of this Senior Note for
registration of transfer at the office or agency of the Issuer in any place
where the principal of and any premium and interest on this Senior Note are
payable, duly endorsed by, or accompanied by a written instrument of transfer in
form satisfactory to the Issuer and the Security Registrar duly executed by, the
holder hereof or his attorney duly authorized in writing, and thereupon one or
more new Senior Notes of this series and of like tenor, of authorized
denominations and for the same aggregate principal amount, will be issued to the
designated transferee or transferees.

                  The Senior Notes are issuable only in registered form without
coupons in denominations of $1,000 and any integral multiple thereof. As
provided in the Indenture and subject to certain limitations therein set forth,
Senior Notes are exchangeable for a like aggregate principal amount of Senior
Notes and of like tenor of a different authorized denomination, as requested by
the holder surrendering the same.

                  No service charge shall be made for any such registration of
transfer or exchange, but the Issuer may require payment of a sum sufficient to
cover any tax or other governmental charge payable in connection therewith.

                  The Issuer shall not be required to (a) issue, exchange or
register the transfer of this Senior Note for a period of 15 days next preceding
the mailing of the notice of redemption of Senior Notes or (b) exchange or
register the transfer of any Senior Note or any portion thereof selected, called
or being called for redemption, except in the case of any Senior Note to be
redeemed in part, the portion thereof not so to be redeemed.

                  Prior to due presentment of this Senior Note for registration
of transfer, the Issuer, the Trustee and any agent of the Issuer or the Trustee
may treat the Person in whose name this Senior Note is registered as the owner
hereof for all purposes, whether or not this Senior Note be overdue, and neither
the Issuer, the Trustee nor any such agent shall be affected by notice to the
contrary.

                  No recourse shall be had for the payment of the principal of
or the interest on this Senior Note, or for any claim based hereon, or otherwise
in respect hereof, or based on or in respect of the Indenture, against any
incorporator, stockholder, officer or director, past, present or future, as
such, of the Issuer or of any predecessor or successor corporation, whether by
virtue of any constitution, statute or rule of law, or by the enforcement of any
assessment or penalty or otherwise, all such liability being, by the acceptance
hereof and as part of the consideration for the issuance hereof, expressly
waived and released.

                  All terms used in this Senior Note which are defined in the
Indenture shall have the meanings assigned to them in the Indenture.

                            (CERTIFICATE OF TRANSFER)

                         THIRD SUPPLEMENTAL INDENTURE 38
<PAGE>

                  FOR VALUE RECEIVED, THE UNDERSIGNED HEREBY SELL(S), ASSIGN(S)
AND TRANSFER(S) UNTO ------------------------------

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

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

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

                  (Please print or typewrite name and address including postal
zip code, of assignee)

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

                  (PLEASE INSERT SOCIAL SECURITY NUMBER OR OTHER IDENTIFYING
NUMBER OF ASSIGNEE)

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

                  the within Senior Note and all rights thereunder, and hereby
irrevocably constitutes and appoints

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

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

                             to transfer said Senior Note on the books of the
Issuer, with full power of substitution in the premises.

Dated:                                                            ]
      -------------------                   ----------------------
                                               [Name of Assignor]

                                  ARTICLE VII.

                            ISSUANCE OF SENIOR NOTES

                  SECTION 7.1 Original Issue of Senior Notes.

                  Upon execution of this Third Supplemental Indenture, the 4.80%
Series A Notes in the initial principal amount of $300,000,000 and the 6.05%
Series A Notes in the initial principal amount of $250,000,000 may be executed
by the Issuer. Such Senior Notes may be delivered to the Trustee for
authentication, and the Trustee shall thereupon authenticate and deliver said
Senior Notes to or upon the written order of the Issuer, signed by its Chairman,
President or any Vice President and its Secretary or an Assistant Secretary,
without any further action by the Issuer. Further, upon execution of this Third
Supplemental Indenture, the 4.80% Series B Notes in the initial principal amount
not to exceed $300,000,000 and the 6.05% Series B Notes in the initial principal
amount not to exceed $250,000,000 may be executed by the Issuer. Such Senior
Notes may be delivered to the Trustee to hold until a Registration Statement

                         THIRD SUPPLEMENTAL INDENTURE 39
<PAGE>

has been declared effective by the SEC and the Exchange Offer has been
consummated or a resale has been effected under such Registration Statement, and
the Trustee shall thereupon authenticate and deliver said Senior Notes to or
upon the written order of the Issuer, signed by its Chairman, President or any
Vice President and its Secretary or an Assistant Secretary, without any further
action by the Issuer.

                  SECTION 7.2 Additional Senior Notes.

                  Upon execution of this Third Supplemental Indenture, subject
to Section 2.1 and Section 2.6 hereof, Additional Senior Notes may be executed
by the Issuer. Such Additional Senior Notes issued as either 4.80% Series A
Notes or 6.05% Series A Notes may be delivered to the Trustee for
authentication, and the Trustee shall thereupon authenticate and deliver said
Additional Senior Notes to or upon the written order of the Issuer, signed by
its Chairman, President or any Vice President and its Secretary or an Assistant
Secretary, without any further action by the Issuer. Such Additional Senior
Notes issued as either 4.80% Series B Notes or 6.05% Series B Notes may be
delivered to the Trustee to hold until a Registration Statement has been
declared effective by the SEC and the Exchange Offer has been consummated or a
resale has been effected under such Registration Statement, and the Trustee
shall thereupon authenticate and deliver said Senior Notes to or upon the
written order of the Issuer, signed by its Chairman, President or any Vice
President and its Secretary or an Assistant Secretary, without any further
action by the Issuer.

                                  ARTICLE VIII.

                                  MISCELLANEOUS

                  SECTION 8.1 Ratification of Indenture.

                  The Base Indenture, as supplemented by this Third Supplemental
Indenture, is in all respects ratified and confirmed, and this Third
Supplemental Indenture shall be deemed part of the Indenture in the manner and
to the extent herein and therein provided. The provisions of this Third
Supplemental Indenture shall supersede the provisions of the Indenture to the
extent the Indenture is inconsistent herewith.

                  SECTION 8.2 Trustee Not Responsible for Recitals.

                  The recitals herein contained are made by the Issuer and not
by the Trustee, and the Trustee assumes no responsibility for the correctness
thereof. The Trustee makes no representation as to the validity or sufficiency
of this Third Supplemental Indenture.

                  SECTION 8.3 Governing Law.

                  This Third Supplemental Indenture and each Senior Note shall
be deemed to be a contract made under the internal laws of the State of New
York, and for all purposes shall be construed in accordance with the laws of
said State.

                         THIRD SUPPLEMENTAL INDENTURE 40
<PAGE>

                  SECTION 8.4 Separability.

                  In case any one or more of the provisions contained in this
Third Supplemental Indenture or in the Senior Notes shall for any reason be held
to be invalid, illegal or unenforceable in any respect, such invalidity,
illegality or unenforceability shall not affect any other provisions of this
Third Supplemental Indenture or of the Senior Notes, but this Third Supplemental
Indenture and the Senior Notes shall be construed as if such invalid or illegal
or unenforceable provision had never been contained herein or therein.

                  SECTION 8.5 Counterparts.

                  This Third Supplemental Indenture may be executed in any
number of counterparts each of which shall be an original; but such counterparts
shall together constitute but one and the same instrument.

                         THIRD SUPPLEMENTAL INDENTURE 41
<PAGE>

                  IN WITNESS WHEREOF, the parties hereto have caused this Third
Supplemental Indenture to be duly executed as of the day and year first above
written.

                                       PANHANDLE EASTERN PIPE LINE COMPANY, LLC,
                                       as Issuer

                                       By:  /s/ DAVID J. KVAPIL
                                           -------------------------------------
                                       Name: David J. Kvapil

                                       BANK ONE TRUST COMPANY, NATIONAL
                                       ASSOCIATION,
                                       as Trustee

                                       By:  /s/ RENEE JOHNSON
                                           -------------------------------------
                                       Name: Renee Johnson
                                       Title: Vice President

                         THIRD SUPPLEMENTAL INDENTURE 42<PAGE>

                                                                    EXHIBIT 10.3

                          AGREEMENT AND PLAN OF MERGER

                                  BY AND AMONG

                           STERLING BANCSHARES, INC.,

                                  SB 2003, INC.

                                       AND

                         SOUTH TEXAS CAPITAL GROUP, INC.

                              DATED AUGUST 18, 2003

<PAGE>

                                TABLE OF CONTENTS

<TABLE>
<S>                                                                                                             <C>
ARTICLE I  CERTAIN DEFINITIONS................................................................................   2
    Section 1.1      Certain Definitions......................................................................   2

ARTICLE II  THE MERGER AND RELATED TRANSACTIONS...............................................................   8
    Section 2.1      Merger...................................................................................   8
    Section 2.2      Time and Place of Closing................................................................   8
    Section 2.3      Effective Time...........................................................................   8

ARTICLE III  MERGER CONSIDERATION; EXCHANGE PROCEDURES........................................................   8
    Section 3.1      Merger Consideration.....................................................................   8
    Section 3.2      Company Stock Options....................................................................  10

ARTICLE IV  EXCHANGE OF SHARES................................................................................  10
    Section 4.1      Exchange Agent...........................................................................  10
    Section 4.2      Exchange Procedures......................................................................  11
    Section 4.3      Voting and Dividends.....................................................................  12
    Section 4.4      No Further Ownership Rights in Company Common Stock......................................  12
    Section 4.5      No Fractional Shares.....................................................................  12
    Section 4.6      Termination of Exchange Fund.............................................................  13
    Section 4.7      Escheat of Exchange Fund.................................................................  13
    Section 4.8      Lost Certificates........................................................................  13

ARTICLE V  REPRESENTATIONS AND WARRANTIES OF THE COMPANY......................................................  13
    Section 5.1      Organization, Standing and Authority.....................................................  13
    Section 5.2      Company Common Stock.....................................................................  14
    Section 5.3      Subsidiaries.............................................................................  15
    Section 5.4      Authorization of Merger and Related Transactions.........................................  16
    Section 5.5      Financial Statements and Regulatory Reports..............................................  17
    Section 5.6      Absence of Undisclosed Liabilities.......................................................  18
    Section 5.7      Tax Matters..............................................................................  18
    Section 5.8      Allowance for Credit Losses..............................................................  20
    Section 5.9      Other Regulatory Matters.................................................................  20
    Section 5.10     Properties...............................................................................  20
    Section 5.11     Compliance with Laws.....................................................................  20
    Section 5.12     Employee Benefit Plans...................................................................  21
    Section 5.13     Commitments and Contracts................................................................  23
    Section 5.14     Material Contract Defaults...............................................................  24
    Section 5.15     Legal Proceedings........................................................................  24
    Section 5.16     Absence of Certain Changes or Events.....................................................  24
    Section 5.17     Reports..................................................................................  26
    Section 5.18     Insurance................................................................................  26
    Section 5.19     Labor....................................................................................  26
    Section 5.20     Material Interests of Certain Persons....................................................  26
</TABLE>

                                      -i-

<PAGE>

<TABLE>
<S>                                                                                                             <C>
    Section 5.21     Registration Obligations.................................................................  27
    Section 5.22     Brokers and Finders and Executive Bonus..................................................  27
    Section 5.23     State Takeover Laws......................................................................  27
    Section 5.24     Environmental Matters....................................................................  27
    Section 5.25     Loans....................................................................................  29
    Section 5.26     Fiduciary Responsibilities...............................................................  29
    Section 5.27     Patents, Trademarks and Copyrights.......................................................  29
    Section 5.28     Company Action...........................................................................  29
    Section 5.29     Dissenting Shareholders..................................................................  30
    Section 5.30     Company Indebtedness.....................................................................  30
    Section 5.31     Statements True and Correct..............................................................  30

ARTICLE VI  REPRESENTATIONS AND WARRANTIES OF STERLING........................................................  30
    Section 6.1      Organization, Standing and Authority.....................................................  31
    Section 6.2      Sterling Capital Stock...................................................................  31
    Section 6.3      Authorization of Merger and Related Transactions.........................................  31
    Section 6.4      Financial Statements.....................................................................  32
    Section 6.5      Sterling SEC Reports.....................................................................  33
    Section 6.6      Regulatory Matters.......................................................................  33
    Section 6.7      Legal Proceedings........................................................................  33
    Section 6.8      Brokers and Finders......................................................................  33
    Section 6.9      Merger Consideration.....................................................................  33
    Section 6.10     Absence of Undisclosed Liabilities.......................................................  34
    Section 6.11     Tax Matters..............................................................................  34
    Section 6.12     Allowance for Credit Losses..............................................................  35
    Section 6.13     Compliance with Laws.....................................................................  35
    Section 6.14     Absence of Certain Changes or Events.....................................................  36
    Section 6.15     Reports..................................................................................  36
    Section 6.16     Registration Statement...................................................................  36

ARTICLE VII  CONDUCT OF THE COMPANY'S BUSINESS................................................................  36
    Section 7.1      Conduct of Business Prior to the Effective Time..........................................  36
    Section 7.2      Forbearances.............................................................................  38

ARTICLE VIII  ADDITIONAL AGREEMENTS...........................................................................  40
    Section 8.1      Access and Information...................................................................  40
    Section 8.2      Registration Statement and Proxy Statement...............................................  42
    Section 8.3      Company Shareholder's Meeting............................................................  43
    Section 8.4      Filing of Regulatory Approvals...........................................................  43
    Section 8.5      Press Releases...........................................................................  44
    Section 8.6      Company Options..........................................................................  44
    Section 8.7      Miscellaneous Agreements and Consents....................................................  44
    Section 8.8      Affiliates Letters.......................................................................  44
    Section 8.9      Indemnification..........................................................................  45
    Section 8.10     Certain Change of Control Matters........................................................  46
</TABLE>

                                      -ii-

<PAGE>

<TABLE>
<S>                                                                                                             <C>
    Section 8.11     Employee Benefits........................................................................  46
    Section 8.12     Certain Actions..........................................................................  47
    Section 8.13     No Solicitation..........................................................................  47
    Section 8.14     Termination Fee..........................................................................  49
    Section 8.15     Accruals.................................................................................  49
    Section 8.16     Certain Agreements.......................................................................  50
    Section 8.17     Release Agreements.......................................................................  50
    Section 8.18     Nasdaq Listing...........................................................................  50
    Section 8.19     Post-Closing Actions.....................................................................  50
    Section 8.20     Banker's and Finder's Fees...............................................................  50
    Section 8.21     Notification; Updated Disclosure Memorandums.............................................  50
    Section 8.22     Closing Date.............................................................................  51
    Section 8.23     Certain Tax Matters......................................................................  51
    Section 8.24     Employee Bonuses.........................................................................  52

ARTICLE IX  CONDITIONS TO MERGER..............................................................................  53
    Section 9.1      Conditions to Each Party's Obligation to Effect the Merger...............................  53
    Section 9.2      Conditions to Obligations of the Company to Effect the Merger............................  53
    Section 9.3      Conditions to Obligations of Sterling and Bancorporation to Effect the Merger............  54

ARTICLE X  TERMINATION........................................................................................  56
    Section 10.1     Termination..............................................................................  56
    Section 10.2     Effect of Termination....................................................................  57
    Section 10.3     Non-Survival of Representations, Warranties and Covenants................................  57

ARTICLE XI  GENERAL PROVISIONS................................................................................  58
    Section 11.1     Expenses.................................................................................  58
    Section 11.2     Entire Agreement; Parties in Interest....................................................  58
    Section 11.3     Amendments...............................................................................  58
    Section 11.4     Waivers..................................................................................  58
    Section 11.5     No Assignment............................................................................  59
    Section 11.6     Notices..................................................................................  59
    Section 11.7     Specific Performance.....................................................................  59
    Section 11.8     Governing Law............................................................................  60
    Section 11.9     Counterparts.............................................................................  60
    Section 11.10    Captions.................................................................................  60
    Section 11.11    Severability.............................................................................  60
</TABLE>

Attachments:
      Annex A.       Agreement and Irrevocable Proxy.

      Annex B.       Form of Noncompete Agreement.

      Annex C.       Form of Affiliate Letter.

                                     -iii-

<PAGE>

      Annex D.       Form of Release Agreement.

                                      -iv-

<PAGE>

                          AGREEMENT AND PLAN OF MERGER

         THIS AGREEMENT AND PLAN OF MERGER (this "Agreement") dated August 18,
2003, is by and among STERLING BANCSHARES, INC. ("Sterling"), a Texas
corporation and a registered bank holding company under the Bank Holding Company
Act of 1956, as amended (the "BHCA"), SB 2003, INC., a Texas corporation and a
wholly owned subsidiary of Sterling ("Merger Sub"), and SOUTH TEXAS CAPITAL
GROUP, INC., a Texas corporation and a registered bank holding company under the
BHCA (the "Company"). Capitalized terms not otherwise defined herein shall have
the meanings set forth in Article I.

                              W I T N E S S E T H:

         WHEREAS, pursuant to the terms and subject to the conditions of this
Agreement, Sterling will acquire the Company through the merger of Merger Sub
with and into the Company, or by such other means as provided for herein (the
"Merger"); and

         WHEREAS, pursuant to the Merger, and upon the terms and subject to the
conditions of this Agreement, each issued and outstanding share of Company
Common Stock (other than the Dissenting Shares) will be converted into the right
to receive cash and shares of Sterling Common Stock; and

         WHEREAS, (i) the respective Boards of Directors of Sterling, Merger Sub
and the Company have each determined that this Agreement, the Merger and the
transactions contemplated hereby are in the best interests of their respective
companies and shareholders and have approved this Agreement, the Merger and the
other transactions contemplated hereby, (ii) the Board of Directors of the
Company has unanimously (a) determined, based upon such factors as it considers
material, that the consideration to be paid for the outstanding shares of
Company Common Stock is fair to the shareholders of the Company and (b) resolved
to recommend to the shareholders of the Company that they vote in favor of
adoption of this Agreement, and (iii) Sterling, as the parent of Merger Sub, has
approved and adopted this Agreement, the Merger and the transactions
contemplated hereby; and

         WHEREAS, to induce Sterling to enter into this Agreement (i) the
Company Specified Shareholders have agreed, concurrently with the execution of
this Agreement, to execute and deliver to Sterling an Agreement and Irrevocable
Proxy in the form set forth as Annex A to this Agreement, and (ii) Richard E.
Lane and Paul D. Thornton have agreed, concurrently with the execution of this
Agreement, to execute and deliver their respective Noncompete Agreements to
Sterling;

         WHEREAS, after the Merger, Sterling intends to effect the merger (the
"Delaware Merger") of the Company, with and into Sterling Bancorporation, Inc.,
a Delaware corporation, a wholly owned subsidiary of Sterling
("Bancorporation"), with Bancorporation as the surviving corporation;

         WHEREAS, after the Merger, Sterling intends to effect the merger (the
"Bank Merger") of Plaza Bank, a wholly owned subsidiary of the Company (the
"Bank"), with and into Sterling

<PAGE>

Bank, a wholly owned subsidiary of Bancorporation and an indirect wholly owned
subsidiary of Sterling ("Sterling Bank"), with Sterling Bank as the surviving
bank; and

         WHEREAS, Sterling and the Company desire to provide for certain
undertakings, conditions, representations, warranties and covenants in
connection with the Merger and the related transactions contemplated by this
Agreement.

         NOW, THEREFORE, in consideration of the premises and the mutual
representations, warranties, covenants and agreements contained herein, the
benefits to be derived by each party hereunder and other good and valuable
consideration, the receipt and sufficiency of which are hereby acknowledged, the
parties hereto agree as follows:

                                   ARTICLE I
                              CERTAIN DEFINITIONS

         Section 1.1 Certain Definitions.

         As used in this Agreement, the following terms shall have the meanings
set forth below:

         "Acquisition Proposal" shall have the meaning set forth in Section
8.13.

         "Acquisition Transaction" shall have the meaning set forth in Section
8.13.

         "Affiliate" shall mean, with respect to any Person, any Person that,
directly or indirectly, controls or is controlled by or is under common control
with such Person.

         "Affiliate Letter" shall have the meaning set forth in Section 8.8.

         "Agreement" shall have the meaning set forth in the introduction
hereto.

         "Approvals" shall mean any and all filings, permits, consents,
authorizations and approvals of any governmental or regulatory authority or of
any other third person necessary to give effect to the arrangement contemplated
by this Agreement or necessary to consummate the Merger.

         "Authorizations" shall have the meaning set forth in Section 5.1.

         "Average Closing Price" shall mean the average closing price per share
of the Sterling Common Stock (rounded to the nearest cent) on the Nasdaq (as
reported in The Wall Street Journal or, if not reported thereby, another
authoritative source as chosen by Sterling) for the ten (10) consecutive trading
days in which such shares are quoted on the Nasdaq ending on the trading day
immediately prior to the Determination Date.

         "BHCA" shall have the meaning set forth in the introduction to this
Agreement.

         "Bancorporation" shall have the meaning set forth in the introduction
to this Agreement.

                                      -2-
<PAGE>

         "Bank" shall have the meaning set forth in the recitals to this
Agreement.

         "Bank Merger" shall have the meaning set forth in the recitals to this
Agreement.

         "Business Day" shall mean any day that is not a Saturday, Sunday or
other day on which commercial banks in Houston, Texas are authorized or required
by law to remain closed.

         "Certificates" shall have the meaning set forth in Section 4.2.

         "Closing" shall have the meaning set forth in Section 2.2.

         "Closing Date" shall have the meaning set forth in Section 2.2.

         "COBRA" shall mean the Consolidated Omnibus Budget Reconciliation Act
of 1985, as amended.

         "Code" shall mean the Internal Revenue Code of 1986, as amended, and
the rules and regulations promulgated thereunder.

         "Commissioner" shall mean the Texas Banking Commissioner.

         "Company" shall have the meaning set forth in the introductory
paragraph to this Agreement.

         "Company Benefit Plans" shall have the meaning set forth in Section
5.12.

         "Company Board" shall mean the Board of Directors of the Company.

         "Company Common Stock" shall mean the common stock, par value $1.00 per
share, of the Company.

         "Company Disclosure Memorandum" shall mean that document containing the
written detailed information required to be furnished pursuant to the terms of
this Agreement prepared and delivered by the Company to Sterling prior to the
execution of this Agreement.

         "Company Financial Statements" shall have the meaning set forth in
Section 5.5.

         "Company Indebtedness" shall mean all liabilities, indebtedness or
obligations of the Company, and its Subsidiaries, on a consolidated basis (i)
for borrowed money or loans, (ii) constituting an obligation to pay the deferred
purchase price of property or services, (iii) which (A) under GAAP should be
shown on the Company's balance sheet as a liability, and (B) are payable more
than one year from the date of creation, or (iv) constituting principal under
leases capitalized in accordance with GAAP; provided that the term shall not
include deposits of the Bank.

         "Company Material Adverse Effect" shall have the meaning set forth in
Section 5.1.

                                      -3-
<PAGE>

         "Company Options" shall have the meaning set forth in Section 3.2(a).

         "Company Shareholders' Meeting" shall have the meaning set forth in
Section 5.31.

         "Company Shares Number" shall mean the number of shares of Company
Common Stock outstanding immediately prior to the Effective Time (including all
shares of Company Common Stock issuable upon the exercise of any options,
warrants, debentures, or other securities which are in effect or outstanding
prior to the Effective Time entitling the holder thereof to purchase or acquire
shares of the Company Common Stock) less any Dissenting Shares and any shares of
Company Common Stock cancelled pursuant to Section 3.1(c).

         "Company Specified Shareholders" shall mean Richard E. Lane, Paul D.
Thornton, Michael L. Garrett, Charles F. Krause, and Gary W. Wolff.

         "Company Stock Plan" shall have the meaning set forth in Section 5.12.

         "Condition" shall have the meaning set forth in Section 5.1.

         "Delaware Merger" shall have the meaning set forth in the recitals to
this Agreement.

         "Determination Date" shall mean fifth trading day preceding the
anticipated Closing Date.

         "Dissenting Share" shall have the meaning set forth in Section 3.1.

         "Effective Time" shall have the meaning set forth in Section 2.3.

         "Employee" shall mean any current or former employee, officer or
director, independent contractor or retiree of the Company, its Subsidiaries and
any dependent or spouse thereof.

         "Environmental Law" means any federal, state, local or foreign law,
statute, ordinance, rule, regulation, code, license, permit, authorization,
approval, consent, order, judgment, decree, injunction or agreement with any
Regulatory Authority relating to (i) the protection, preservation or restoration
of the environment (including, without limitation, air, water vapor, surface
water, groundwater, drinking water supply, surface soil, subsurface soil, plant
and animal life or any other natural resource), and/or (ii) the use, storage,
recycling, treatment, generation, transportation, processing, handling,
labeling, production, release or disposal of any substance presently listed,
defined, designated or classified as a Hazardous Substance, or otherwise
regulated, whether by type or by quantity, including any material containing any
such substance as a component.

         "ERISA" shall have the meaning set forth in Section 5.12.

         "Exchange Act" shall mean the Securities Exchange Act of 1934, as
amended.

         "Exchange Agent" shall have the meaning set forth in Section 4.1.

                                      -4-
<PAGE>

         "Exchange Fund" shall have the meaning set forth in Section 4.1.

         "Expenses" shall have the meaning set forth in Section 8.14.

         "FDIC" shall mean the Federal Deposit Insurance Corporation.

         "Federal Reserve Board" shall mean the Board of Governors of the
Federal Reserve System and any Federal Reserve Bank.

         "GAAP" shall mean generally accepted accounting principles in the
United States, applied on a consistent basis.

         "Hazardous Substances" shall mean those substances included within the
statutory or regulatory definitions, listings or descriptions of "pollutant,"
"hazardous material," "contaminant," "toxic waste," "hazardous substance,"
"hazardous waste," "solid waste," or "regulated substance" pursuant to
applicable Environmental Laws and shall include, without limitation, any
material, waste or substance which is or contains explosives, radioactive
materials, oil or any fraction thereof, asbestos, or formaldehyde.

         "Indemnified Party" shall have the meaning set forth in Section 8.9.

         "Key Company Officials" shall mean Richard E. Lane, Paul D. Thornton,
Michael L. Garrett, Charles F. Krause, and Gary W. Wolff.

         "Law" shall mean any United States (federal, state or local) or foreign
law, statute, ordinance, rule, regulation, order, judgment or decree;

         "Liens" shall have the meaning set forth in Section 5.3.

         "Maximum Amount" shall have the meaning set forth in Section 8.9.

         "Merger" shall have the meaning set forth in the recitals to this
Agreement.

         "Merger Consideration" shall have the meaning set forth in Section
3.1(b).

         "Merger Sub" shall have the meaning set forth in the recitals to this
Agreement.

         "Nasdaq" shall mean the Nasdaq National Market of the National
Association of Securities Dealers, Inc.

         "Noncompete Agreements" shall mean the Noncompete Agreements in the
form of Annex B attached hereto executed by Richard E. Lane and Paul D.
Thornton.

         "Order" shall mean any decree, judgment, injunction, ruling, writ or
other order (whether temporary, preliminary or permanent).

                                      -5-
<PAGE>

         "Permitted Liens" shall mean (i) Liens for current taxes not yet due
and payable and incurred in the ordinary course of business, (ii) with respect
to a lease, the interest of the lessor thereunder, including any Liens on the
interest of such lessor, and (iii) such imperfections of title, Liens,
restrictions and easements that do not materially impair the use or value of the
properties or assets or otherwise materially impair the current operations
relating to the business of the Company or its Subsidiaries or the Company's
consolidated financial condition or consolidated results of operations.

         "Person" or "person" shall mean any individual, corporation, limited
liability company, association, partnership, group (as defined in Section
13(d)(3) of the Exchange Act), joint venture, trust or unincorporated
organization, or a government or any agency or political subdivision thereof.

         "Pre-Closing Taxable Period" shall mean (i) any taxable period ending
on or before the Closing Date and (ii) with respect to any taxable period
beginning on or before Closing Date and ending after the Closing Date, the
portion of such taxable period that is on or before the Closing Date ("Taxable
Period to Date").

         "Proxy Statement" shall have the meaning set forth in Section 5.31.

         "Registration Statement" shall have the meaning set forth in Section
8.2.

         "Regulatory Agreement" shall have the meaning set forth in Section
5.11.

         "Regulatory Authorities" shall have the meaning set forth in Section
5.11.

         "Regulatory Reporting Document" shall have the meaning set forth in
Section 5.5.

         "Remedies Exception" shall mean any bankruptcy, reorganization,
insolvency, fraudulent conveyance or transfer, moratorium or similar law
affecting creditors' rights generally and general principles of equity
(regardless of whether enforcement is considered in a proceeding at law or in
equity).

         "Reports" shall have the meaning set forth in Section 5.17.

         "SEC" shall mean the Securities and Exchange Commission.

         "Securities Act" shall mean the Securities Act of 1933, as amended.

         "Sterling" shall have the meaning set forth in the introduction to this
Agreement.

         "Sterling Bank" shall have the meaning set forth in the recitals to
this Agreement.

         "Sterling Common Stock" shall mean the common stock, par value $1.00
per share of Sterling.

                                      -6-
<PAGE>

         "Sterling Disclosure Memorandum" shall mean that document containing
the written detailed information required to be furnished pursuant to the terms
of this Agreement prepared and delivered by Sterling to the Company prior to the
execution of this Agreement.

         "Sterling Financial Statements" shall have the meaning set forth in
Section 6.4.

         "Sterling Material Adverse Effect" shall have the meaning set forth
Section 6.1.

         "Sterling SEC Reports" shall have the meaning set forth in 0.

         "Subsidiary" shall mean, in the case of either Sterling or the Company,
any corporation, association or other entity in which it owns or controls,
directly or indirectly, 25% or more of the outstanding voting securities or 25%
or more of the total equity interest; provided, however, that the term shall not
include any such entity in which such voting securities or equity interest is
owned or controlled in a fiduciary capacity, without sole voting power, or was
acquired in securing or collecting a debt previously contracted in good faith.

         "Superior Proposal" shall have the meaning set forth in Section 10.1.

         "Surviving Corporation" shall have the meaning set forth in Section
2.1.

         "Tax" or "Taxes" shall mean all federal, state, local and foreign
taxes, charges, fees, levies, imposts, duties or other assessments, including,
without limitation, income, gross receipts, excise, employment, sales, use,
transfer, license, payroll, franchise, severance, stamp, occupation, windfall
profits, environmental, federal highway use, commercial rent, customs duties,
capital stock, paid up capital, profits, withholding, Social Security, single
business and unemployment, disability, real property, personal property,
registration, ad valorem, value added, alternative or add-on minimum, estimated,
or other tax or governmental fee of any kind whatsoever, imposed or required to
be withheld by the United States or any state, local, foreign government or
subdivision or agency thereof, including, without limitation, any interest,
penalties or additions thereto whether disputed or not.

         "Taxable Period" shall mean any period prescribed by any governmental
authority, including, but not limited to, the United States or any state, local,
foreign government or subdivision or agency thereof for which a Tax Return is
required to be filed or Tax is required to be paid.

         "Tax Return" shall mean any report, return, information return or other
information required to be supplied to a taxing authority in connection with
Taxes, including, without limitation, any return of an affiliated or combined or
unitary group that includes the Company or any of its Subsidiaries.

         "TBCA" shall mean the Texas Business Corporation Act, as amended.

         "Termination Fee" shall have the meaning set forth in Section 8.14.

                                      -7-
<PAGE>

                                   ARTICLE II
                       THE MERGER AND RELATED TRANSACTIONS

         Section 2.1 Merger.

         (a)      Upon the terms and subject to the conditions set forth in this
Agreement and in accordance with the TBCA, at the Effective Time, Merger Sub
shall be merged with and into the Company. As a result of the Merger, the
separate existence of Merger Sub shall thereupon cease, and the Company shall
continue as the surviving corporation of the Merger (the "Surviving
Corporation") and as a subsidiary of Sterling.

         (b)      The articles of incorporation of the Company as in effect
immediately prior to the Effective Time shall be the articles of incorporation
of the Surviving Corporation.

         (c)      The bylaws of the Company as in effect immediately prior to
the Effective Time shall be the bylaws of the Surviving Corporation.

         (d)      The directors of Merger Sub immediately prior to the Effective
Time shall become the directors of the Surviving Corporation and the officers of
Merger Sub immediately prior to the Effective Time shall become the officers of
the Surviving Corporation, in each case until their respective successors are
duly elected and qualified.

         (e)      The Merger shall have the effects set forth in the TBCA.

         Section 2.2 Time and Place of Closing.

         The closing of the transactions contemplated hereby (the "Closing")
will take place at the offices of Locke Liddell & Sapp LLP in Houston, Texas on
the date (the "Closing Date") that the Effective Time occurs, or at such other
time, and at such place, as may be agreed to in writing by the parties hereto.

         Section 2.3 Effective Time.

         On the Business Day mutually agreed to by Sterling and the Company
occurring within ten (10) Business Days following the date on which the
expiration of all applicable waiting periods in connection with approvals of
governmental authorities necessary to effectuate the Merger occurs and all
conditions to the consummation of this Agreement are satisfied or waived, unless
an earlier or later date has been agreed by the parties, appropriate articles of
merger shall be executed and filed in accordance with the TBCA, and the Merger
provided for herein shall become effective upon such filing or at such time as
may be specified in such articles of merger. The time of such filing or such
later effective time is herein called the "Effective Time."

                                  ARTICLE III
                    MERGER CONSIDERATION; EXCHANGE PROCEDURES

         Section 3.1 Merger Consideration.

                                      -8-

<PAGE>

         (a)      Subject to the terms and conditions of this Agreement, each
share of Company Common Stock that is outstanding immediately prior to the
Effective Time (excluding any Dissenting Shares and any shares of Company Common
Stock cancelled pursuant to Section 3.1(c) shall be converted into and become
the right to receive cash and shares of Sterling Common Stock as set forth in
this Article III.

         (b)      Subject to the terms and conditions of this Agreement, each
share of Company Common Stock (other than the shares of Company Common Stock to
be cancelled as set forth in Section 3.1(c) or Dissenting Shares) will be
converted into and represent the right to receive consideration consisting of a
combination of shares of Sterling Common Stock and an amount of cash as each is
determined in accordance with Section 3.1(b)(i) and (ii) below, which, together
with the consideration provided for in Section 4.5 hereinbelow with respect to
fractional shares, is referred to herein as the "Merger Consideration":

                  (i)      an amount payable in cash equal to $16,000,000
         divided by the Company Shares Number, plus

                  (ii)     a number of shares of Sterling Common Stock equal to
         125,000 divided by the Company Shares Number.

         (c)      Each share of Company Common Stock held in the treasury of the
Company and each share of Company Common Stock owned by Sterling, Bancorporation
or any direct or indirect wholly owned Subsidiary of Sterling or the Company
immediately prior to the Effective Time shall be canceled without any conversion
and no payment or distribution shall be made with respect thereto.

         (d)      Each of the shares of common stock of the Merger Sub issued
and outstanding immediately before the Effective Time shall be converted into
one fully paid and non-assessable share of common stock of the Surviving
Corporation with the same rights, powers and privileges as the share so
converted and shall constitute the only outstanding shares of capital stock of
the Surviving Corporation.

         (e)      Notwithstanding any other provision of this Agreement, each
holder of shares of Company Common Stock exchanged pursuant to the Merger, who
would otherwise have been entitled to receive a fraction of a share of Sterling
Common Stock (after taking into account all certificates delivered by such
holder) shall receive, in lieu thereof, cash (without interest) in accordance
with Section 4.5 hereof. No such holder will be entitled to dividends, voting
rights or other rights as a shareholder in respect of any fractional share.

         (f)      Notwithstanding anything in this Agreement to the contrary, no
share of Company Common Stock, the holder of which shall have complied with the
provisions of Article 5.12 of the TBCA as to appraisal rights (a "Dissenting
Share"), shall be deemed converted into and to represent the right to receive
the Merger Consideration hereunder, and the holders of Dissenting Shares, if
any, shall be entitled to payment, solely from the Surviving Corporation, of the
appraised value of such Dissenting Shares to the extent permitted by and in
accordance with the provisions of Article 5.12 of the TBCA; provided, however,
that (i) if any holder of Dissenting

                                      -9-

<PAGE>

Shares shall, under the circumstances permitted by the TBCA, subsequently
deliver a written withdrawal of his or her demand for appraisal of such
Dissenting Shares, (ii) if any holder fails to establish his or her entitlement
to rights to payment as provided in such Article 5.12, or (iii) if neither any
holder of Dissenting Shares nor the Surviving Corporation has filed a petition
demanding a determination of the value of all Dissenting Shares within the time
provided in such Article 5.12, such holder or holders (as the case may be) shall
forfeit such right to payment for such Dissenting Shares pursuant to such
Article 5.12 and each such Dissenting Share shall thereupon be converted into
and shall represent the right to receive the Merger Consideration therefore. The
Company shall give Sterling (i) prompt notice of any written objections to the
Merger submitted to the Company in accordance with Article 5.12, attempted
withdrawals of such objections, and any other instruments served pursuant to
applicable law received by the Company relating to shareholders' rights of
appraisal and (ii) the opportunity to direct all negotiations and proceedings
with respect to demands for appraisal under the TBCA. The Company shall not,
except with the prior written consent of Sterling, voluntarily make any payment
with respect to any demands for appraisals of Company Common Stock, offer to
settle or settle any such demands or approve any withdrawal of any such demands.

         (g)      The ratio of the number of shares of Sterling Common Stock to
be exchanged for each share, respectively, set forth in subsection (b)(ii) above
shall be adjusted appropriately to reflect any stock dividend reclassification,
split-up, combination, exchange of shares or similar transaction with respect to
the Sterling Common Stock between the date of this Agreement and the
Determination Date.

         Section  3.2 Company Stock Options.

         (a)      Prior to the Closing Date, the Company shall (i) cause each
unexpired and unexercised option of the Company ("Company Options") to either be
(a) exercised and fully paid and converted into shares of Company Common Stock,
or (b) terminated, and (ii) cause the Company's Executive Long-Term Stock
Investment Plan to be terminated. A list of the Company Options is set forth in
Section 5.2 of the Company Disclosure Memorandum.

         (b)      The Company shall take all actions necessary or reasonably
requested by Sterling to ensure that following the Effective Time, no holder of
any Company Option will have any right thereunder to acquire any equity
securities of the Company, Sterling or any of their respective Subsidiaries or
any right to payment in respect of any such securities of the Company except for
payment of the Merger Consideration with respect to the shares of Company Common
Stock into which such Company Options are converted prior to the Effective Time.

                                   ARTICLE IV
                               EXCHANGE OF SHARES

         Section 4.1 Exchange Agent.

         As of the Effective Time, Sterling shall deposit with a bank or trust
company designated by Sterling and reasonably acceptable to the Company (the
"Exchange Agent"), for the benefit of the holders of shares of Company Common
Stock, for exchange in accordance with this Article

                                      -10-
<PAGE>

IV, (i) certificates representing the shares of Sterling Common Stock and (ii)
cash, each in an amount sufficient to make all payments of the Merger
Consideration pursuant to Article III. Such shares of Sterling Common Stock and
cash, together with any dividends or distributions with respect thereto paid in
respect of a record date after the Effective Time, being hereinafter referred to
as the "Exchange Fund". The Exchange Agent shall, pursuant to irrevocable
instructions from Sterling, deliver the Merger Consideration contemplated to be
issued pursuant hereto out of the Exchange Fund. The Exchange Fund shall not be
used for any other purpose.

         Section 4.2 Exchange Procedures.

         Promptly after the Effective Time, the Exchange Agent shall mail to
each holder of record of a certificate or certificates which, immediately prior
to the Effective Time, represented outstanding shares of Company Common Stock
(the "Certificates"), other than shares canceled in accordance with Section
3.1(c): (i) a letter of transmittal (which shall specify that delivery shall be
effected, and risk of loss and title to the Certificates theretofore
representing shares of Company Common Stock shall pass, only upon proper
delivery of such Certificates to the Exchange Agent, and shall be in such form
and have such other provisions as Sterling shall specify) and (ii) instructions
for use in effecting the surrender of the Certificates in exchange for the
Merger Consideration. Upon surrender of a Certificate for cancellation to the
Exchange Agent (or to such other agent or agents as may be appointed by
Sterling), together with such letter of transmittal, duly executed, and any
other required documents, the holder of such Certificate(s) shall be entitled to
receive in exchange therefor (i) shares of Sterling Common Stock representing,
in the aggregate, the whole number of shares that such holder has the right to
receive pursuant to 3.1(b), (ii) a check in the amount equal to the cash portion
of the Merger Consideration that such holder has the right to receive pursuant
to 3.1(b), and (iii) a check in the amount equal to the cash, if any, that such
holder has the right to receive pursuant to the provisions of Article III other
than 3.1(b), including cash in lieu of any fractional shares of Sterling Common
Stock pursuant to Section 4.5, and the Certificate(s) so surrendered shall
forthwith be cancelled. No interest will be paid or will accrue on any cash
payable pursuant to the provisions of Article III or this Section 4.2. In the
event of a transfer of ownership of Company Common Stock that is not registered
in the transfer records of the Company, one or more certificates of Sterling
Common Stock evidencing, in the aggregate, the proper number of shares of
Sterling Common Stock pursuant to 3.1(b), a check in the proper amount of the
cash portion of the Merger Consideration pursuant to 3.1(b) and a check in the
proper amount of cash in lieu of any fractional shares of Sterling Common Stock
pursuant to Section 4.5, may be issued to a transferee if the Certificate(s)
representing such Company Common Stock is presented to the Exchange Agent
accompanied by all documents required to evidence and effect such transfer and
by evidence that any applicable stock transfer taxes have been paid. Until
surrendered as contemplated by this Section 4.2, each Certificate shall be
deemed at any time after the Effective Time to represent only the right to
receive upon such surrender Merger Consideration as provided in Article III and
cash in lieu of any fractional shares of Sterling Common Stock as contemplated
by Section 3.1(e) and Section 4.5. The Certificate(s) for Company Common Stock
so surrendered shall be duly endorsed as the Exchange Agent may require.
Sterling shall not be obligated to deliver the consideration to which any former
holder of Company Common Stock is entitled as a result of the Merger until such
holder surrenders his Certificate(s) formerly

                                      -11-

<PAGE>

representing shares of Company Common Stock for exchange as provided in this
Article IV. In addition, certificates surrendered for exchange by any person
constituting an "affiliate" of Company for purposes of Rule 145(c) under the
Securities Act shall not be exchanged for certificates representing whole shares
of Sterling Common Stock until Sterling has received a written agreement from
such person as provided in Section 8.8.

         Section 4.3 Voting and Dividends.

         Former shareholders of record of the Company shall be entitled to vote
after the Effective Time at any meeting of Sterling shareholders the number of
whole shares of Sterling Common Stock into which their respective shares of
Company Common Stock are converted, regardless of whether such holders have
exchanged their Certificates representing Company Common Stock for certificates
representing Sterling Common Stock in accordance with the provisions of this
Agreement. Until surrendered for exchange in accordance with the provisions of
Section 4.1, each Certificate theretofore representing shares of the Company
Common Stock (other than shares to be canceled pursuant to Section 3.1) shall
from and after the Effective Time represent for all purposes only the right to
receive the Merger Consideration, as set forth in this Agreement. Former
shareholders of record of the Company shall be entitled to any dividends paid to
holders of record of Sterling Common Stock after the Effective Time, provided
that no dividend or other distribution payable to the holders of record of
Sterling Common Stock, at or as of any time after the Effective Time, shall be
paid to the holder of any Certificate representing shares of Company Common
Stock issued and outstanding at the Effective Time until such holder physically
surrenders such Certificate for exchange as provided in Section 4.2, promptly
after which time all such dividends or distributions shall be paid (without
interest).

         Section 4.4 No Further Ownership Rights in Company Common Stock.

         All shares of Sterling Common Stock issued upon the surrender for
exchange of shares of Company Common Stock in accordance with the terms hereof
(including any cash paid in lieu of fractional shares of Sterling Common Stock
pursuant to Section 3.1(e) and Section 4.5) shall be deemed to have been issued
in full satisfaction of all rights pertaining to such shares of Company Common
Stock, and after the Effective Time there shall be no further registration of
transfers on the stock transfer books of the Surviving Corporation of the shares
of Company Common Stock that were outstanding immediately prior to the Effective
Time. If, after the Effective Time, Certificates are presented to the Surviving
Corporation for any reason, they shall be canceled and exchanged as provided in
this Article IV.

         Section 4.5 No Fractional Shares.

         No certificates or scrip representing fractional shares of Sterling
Common Stock shall be issued upon the surrender for exchange of certificates for
Company Common Stock pursuant to this Article IV, and no dividend or other
distribution, stock split or interest shall relate to any such fractional
security, and such fractional interests shall not entitle the owner thereof to
any voting or other rights of a security holder of Sterling. In lieu of any
fractional security, each holder of shares of Company Common Stock who would
otherwise have been entitled to a fraction of a share of Sterling Common Stock
upon surrender of the certificate(s) for such

                                      -12-

<PAGE>

Company Common Stock for exchange pursuant to this Article IV will be paid an
amount in cash (without interest) equal to the product of (i) such fractional
part of a share of Sterling Common Stock multiplied by (ii) the Average Closing
Price.

         Section 4.6 Termination of Exchange Fund.

         Any portion of the Exchange Fund that remains undistributed to the
former shareholders of the Company for nine months after the Effective Time
shall be delivered to Sterling upon demand, and any shareholders of the Company
who have not theretofore complied with this Article IV shall thereafter look
only to Sterling for payment of their claim for the Merger Consideration.

         Section 4.7 Escheat of Exchange Fund.

         None of Sterling, Merger Sub, the Company, or the Exchange Agent shall
be liable to any person in respect of any Merger Consideration from the Exchange
Fund delivered to a public office pursuant to any applicable abandoned property,
escheat or similar law. If any Certificates representing shares of Company
Common Stock shall not have been surrendered immediately prior to the date on
which any Merger Consideration in respect of such Certificate would otherwise
escheat to or become the property of any government authority, any such Merger
Consideration in respect of such Certificate shall, at such time and to the
extent permitted by applicable law, become the property of the Surviving
Corporation, free and clear of all claims or interest of any Person previously
entitled thereto.

         Section 4.8 Lost Certificates.

         If any Certificates shall have been lost, stolen or destroyed, then
upon the making of an affidavit of that fact by the Person claiming such
Certificate to be lost, stolen or destroyed and, if required by Sterling or the
Exchange Agent, the posting by such Person of a bond in such reasonable amount
as Sterling or the Exchange Agent may direct as indemnity against any claim that
may be made against the Surviving Corporation with respect to such Certificate,
the Exchange Agent will pay in exchange for such lost, stolen or destroyed
Certificate the Merger Consideration to be paid in respect of the shares of
Company Common Stock represented by such Certificate, as contemplated by this
Agreement.

                                   ARTICLE V
                  REPRESENTATIONS AND WARRANTIES OF THE COMPANY

         The Company represents and warrants to Sterling and Merger Sub as
follows:

         Section 5.1 Organization, Standing and Authority.

         The Company is a corporation duly organized, validly existing and in
good standing under the laws of the State of Texas. The Company is duly
qualified to do business and in good standing in all jurisdictions (whether
federal, state, local or foreign) where its ownership or

                                      -13-
<PAGE>

leasing of property or the conduct of its business requires it to be so
qualified and in which the failure to be duly qualified would have a material
adverse effect on the financial condition, results of operations, business,
properties (the "Condition") of the Company and any of its Subsidiaries or on
the ability of the Company or its Subsidiaries to consummate the transactions
contemplated hereby (a "Company Material Adverse Effect"). The Company has all
requisite corporate power and authority (i) to carry on its business as now
conducted, (ii) to own, lease and operate its assets, properties and business
and (iii) to execute and deliver this Agreement and perform the terms of this
Agreement. The Company is duly registered as a bank holding company under the
BHCA. The Company has in effect all federal, state, local and foreign
governmental, regulatory and other authorizations, franchises, permits and
licenses (collectively, "Authorizations") necessary for it to own or lease its
properties and assets and to carry on its business as now conducted. The Company
has heretofore furnished to Sterling a complete and correct copy of its Articles
of Incorporation and bylaws, as amended or restated to the date hereof. Such
Articles of Incorporation and bylaws, as amended, are in full force and effect
and the Company is not in violation of any of the provisions of its Articles of
Incorporation or bylaws.

         Section 5.2 Company Common Stock.

         (a)      The authorized capital stock of the Company consists of
200,000 shares of Company Common Stock, par value $1.00 per share. As of the
date hereof, (i) 112,500 shares of Company Common Stock were issued and
outstanding, (ii) no shares of Company Common Stock were held by the Company in
its treasury, (iii) 13,700 shares of Company Common Stock were reserved for
issuance pursuant to stock options granted and outstanding under the Company's
Executive Long-Term Stock Investment Plan and options issued outside of any
plan, and (iv) 1,900 shares subject to the Company's Deferred Compensation Plan
dated effective July 1, 1999. All of the issued and outstanding shares of
Company Common Stock are, and all shares of the Company Common Stock which may
be issued upon the exercise or conversion of the Company Options will be, when
issued, duly authorized, validly issued and fully paid and nonassessable. None
of the outstanding shares of Company Common Stock has been, nor will any shares
of the Company Common Stock which may be issued upon the exercise or conversion
of the Company Options be issued, in violation of any preemptive rights or any
provision of the Company's Articles of Incorporation or bylaws. As of the date
of this Agreement, no shares of Company Common Stock have been reserved for any
purpose except as set forth above or in Section 5.2 of the Company Disclosure
Memorandum.

         (b)      Except as set forth in Section 5.2(a) above or Section 5.2 of
the Company Disclosure Memorandum, there are no (i) equity securities of the
Company outstanding, (ii) outstanding options, warrants, rights to subscribe to,
calls or commitments of any character whatsoever relating to, or securities or
rights convertible into or exchangeable for, shares of the capital stock of the
Company or contracts, commitments, understandings or arrangements by which the
Company is or may be bound to issue additional shares of its capital stock or
options, warrants or rights to purchase or acquire any additional shares of its
capital stock, (iii) outstanding notes, bonds, debentures or other indebtedness
of the Company having the right to vote (or convertible into, or exchangeable
for, securities having the right to vote) on any

                                      -14-
<PAGE>

matters on which shareholders of the Company have the right to vote, or (iv)
outstanding stock appreciation rights or other rights to redeem for cash any
options, warrants or other securities of the Company. Except as set forth in
Section 5.2 of the Company Disclosure Memorandum, there are no contracts,
commitments, understandings or arrangements by which the Company or any of its
Subsidiaries is or may be bound to transfer any shares of the capital stock of
any Subsidiary of the Company, and there are no agreements, understandings or
commitments relating to the right of the Company or any of its Subsidiaries to
vote or to dispose of any such shares.

         (c)      Except as set forth in Section 5.2(a) above or in the Company
Disclosure Memorandum, there are no securities required to be issued by the
Company under any Company Stock Plan, dividend reinvestment or similar plan.

         (d)      Except for the proxies evidenced by the Agreements and
Irrevocable Proxies executed by the Company Specified Shareholders and as set
forth in Section 5.2 of the Company Disclosure Memorandum, there are no voting
trusts, proxies or other agreements, commitments or understandings of any
character to which the Company or any of its Subsidiaries is a party or by which
the Company or any of its Subsidiaries is bound with respect to the voting of
any shares of capital stock of the Company or any of its Subsidiaries. There are
no agreements, arrangements or commitments of any kind or character pursuant to
which any Person is or may be entitled to cause the Company or any of its
Subsidiaries to file a registration statement under the Securities Act or which
otherwise relate to the registration of any securities of the Company or any of
its Subsidiaries.

         (e)      There are no restrictions applicable to the payment of
dividends on any shares of the Company Common Stock except pursuant to the TBCA
and applicable banking laws and regulations and all dividends and distributions
declared prior to the date hereof have been fully paid.

         Section 5.3 Subsidiaries.

         Section 5.3 of the Company Disclosure Memorandum contains a complete
list of the Company's Subsidiaries. All of the outstanding shares of each
Subsidiary are owned by the Company and no equity securities are or may be
required to be issued by reason of any options, warrants, rights to subscribe
to, calls or commitments of any character whatsoever relating to, or securities
or rights convertible into or exchangeable for, shares of any Subsidiary, and
there are no contracts, commitments, understandings or arrangements by which any
Subsidiary is bound to issue additional shares of its capital stock or options,
warrants or rights to purchase or acquire any additional shares of its capital
stock. All of the shares of capital stock of each Subsidiary are duly
authorized, validly issued, fully paid and nonassessable and are owned by the
Company free and clear of any claim, lien, pledge or encumbrance of whatsoever
kind ("Liens"). Each Subsidiary (i) is duly organized, validly existing and in
good standing under the laws of the jurisdiction in which it is incorporated or
organized, (ii) is duly qualified to do business and in good standing in all
jurisdictions (whether federal, state, local or foreign) where its ownership or
leasing of property or the conduct of its business requires it to be so
qualified and in which the failure to be so qualified would have a Company
Material Adverse Effect, (iii) has all requisite corporate power and authority
to own or lease its properties and assets and to carry on its

                                      -15-
<PAGE>

business as now conducted, and (iv) has in effect all Authorizations necessary
for it to own or lease its properties and assets and to carry on its business as
now conducted. The Company has heretofore furnished to Sterling a complete and
correct copy of each of its Subsidiaries' certificates or articles of
incorporation and bylaws, or equivalent organizational documents, as amended or
restated to the date hereof. Such certificates or articles or incorporation and
bylaws, as amended, and equivalent organizational documents of Subsidiary are in
full force and effect. None of the Subsidiaries is in violation of any provision
of its certificate or articles of incorporation or bylaws or equivalent
organizational documents. Except for the capital stock of its Subsidiaries and
as set forth in Section 5.3 of the Company Disclosure Memorandum, the Company
does not own, directly or indirectly, any capital stock or other ownership
interests in any corporation, limited liability company, partnership, joint
venture or other entity.

         Section 5.4 Authorization of Merger and Related Transactions.

         (a)      The execution and delivery of this Agreement and the
consummation of the transactions contemplated hereby (including, without
limitation, the consummation of the Merger) have been duly and validly
authorized by all necessary corporate action in respect thereof on the part of
the Company, including unanimous approval of the Merger by the Company Board,
subject to the approval of the Merger by the shareholders of the Company to the
extent required by applicable law. The only shareholder approval required for
the approval of the Merger is the approval of two-thirds of the outstanding
shares of Company Common Stock. This Agreement, subject to any requisite
shareholder approval hereof with respect to the Merger, represents a valid and
legally binding obligation of the Company, enforceable against the Company in
accordance with its terms, except as such enforcement may be limited by the
Remedies Exception.

         (b)      Neither the execution and delivery of this Agreement by the
Company, the consummation by the Company of the transactions contemplated hereby
nor compliance by the Company with any of the provisions hereof will (i)
conflict with or result in a breach of any provision of the Articles of
Incorporation or bylaws of the Company or the comparable documents of any of its
Subsidiaries, (ii) constitute or result in a breach or violation of any term,
condition or provision of, or constitute a default (or an event which with
notice or lapse of time or both would become a default) under, or give rise to
any right of termination, cancellation or acceleration with respect to, or
result in the creation of any Lien upon, any property or assets of the Company
or any of its Subsidiaries pursuant to any note, bond, mortgage, indenture,
license, agreement, lease or other instrument or obligation to which any of them
is a party or by which any of them or any of their properties or assets may be
subject or (iii) subject to receipt of the requisite approvals referred to in
Section 9.1 of this Agreement, violate any order, writ, injunction, decree,
statute, rule or regulation applicable to the Company or its Subsidiaries or any
of their properties or assets.

         (c)      Other than (i) the consents, authorizations, approvals or
exemptions required from (A) the Commissioner, the FDIC, the Federal Reserve
Board or other applicable governmental authority, and (B) the Persons described
in Section 5.4 of the Company Disclosure Memorandum, and (ii) the filing of
articles of merger in accordance with the TBCA, no notice to, filing with,
authorization of, exemption by, or consent or approval of any governmental body,

                                      -16-
<PAGE>

authority or any other Person is necessary for the consummation by the Company
of the Merger, the resulting change of control of its Subsidiaries, and the
other transactions contemplated by this Agreement.

         Section 5.5 Financial Statements and Regulatory Reports.

         (a)      The Company (i) has delivered to Sterling copies of the
unaudited consolidated balance sheets and the related unaudited consolidated
statements of income, shareholders' equity and cash flows (including related
notes and schedules) of the Company and its consolidated Subsidiaries as of and
for the periods ended December 31, 2002 and December 31, 2001, together with the
report thereof of June 30, 2003 and of the unaudited balance sheet and the
related unaudited statement of income, as of and for the six (6) months ended
June 30, 2003 (the "Company Financial Statements"), and (ii) has furnished
Sterling with a true and complete copy of each material report filed by the
Company with the Federal Reserve Board or by any of its Subsidiaries with any
Regulatory Authorities from and after January 1, 1998 (each a "Regulatory
Reporting Document"), which are all the material documents that the Company or
any of its Subsidiaries was required to file with the Regulatory Authorities
since such date and all of which complied when filed in all material respects
with all applicable laws and regulations.

         (b)      The Company Financial Statements (as of the dates thereof and
for the periods covered thereby) (i) are in accordance with the books and
records of the Company and its Subsidiaries, which are complete and accurate in
all material respects and which have been maintained in accordance with good
business practices, and (ii) present fairly the consolidated financial position
and the consolidated results of operations, changes in shareholders' equity and
cash flows of the Company and its Subsidiaries as of the dates and for the
periods indicated, in accordance with GAAP, subject in the case of unaudited
interim financial statements for the six (6) months ended June 30, 2003 to
normal recurring year-end adjustments and except for the absence of certain
footnote information in such unaudited interim financial statements. Neither
KPMG LLP, nor any other firm of independent certified public accountants has
prepared or delivered to the Company any management letters that express any
material concerns or issues regarding the Company's internal controls,
accounting practices or financial conditions since January 1, 1998.

         (c)      Neither the Company nor its Subsidiaries have any liabilities
or obligations of a type which should be included in or reflected on the Company
Financial Statements if prepared in accordance with GAAP, whether related to tax
or non-tax matters, accrued or contingent, due or not yet due, liquidated or
unliquidated, or otherwise, except as and to the extent disclosed or reflected
in the Company Financial Statements. The Company will provide Sterling with the
unaudited consolidated and unconsolidated statements of financial position of
the Company and its Subsidiaries as of the end of each month hereafter, prepared
on a basis consistent with prior periods and promptly following their
availability, the Company will provide Sterling with the Reports of Condition
and Statements of Income ("Call Reports") of its Subsidiaries for all periods
ending after March 31, 2003. The Company and its Subsidiaries have no off
balance

                                      -17-
<PAGE>

sheet liabilities associated with financial derivative products or potential
liabilities associated with financial derivative products.

         Section 5.6 Absence of Undisclosed Liabilities.

         Except as set forth in Section 5.6 of the Company Disclosure
Memorandum, neither the Company nor any of its Subsidiaries has any obligations
or liabilities (contingent or otherwise) in an amount equal to, or in excess of,
$50,000, in the aggregate, except obligations and liabilities (i) which are
fully accrued or reserved against in the consolidated balance sheet of the
Company and its Subsidiaries as of June 30, 2003, included in the Company
Financial Statements or reflected in the notes thereto, or (ii) which were
incurred after June 30, 2003, in the ordinary course of business consistent with
past practice and have been fully accrued and reserved for on the books of the
Company as of the date hereof. Since June 30, 2003, neither the Company nor any
of its Subsidiaries has incurred or paid any obligation or liability which would
have a Company Material Adverse Effect.

         Section 5.7 Tax Matters.

         Except as set forth in Section 5.7 of the Company Disclosure
Memorandum:

         (a)      All Tax Returns required to be filed by or on behalf of the
Company or any of its Subsidiaries have been timely filed, or requests for
extensions have been timely filed, granted and have not expired, all such Tax
Returns filed are complete and accurate in all material respects and all Taxes
payable by or with respect to the Company and its Subsidiaries for the periods
covered by such Tax Returns (whether or not shown on such Tax Returns) have been
timely paid in full or are adequately reserved for in accordance with GAAP on
the June 30, 2003 financial statements included in the Company Financial
Statements. With respect to the periods for which Tax Returns have not been
filed, the Company and its Subsidiaries have established adequate reserves
determined in accordance with GAAP for the payment of all Taxes.

         (b)      No deficiencies for any Taxes have been proposed, asserted or
assessed against the Company or any of its Subsidiaries that are not adequately
provided for on the Company Financial Statements and no request for waivers of
the time to assess any such Taxes has been granted or are pending. Neither the
Company nor any Subsidiary is involved in any audit examination, deficiency or
refund litigation or matter in controversy with respect to any Taxes. All Taxes
due with respect to completed and settled examinations or concluded litigation
have been paid or adequately reserved for. No claim has ever been made by an
authority in a jurisdiction where any of the Company and its Subsidiaries does
not file Tax Returns that it is or may be subject to taxation by that
jurisdiction.

         (c)      Neither the Company nor any of its Subsidiaries has executed
an extension or waiver of any statute of limitations on the assessment or
collection of any Tax due that is currently in effect.

         (d)      Adequate provision for any Taxes due or to become due for the
Company and any of its Subsidiaries for any period or periods through and
including June 30, 2003, has been made,

                                      -18-
<PAGE>

in accordance with GAAP, and is reflected on the June 30, 2003 financial
statements included in the Company Financial Statements. Deferred Taxes of the
Company and its Subsidiaries have been provided for in the Company Financial
Statements in accordance with GAAP. None of the assets or properties of the
Company or any of its Subsidiaries is subject to any Tax lien, other than such
liens for Taxes which are not due and payable, which may thereafter be paid
without penalty or the validity of which are being contested in good faith by
appropriate proceedings and for which adequate provisions are being maintained
in accordance with GAAP.

         (e)      The Company and its Subsidiaries have collected and withheld
all Taxes which they have been required to collect or withhold in connection
with any amounts paid or owing to any employee, independent contractor,
creditor, shareholder, or other third party and have timely submitted all such
collected and withheld amounts to the appropriate authorities. The Company and
its Subsidiaries are in compliance in all material respects with the back-up
withholding and information reporting requirements under (i) the Code, and (ii)
any state, local or foreign laws, and the rules and regulations, thereunder.

         (f)      Neither the Company nor any of its Subsidiaries has made any
payments, is obligated to make any payments, or is a party to any contract,
agreement or other arrangement that could obligate it to make any payments that
would not be deductible under Section 280G of the Code.

         (g)      No consent has been filed under Section 341(f) of the Code
with respect to the Company or any of its Subsidiaries; neither the Company nor
any of its Subsidiaries owns any interest in an entity or arrangement
characterized as a partnership for United States federal income tax purposes;
neither the Company nor any of its Subsidiaries has been a United States real
property holding company within the meaning of Section 897(c)(2) of the Code
during the applicable period specified in Section 897(c)(1)(A)(ii) of the Code;
no debt of the Company or any of its Subsidiaries is "corporate acquisition
indebtedness" within the meaning of Section 279(b) of the Code; and neither the
Company nor any of its Subsidiaries has any liability for the Taxes of any
Person (other than any of the Company and its Subsidiaries) under Treasury
Regulation Section 1.1502-6 (or any similar provision of state, local, or
foreign law), as a transferee or successor, by contract, or otherwise.

         (h)      The Company, with the requisite consent of its shareholders,
has validly elected to be treated as an S corporation under Section 1362 of the
Code and under the corresponding provisions of applicable state and local laws
where it files income Tax Returns, which election has been effective at all
times since January 1, 2000 and including the day before the Closing Date. Each
Subsidiary has been a "qualified subchapter S subsidiaries" within the meaning
of Section 1361(b)(3)(B) of the Code at all times during each Subsidiary's
existence and including the day before the Closing Date.

         (i)      The Company would not be liable for any Tax under Section 1374
of the Code if its assets (or the assets of any qualified subchapter S
subsidiary) were sold for their fair market value as of the Closing Date.
Neither the Company nor any qualified subchapter S subsidiary of the Company
has, in the past ten (10) years, (i) acquired assets from another corporation in
a transaction in which the Company's tax basis for the acquired assets was
determined, in whole or

                                      -19-
<PAGE>

in part, by reference to the Tax basis of the acquired assets (or any other
property) in the hands of the transferor, or (ii) acquired the stock of any
corporation which is a qualified subchapter S subsidiary.

         Section 5.8 Allowance for Credit Losses

         Each allowance for credit losses shown in the consolidated balance
sheets of the Company and its Subsidiaries as of December 31, 2002, and as of
June 30, 2003 and included in the Company Financial Statements, complies in all
material respects with GAAP. The reserves for possible loan losses shown on the
March 31, 2003 Call Report filed, and all subsequent Call Reports to be filed,
with a Regulatory Agency for the Bank are or will be adequate to provide for
possible losses, net of recoveries relating to loans previously charged off, on
loans outstanding (including accrued interest receivable) as of the date of such
reports.

         Section 5.9 Other Regulatory Matters.

         Neither the Company nor any of its Subsidiaries has taken or agreed to
take any action or has any knowledge of any fact or circumstance that would
materially impede or delay receipt of any approval referred to in Section
9.1(b).

         Section 5.10 Properties.

         Except as set forth in Section 5.10 of the Company's Disclosure
Memorandum, the Company and its Subsidiaries have good and indefeasible title,
free and clear of all Liens except Permitted Liens, to all their properties and
assets whether tangible or intangible, real, personal or mixed, including,
without limitation, all the properties and assets reflected in the Financial
Statements except for those properties and assets disposed of for fair market
value in the ordinary course of business and consistent with prudent banking
practices since the date of the Financial Statements. All buildings, and all
fixtures, equipment and other property and assets which are material to its
business on a consolidated basis, held under leases or subleases by any of the
Company or its Subsidiaries are held under valid instruments enforceable in
accordance with their respective terms, subject to the Remedies Exception. All
of the Company's and its Subsidiaries' equipment in regular use has been well
maintained and is in good, serviceable condition, reasonable wear and tear
excepted, except where a failure to so maintain or to be in such condition would
not have a Company Material Adverse Effect.

         Section 5.11 Compliance with Laws.

         Except as set forth in Section 5.11 of the Company Disclosure
Memorandum:

         (a)      Each of the Company and its Subsidiaries is in compliance in
all material respects with all laws, rules, regulations, policies, guidelines,
reporting and licensing requirements and orders applicable to its business or to
its employees conducting its business, and with its internal policies and
procedures.

                                      -20-
<PAGE>

         (b)      Neither the Company nor any of its Subsidiaries has received
any notification or communication from any agency or department of any federal,
state or local government, including the Federal Reserve Board, the FDIC, the
Commissioner, the SEC and the staffs thereof (collectively, the "Regulatory
Authorities") (i) asserting that since January 1, 1998, the Company or any of
its Subsidiaries is not in compliance with any of the statutes, regulations, or
ordinances which such agency, department or Regulatory Authority enforces, or
the internal policies and procedures of the Company or its Subsidiaries, (ii)
threatening to revoke any license, franchise, permit or governmental
authorization which is material to the Condition of the Company or any of its
Subsidiaries, (iii) requiring or threatening to require the Company or any of
its Subsidiaries, or indicating that the Company or any of its Subsidiaries may
be required, to enter into a cease and desist order, agreement or memorandum of
understanding or any other agreement restricting or limiting or purporting to
restrict or limit in any manner the operations of the Company or any of its
Subsidiaries, including, without limitation, any restriction on the payment of
dividends, or (iv) directing, restricting or limiting, or purporting to direct,
restrict or limit in any manner the operations of the Company or any of its
Subsidiaries, including, without limitation, any restriction on the payment of
dividends (any such notice, communication, memorandum, agreement or order
described in this sentence being herein referred to as a "Regulatory
Agreement"). Neither the Company nor any Subsidiary has received or been made
aware of any complaints or inquiries under the Community Reinvestment Act, the
Fair Housing Act, the Equal Credit Opportunity Act or any other state or federal
anti-discrimination fair lending law and, to the knowledge of the Company and
its Subsidiaries, there is no fact or circumstance that would form the basis of
any such complaint or inquiry.

         (c)      Since January 1, 1998, neither the Company nor any of its
Subsidiaries has been a party to any effective Regulatory Agreement.

         (d)      Neither the Company nor any of its Subsidiaries is required by
Section 32 of the Federal Deposit Insurance Act to give prior notice to a
federal banking agency of the proposed addition of an individual to the Company
Board or the employment of an individual as a senior executive officer.

         Section 5.12 Employee Benefit Plans.

         Except as set forth in Section 5.12 of the Company Disclosure
Memorandum:

         (a)      The Company has delivered to Sterling prior to the execution
of this Agreement true and complete copies (and, in the case of each material
plan, financial data with respect thereto) of all pension, retirement,
profit-sharing, deferred compensation, stock option, employee stock ownership,
severance pay, vacation, bonus or other incentive plans, all other employee
programs, arrangements or agreements, all medical, vision, dental or other
health plans, all life insurance plans and all other employee benefit plans,
programs or arrangements, or fringe benefit plans, including, without
limitation, all "employee benefit plans" as that term is defined in Section 3(3)
of the Employee Retirement Income Security Act of 1974, as amended ("ERISA"),
whether or not terminated, and trust agreements and insurance contracts under or
with respect to which the Company or any of its Subsidiaries has or could have
any liability (collectively, the "Company Benefit Plans"). Any of the Company
Benefit Plans pursuant to which the Company

                                      -21-
<PAGE>

is or may become obligated to, or obligated to cause any of its Subsidiaries or
any other Person to, issue, deliver or sell shares of capital stock of the
Company or any of its Subsidiaries, or grant, extend or enter into any option,
warrant, call, right, commitment or agreement to issue, deliver or sell shares,
or any other interest in respect of capital stock of the Company or any of its
Subsidiaries, is referred to herein as a "Company Stock Plan." No Company
Benefit Plan is or has been a multiemployer plan within the meaning of Section
3(37) of ERISA. The Company has set forth in Section 5.12 of the Company
Disclosure Memorandum (i) a list of all of the Company Benefit Plans, (ii) a
list of the Company Benefit Plans that are Company Stock Plans and (iii) a list
of the number of shares covered by, exercise prices for, and holders of, all
stock options granted and available for grant under Company Benefit Plans.

         (b)      From their inception, all Company Benefit Plans have been and
are in compliance in all material respects with the applicable terms of ERISA
and the Code and any other applicable laws, rules and regulations, including the
terms of such plans.

         (c)      All liabilities of any sort (contingent or otherwise) under
any Company Benefit Plan are fully accrued or reserved against in the Company
Financial Statements in accordance with GAAP. No Company Benefit Plan is or has
ever been subject to Title IV of ERISA or Section 412 of the Code.

         (d)      Neither the Company nor any of its Subsidiaries has any
obligations for retiree health or other welfare benefits under any Company
Benefit Plan or otherwise other than as required by COBRA. There are no
restrictions on the rights of the Company or its Subsidiaries to unilaterally
amend or terminate any such Company Benefit Plan at any time without incurring
any material liability thereunder.

         (e)      Except as disclosed in Section 5.12 of the Company Disclosure
Memorandum, neither the execution and delivery of this Agreement nor the
consummation of the transactions contemplated hereby will (i) result in any
payment (including, without limitation, severance, golden parachute or
otherwise) becoming due to any person under any Company Benefit Plan or
otherwise, (ii) increase any benefits otherwise payable under any Company
Benefit Plan or (iii) result in any acceleration of the time of payment or
vesting of any such benefits. No amounts payable under any Company Benefit Plan
will be nondeductible pursuant to either Section 280G or 162(m) of the Code.

         (f)      Neither the Company, any Subsidiary, nor any plan fiduciary of
any Company Benefit Plan has engaged in any transaction in violation of Section
406 of ERISA (for which transaction no exemption exists under Section 408 of
ERISA) or in any "prohibited transaction" as defined in Section 4975(c)(1) of
the Code (for which no exemption exists under Section 4975(c)(2) or 4975(d) of
the Code).

         (g)      All Company Benefit Plans, related trust agreements or annuity
contracts (or any other funding instruments), are legally valid and binding and
in full force and effect and there are no written agreements or, to the
Company's knowledge, any oral agreements, regarding increases in benefits
(whether expressed or implied) under any of these plans, nor, to the Company's
knowledge, any obligations, commitments, or understanding to continue any of
these

                                      -22-
<PAGE>

plans (whether expressed or implied) except as required by Section 4980B of the
Code and Sections 601-608 of ERISA.

         (h)      There are no violations, defaults, breaches or liabilities
under any Company Benefit Plan which could subject the Company, any of its
Subsidiaries, Sterling, the Company Benefit Plan or any fiduciary thereunder, to
Taxes, penalties or liabilities.

         (i)      There are no claims pending with respect to, or under, any
Company Benefit Plan other than routine claims for plan benefits, and there is
no litigation pending, or to the knowledge of the Company or any Subsidiary, any
disputes or litigation threatened with respect to any such plans.

         Section 5.13 Commitments and Contracts.

         Except as set forth in Section 5.13 of the Company Disclosure
Memorandum, neither the Company nor any of its Subsidiaries is a party or
subject to, or has amended or waived any rights under, any of the following
(whether written or oral, express or implied):

         (a)      any employment contract or understanding (including any
understandings or obligations with respect to severance or termination pay
liabilities or fringe benefits) with any Employee, including in any such
person's capacity as a consultant (other than those which either (i) are
terminable at will by the Company or such Subsidiary without requiring any
payment by the Company or (ii) do not involve payments with a present value of
more than $10,000 individually or $50,000 in the aggregate by the Company or
such Subsidiary during the remaining term thereof (without giving effect to
extensions or renewals of the existing term thereof) which payments may be made
at the election or with the consent or concurrence of the Company;

         (b)      any labor contract or agreement with any labor union;

         (c)      any contract not made in the usual, regular and ordinary
course of business containing non-competition covenants which limit the ability
of the Company or any of its Subsidiaries to compete in any line of business or
which involve any restriction of the geographical area in which the Company or
any of its Subsidiaries may carry on its business (other than as may be required
by law or applicable Regulatory Authorities);

         (d)      any other contract or agreement for which the Company or any
Subsidiary was or is required to obtain the approval of any Regulatory Authority
prior to becoming bound or to consummating the transactions contemplated
thereby;

         (e)      any lease, sublease, license, contract and agreement which
obligates or may obligate the Company or any Subsidiary for an amount in excess
of $5,000 annually or which have a current term of one year or longer; provided,
however, that the foregoing shall not include (i) loans made by, repurchase
agreements made by, bankers acceptances of, agreements with Bank customers for
trust services, or deposits by the Company and any of its Subsidiaries, and

                                      -23-

<PAGE>

(ii) any lease, sublease, license, contract or agreement which may be terminated
by the Company, without penalty, upon thirty (30) day's or less prior written
notice;

         (f)      any contract requiring the payment of any penalty, termination
or other additional amounts as "change of control" payments or otherwise as a
result of the transactions contemplated by this Agreement, or providing for the
vesting or accrual of benefits or rights upon a "change of control" or otherwise
as a result of the transactions contemplated by this Agreement;

         (g)      any agreement with respect to (i) the acquisition of any bank,
bank branch or other assets or stock of another financial institution or any
other Person or (ii) the sale of one or more bank branches;

         (h)      any outstanding interest rate exchange or other derivative
contracts; or

         (i)      any buy back, recourse or guaranty obligation with respect to
participation loans sold by the Company or any Subsidiary which create
contingent or direct liabilities of the Company or any of its Subsidiaries.

         Section 5.14 Material Contract Defaults.

         Except as set forth in Section 5.14 of the Company Disclosure
Memorandum, neither the Company nor any of its Subsidiaries is, or has received
any notice or has any knowledge that any party is, in any material respect, in
breach, violation or default in any respect under any contract, agreement,
commitment, arrangement, lease, insurance policy or other instrument to which
the Company or any of its Subsidiaries is a party or by which the Company or any
of its Subsidiaries or the assets, business or operations thereof may be bound
or affected or under which it or its respective assets, business or operations
receives benefits, and there has not occurred any event that with the lapse of
time or the giving of notice or both would constitute such a default.

         Section 5.15 Legal Proceedings.

         Except as set forth in Section 5.15 of the Company Disclosure
Memorandum, there are no claims or charges filed with, or proceedings or
investigations by, Regulatory Authorities or actions or suits instituted or
pending or, to the knowledge of the Company's management, threatened against the
Company or any of its Subsidiaries, or against any property, asset, interest or
right of any of them, that might reasonably be expected to result in a judgment
in excess of $10,000 or that might reasonably be expected to threaten or impede
the consummation of the transactions contemplated by this Agreement. Neither the
Company nor any of its Subsidiaries is a party to any agreement or instrument or
is subject to any charter or other corporate restriction or any Law or Order
that, individually or in the aggregate, might reasonably be expected to have a
Company Material Adverse Effect or might reasonably be expected to threaten or
impede the consummation of the transactions contemplated by this Agreement.

         Section 5.16 Absence of Certain Changes or Events.

                                      -24-
<PAGE>

         (a)      Since January 1, 1998, except (i) as disclosed in any
Regulatory Reporting Document filed since January 1, 1998 and prior to the date
hereof or (ii) as set forth in Section 5.16 of the Company Disclosure
Memorandum, neither the Company nor any of its Subsidiaries has (a) incurred any
liability which has had a Company Material Adverse Effect, (b) suffered any
change in its Condition which would have a Company Material Adverse Effect,
other than changes after the date hereof which affect the banking industry as a
whole, (c) failed to operate its business, in all material respects, in the
ordinary course consistent with past practice and prudent banking practices or
(d) changed any accounting practices.

         (b)      Except as set forth in Section 5.16 of the Company Disclosure
Memorandum, since December 31, 2002, neither the Company nor any of its
Subsidiaries has:

                  (i)      entered into any agreement, commitment or transaction
         other than in the ordinary course of business consistent with prudent
         banking practices;

                  (ii)     incurred, assumed or become subject to, whether
         directly or by way of any guaranty or otherwise, any obligations or
         liabilities (absolute, accrued, contingent or otherwise) other than in
         the ordinary course of business and consistent with prudent banking
         practices;

                  (iii)    permitted or allowed any of its property or assets to
         become subject to any mortgage, pledge, lien, security interest,
         encumbrance, restriction or charge of any kind (other than Permitted
         Liens) other than in the ordinary course of business and consistent
         with prudent banking practices;

                  (iv)     except in the ordinary course of business consistent
         with prudent banking practices, canceled any debts, waived any claims
         or rights, or sold, transferred or otherwise disposed of any its
         properties or assets;

                  (v)      except for regular salary increases granted in the
         ordinary course of business consistent with prior practice, granted any
         increase in compensation or paid or agreed to pay or accrue any bonus,
         percentage compensation, service award, severance payment or like
         benefit to or for the credit of any director, officer, employee or
         agent, or entered into any employment or consulting contract or other
         agreement with any director, officer or employee or adopted, amended or
         terminated any Company Benefit Plan;

                  (vi)     directly or indirectly declared, set aside or paid
         any dividend or made any distribution in respect with capital stock, or
         redeemed, purchased or otherwise acquired any shares of its capital
         stock or other of its securities, except for dividends paid to the
         Company by its Subsidiaries;

                  (vii)    organized or acquired any capital stock or any other
         equity securities or acquired any equity or ownership interest in any
         Person (except for settlement of indebtedness, foreclosure or the
         exercise of creditors' remedies or in a fiduciary capacity, the
         ownership of which does not expose the Company or its Subsidiaries to
         any liability from the business, operations or liabilities of such
         Person);

                                      -25-
<PAGE>

                  (viii)   except for the transactions contemplated by this
         Agreement or as otherwise permitted hereunder, entered into any
         transaction, or entered into, modified or amended any contract or
         commitment, other than in the ordinary course of business and
         consistent with prudent banking practices; or

                  (ix)     agreed, whether in writing or otherwise, to take any
         action the performance of which would change the representations
         contained in this Section 5.16(b) in the future so that any such
         representation would not be true in all material respects as of the
         Closing.

         Section 5.17 Reports.

         Since January 1, 1998, the Company and each of its Subsidiaries have
filed on a timely basis all material reports and statements, together with all
amendments required to be made with respect thereto (collectively "Reports"),
that they were required to file with any Regulatory Authority. No Regulatory
Reporting Document with respect to periods beginning on or after January 1,
1998, contained any information that was false or misleading with respect to any
material fact or omitted to state any material fact necessary in order to make
the statements therein not misleading.

         Section 5.18 Insurance.

         The Company and each of its Subsidiaries are presently insured, and
during each of the past four calendar years have been insured, for reasonable
amounts against such risks as companies engaged in a similar business would, in
accordance with good business practice, customarily be insured. To the knowledge
of the Company's management, the policies of fire, theft, liability (including
directors and officers liability insurance) and other insurance set forth in
Section 5.18 of the Company Disclosure Memorandum and maintained with respect to
the assets or businesses of the Company and its Subsidiaries provide adequate
coverage against all pending or threatened claims, and the fidelity bonds in
effect as to which any of the Company or any of its Subsidiaries is a named
insured are sufficient for their purpose. Except as set forth in Section 5.18 of
the Company Disclosure Memorandum, there have been no claims under such fidelity
bonds within the last four calendar years and neither the Company nor its
Subsidiaries have knowledge of any facts which would form the basis of a claim
under such bonds.

         Section 5.19 Labor.

         No material work stoppage involving the Company or its Subsidiaries is
pending or, to the knowledge of the Company's management, threatened. Neither
the Company nor any of its Subsidiaries is involved in, or, to the knowledge of
the Company's management, threatened with or affected by, any labor or other
employment-related dispute, arbitration, lawsuit or administrative proceeding.
Employees of the Company and its Subsidiaries are not represented by any labor
union, and, to the knowledge of the Company's management, no labor union is
attempting to organize employees of the Company or any of its Subsidiaries.

         Section 5.20 Material Interests of Certain Persons.

                                      -26-
<PAGE>

         Except as set forth in Section 5.20 of the Company Disclosure
Memorandum, no officer or director of the Company, or any "associate" (as such
term is defined in Rule 14a-1 under the Exchange Act) of any such officer or
director, has any interest in any contract or property (real or personal),
tangible or intangible, used in or pertaining to the business of the Company or
any of its Subsidiaries.

         Section 5.21 Registration Obligations.

         Neither the Company nor any of its Subsidiaries is under any
obligation, contingent or otherwise, presently in effect or which will survive
the Merger by reason of any agreement to register any of its securities under
the Securities Act.

         Section 5.22 Brokers and Finders and Executive Bonus.

         Except as set forth in Section 5.22 of the Company Disclosure
Memorandum (which shall identify the broker, finder or other Person and amount
of compensation payable), neither the Company nor any of its Subsidiaries nor
any of their respective officers, directors or employees has employed any broker
or finder or incurred any liability for any financial advisory fees, brokerage
fees, commissions or finder's fees, no other broker, finder or other Person has
acted directly or indirectly for the Company or any of its Subsidiaries in
connection with this Agreement or the transactions contemplated hereby, and no
other amount is payable based upon the consummation of the transaction
contemplated by this Agreement.

         Section 5.23 State Takeover Laws.

         The transactions contemplated by this Agreement are exempt from any
applicable charter or contractual provision containing change of control or
anti-takeover provisions and, to the knowledge of the Company, from any
applicable state takeover law.

         Section 5.24 Environmental Matters.

         Except as set forth in Section 5.24 of the Company Disclosure
Memorandum:

         (a)      The Company, its Subsidiaries and any Property (as herein
defined) owned or operated by any of them have been and are in compliance with
all applicable Environmental Laws. There is no present event, condition or
circumstance, or to the knowledge of the Company or any Subsidiary, any past
event, condition or circumstance (i) that could interfere with the conduct of
the business of the Company or its Subsidiaries in any manner now conducted
relating to such entities' compliance with Environmental Laws, (ii) that could
constitute a violation of, or serve as the basis of liability pursuant to, any
Environmental Law, or (iii) relating to the compliance with any Environmental
Law which would have a Company Material Adverse Effect.

         (b)      The Company, its Subsidiaries and its Properties have not
been, and are not now subject to any actual or, to the knowledge of the Company
or any Subsidiary, potential or threatened claim or proceeding pursuant to any
Environmental Law and neither the Company

                                      -27-
<PAGE>

nor any Subsidiary have received any notice from any Person of any actual or
alleged violation, or liability pursuant to, any Environmental Law.

         (c)      There is no Controlled Property (as herein defined) for which
the Company or any Subsidiary is, or to its knowledge was, required to obtain
any permit, license or authorization under any Environmental Law.

         (d)      Neither the Company nor any Subsidiary has generated any
Hazardous Substances for which it was required under any Environmental Law to
execute any Hazardous Disposal Manifest and no Hazardous Substances have been
released from any Property that constitutes a violation of Environmental Laws.

         (e)      To the knowledge of the Company or any Subsidiary, there are
no underground or above ground storage tanks on or under any Property nor any
Hazardous Substances (at, in, on, under or emanating from any Property) in any
quantity or concentration exceeding any standard or limit established pursuant
to applicable Environmental Law.

         (f)      To the knowledge of the Company or any Subsidiary, there is no
asbestos containing material ("ACM") present in any Controlled Property except
non-friable ACM which can be managed in place in compliance with Environmental
Law without air monitoring, removal or encapsulation which is managed under and
in compliance with an operations and maintenance program.

         (g)      There are no obligations, undertakings or liabilities arising
out of or related to any Environmental Law which the Company or any Company
Subsidiary has agreed to, assumed, or retained, by contract or otherwise.

         (h)      For purposes of this Section 5.24, "Property" includes (i) any
property (whether real or personal) which the Company or any of its Subsidiaries
currently or in the past has leased, operated, owned or managed in any manner
including, without limitation, any property acquired by foreclosure or deed in
lieu thereof (a "Controlled Property") and (ii) property now held as security
for a loan or other indebtedness by the Company or any of its Subsidiaries or
property currently proposed as security for loans or other credit the Company or
any of its Subsidiaries is currently evaluating to extend or has committed to
extend ("Collateral Property"). With respect to any Collateral Property and
Property leased, operated, owned or managed in any manner prior to June 24, 1997
and which have not been leased, operated, owned or managed since June 24, 1997,
the representations of this Section 5.24 shall be limited to the knowledge of
the Company and its Subsidiaries (without any separate investigation). With
respect to any past conditions, events, facts or circumstances concerning any
Controlled Property which conditions, events, facts or circumstances existed or
occurred prior to the earliest date of any leasehold interest, operation,
ownership or management of such Controlled Property by the Company or any of its
Subsidiaries, the representations of this Section 5.24 shall be limited to the
knowledge of the Company and its Subsidiaries (without any separate
investigation). For purposes of this Section 5.24, "operated" and "managed"
shall have the meaning of "operator" as that term is defined in 42 U.S.C.
Section 9601(20) and under applicable federal case law.

                                      -28-

<PAGE>

         Section 5.25 Loans.

         Each loan reflected as an asset in the Financial Statements is the
legal, valid and binding obligation of the obligor of each loan, enforceable in
accordance with its terms, subject to the Remedies Exception; provided, however,
that no representation or warranty is made as to the collectibility of such
loans. The Company's Subsidiaries do not have in their portfolios any loan
exceeding their legal lending limit, and except as disclosed in Section 5.25 of
the Company Disclosure Memorandum, there are no significant delinquent,
substandard, doubtful, loss, nonperforming or problem loans.

         Section 5.26 Fiduciary Responsibilities.

         The Company and its Subsidiaries have performed in all material
respects all of their respective duties as a trustee, custodian, guardian or as
an escrow agent in a manner which complies in all respects with all applicable
laws, regulations, orders, agreements, instruments and common law standards.

         Section 5.27 Patents, Trademarks and Copyrights.

         (a)      Except as set forth in Section 5.27 of the Company Disclosure
Memorandum, neither the Company nor any of its Subsidiaries require the use of
any material patent, patent application, trademark (whether registered or
unregistered), trademark application, trade name, service mark, copyright, or
material trade secret for the business or operations of the Company or its
Subsidiaries. The Company and/or its Subsidiaries own or are licensed or
otherwise have the right to use the items listed in Section 5.27 of the Company
Disclosure Memorandum.

         (b)      The Company and/or its Subsidiaries own all right, title and
interest in and to, or hold valid licenses or sub-licenses to use, all of the
computer software used by the Company and/or its Subsidiaries in their
respective operations, free and clear of any liens, claims or encumbrances of
any kind or nature (excluding the rights of the owner or licensor in the case of
software licensed or sub-licensed by the Company and/or its Subsidiaries from
others). Except as specified on in Section 5.27 of the Company Disclosure
Memorandum, all computer software owned by the Company or its Subsidiaries was
developed by the Company or the respective Subsidiary entirely through its own
efforts and for its own account. The use by the Company and/or its Subsidiaries
of computer software licensed to the Company from third parties (including the
sublicensing of such licensed software to customers) does not violate the terms
of the respective license agreements with respect to such licensed software.

         (c)      No director, officer or employee of the Company or any
Subsidiary owns, directly or indirectly, in whole or in part, any computer
software or other intellectual property right which the Company is using or
which is necessary for the business of the Company or any Subsidiary as now
conducted.

         Section 5.28 Company Action.

                                      -29-
<PAGE>

         The Company Board, at a meeting duly called and held on August 15,
2003, unanimously (i) determined, based upon such factors as the Company Board
deemed appropriate, that the Merger is fair to and in the best interests of the
Company and its shareholders, (ii) approved this Agreement and the Merger in
accordance with the TBCA, (iii) resolved to recommend approval and adoption of
this Agreement and the Merger and the other transactions contemplated hereby by
the Company's shareholders and (iv) directed that this Agreement and the Merger
be submitted to the Company's shareholders for approval.

         Section 5.29 Dissenting Shareholders.

         The Company and its Subsidiaries have no knowledge of any plan or
intention on the part of any Company shareholder to exercise any appraisal
rights under the TBCA or otherwise make written demand for payment of the fair
value of any Company Common Stock in the manner provided in the TBCA.

         Section 5.30 Company Indebtedness.

         Except as set forth in Section 5.30 of the Company Disclosure
Memorandum, the Company has no Company Indebtedness. The Company has delivered
to Sterling true and complete copies of all loan documents (the "Company Loan
Documents") related to all Company Indebtedness and any indebtedness of the Bank
and the Company's other Subsidiaries, other than deposits, and made available to
Sterling all material correspondence concerning the status of such indebtedness.

         Section 5.31 Statements True and Correct.

         The proxy statement to be used by the Company to solicit any required
approval of its shareholders as contemplated by this Agreement (the "Proxy
Statement") will not (i) when it is first mailed to the shareholders of the
Company, contain any untrue statement of a material fact or omit to state any
material fact necessary in order to make the statements made therein, in light
of the circumstances under which such statements are made, not misleading, or
(ii) at the time of the meeting of the shareholders of the Company to be held
pursuant to Section 8.3 of this Agreement, including any adjournments thereof
(the "Company Shareholders' Meeting"), be false or misleading with respect to
any material fact or omit to state any material fact necessary to correct any
statement or remedy any omission in any earlier communication with respect to
the solicitation of any proxy for the Company Shareholders' Meeting. All
documents that the Company is responsible for filing with any Regulatory
Authority in connection with the transactions contemplated hereby will comply as
to form in all respects with the provisions of applicable law. The information
which is deemed to be set forth in the Company Disclosure Memorandum by the
Company for the purposes of this Agreement is true and accurate in all material
respects.

                                   ARTICLE VI
                   REPRESENTATIONS AND WARRANTIES OF STERLING

         Each of Sterling and Merger Sub represent and warrant to the Company as
follows:

                                      -30-
<PAGE>

         Section 6.1 Organization, Standing and Authority.

         (a)      Sterling is a corporation duly organized, validly existing and
in good standing under the laws of the State of Texas. Merger Sub is a
corporation duly organized, validly existing and in good standing under the laws
of the State of Texas. Sterling is duly qualified to do business and in good
standing in all jurisdictions where its ownership or leasing of property or the
conduct of its business requires it to be so qualified and in which the failure
to be duly qualified would have a material adverse effect on the Condition of
Sterling and its Subsidiaries taken as a whole or on the ability of Sterling or
Merger Sub to consummate the transactions contemplated hereby (a "Sterling
Material Adverse Effect"). Each of Sterling and Merger Sub has all requisite
corporate power and authority to carry on its business as now conducted and to
own, lease and operate its assets, properties and business, and to execute and
deliver this Agreement and perform the terms of this Agreement. Sterling is duly
registered as a bank holding company under the BHCA. Each of Sterling and Merger
Sub has in effect all Authorizations necessary for it to own or lease its
properties and assets and to carry on its business as now conducted, except for
those Authorizations the absence of which, either individually or in the
aggregate, would not have a Sterling Material Adverse Effect.

         Section  6.2 Sterling Capital Stock.

         (a)      The authorized capital stock of Sterling consists of
100,000,000 shares of Sterling Common Stock and 1,000,000 shares of preferred
stock, par value $1.00 per share, issuable in series. As of August 7, 2003,
there were outstanding approximately 44,184,552 shares of Sterling Common Stock
and 20,000 shares of Series I Convertible Preferred Stock, and no other shares
of capital stock of any class.

         (b)      The authorized capital stock of Merger Sub consists of 3,000
shares of common stock, par value of $0.01 per share, of which 1,000 shares are
issued and outstanding and owned by Sterling.

         (c)      At the Effective Time, the shares of Sterling Common Stock
issued pursuant to the Merger will be duly authorized, validly issued, fully
paid and nonassessable, and not issued in violation of any preemptive rights.

         Section 6.3 Authorization of Merger and Related Transactions.

         (a)      The execution and delivery of this Agreement and the
consummation of the transactions contemplated hereby have been duly and validly
authorized by all necessary corporate action in respect thereof on the part of
each of Sterling and Merger Sub, to the extent required by applicable law. This
Agreement represents a valid and legally binding obligation of each of Sterling
and Merger Sub, enforceable against Sterling and Merger Sub in accordance with
its terms except as such enforcement may be limited by the Remedies Exception.

         (b)      Neither the execution and delivery of this Agreement by
Sterling or Merger Sub, the consummation by Sterling or Merger Sub of the
transactions contemplated hereby nor compliance by Sterling or Merger Sub with
any of the provisions hereof will (i) conflict with or

                                      -31-
<PAGE>

result in a breach of any provision of Sterling's Articles of Incorporation or
bylaws or the Articles of Incorporation or bylaws of Merger Sub, (ii) constitute
or result in a breach or violation of any term, condition or provision of, or
constitute a default (or an event which with notice or lapse of time or both
would become a default) under, or give rise to any right of termination,
cancellation or acceleration with respect to, or result in the creation of any
Lien upon any property or assets of Sterling or Merger Sub pursuant to any note,
bond, mortgage, indenture, license, agreement, lease or other instrument or
obligation to which it is a party or by which it or any of its properties or
assets may be subject, and that would, individually or in the aggregate, have a
Sterling Material Adverse Effect or (iii) subject to receipt of the requisite
approvals referred to in Section 9.1(b) of this Agreement, violate any order,
writ, injunction, decree, statute, rule or regulation applicable to Sterling or
Merger Sub or any of its properties or assets.

         Section 6.4 Financial Statements.

         (a)      Sterling has delivered to the Company copies of the audited
consolidated balance sheets and the related audited consolidated statements of
income, consolidated statements of shareholders' equity and consolidated
statements of cash flows (including related notes and schedules) of Sterling and
its consolidated Subsidiaries as of and for the periods ended December 31, 2002
and December 31, 2001, and its unaudited consolidated balance sheet at June 30,
2003, and the related unaudited consolidated statements of income, shareholders'
equity and cash flows for the three (3) months then ended and included in its
annual report filed on Form 10-K for the year ended December 31, 2002 or its
quarterly report filed on Form 10-Q for the quarter ended June 30, 2003,
respectively, filed by Sterling pursuant to the Exchange Act and the rules and
regulations of the SEC promulgated thereunder (collectively, the "Sterling
Financial Statements").

         (b)      The Sterling Financial Statements (as of the dates thereof and
for the periods covered thereby) (a) are in accordance with the books and
records of Sterling and its consolidated Subsidiaries, are complete and accurate
in all material respects and, have been maintained in accordance with good
business practices, and (b) present fairly the consolidated financial position
and the consolidated statements of income, changes in shareholders' equity and
cash flows of Sterling and its Subsidiaries as of the dates and for the periods
indicated, in accordance with GAAP, subject in the case of unaudited interim
financial statements to normal recurring year-end adjustments and except for the
absence of certain footnote information in the unaudited interim financial
statements. Neither Deloitte & Touche LLP, nor any other firm of independent
certified public accountants has prepared or delivered to Sterling any
management letters that express any material concerns or issues regarding
Sterling's internal controls, accounting practices or financial conditions since
January 1, 1998.

         (c)      Neither Sterling nor its Subsidiaries have any liabilities or
obligations of a type which should be included in or reflected on the Sterling
Financial Statements if prepared in accordance with GAAP, whether related to tax
or non-tax matters, accrued or contingent, due or not yet due, liquidated or
unliquidated, or otherwise, except as and to the extent disclosed or reflected
in the Sterling Financial Statements. Promptly following their availability,
Sterling will provide the Company with the Call Reports of its Subsidiaries for
all periods ending after June 30, 2003.

                                      -32-
<PAGE>

Except as set forth in Section 6.4 of the Sterling Disclosure Memorandum,
Sterling and its Subsidiaries have no off balance sheet liabilities associated
with financial derivative products or potential liabilities associated with
financial derivative products.

         Section 6.5 Sterling SEC Reports.

         Since January 1, 1999, Sterling has filed on a timely basis all reports
and statements, together with all amendments required to be made with respect
thereto, that as an issuer it is required to file with the SEC pursuant to the
Exchange Act (the "Sterling SEC Reports"). Such Sterling SEC Reports did not, as
of their respective dates (or if amended by a filing prior to the date hereof,
then as of the date of such amendment) contain any untrue statement of a
material fact or omit to state a material fact required to be stated therein or
necessary in order to make the statements therein, in light of the circumstances
under which they were made, not misleading, except to the extent superseded by a
Sterling SEC Report filed subsequently and prior to the date hereof.

         Section 6.6 Regulatory Matters.

         Neither Sterling nor any of its Subsidiaries has taken or agreed to
take any action or has any knowledge of any fact or circumstance that would
materially impede or delay receipt of any approval referred to in Section
9.1(b).

         Section 6.7 Legal Proceedings.

         There are no claims or charges filed with, or proceedings or
investigations by, Regulatory Authorities or actions or suits instituted or
pending or, to the knowledge of Sterling's management, threatened against
Sterling or any of its Subsidiaries, or against any property, asset, interest or
right of any of them, that might reasonably be expected to threaten or impede
the consummation of the transactions contemplated by this Agreement. Neither
Sterling nor any of its Subsidiaries is a party to any agreement or instrument
or is subject to any charter or other corporate restriction or any Law or Order
that, individually or in the aggregate, might reasonably be expected to have a
Sterling Material Adverse Effect or might reasonably be expected to threaten or
impede the consummation of the transactions contemplated by this Agreement.

         Section 6.8 Brokers and Finders.

         Neither Sterling nor any of its Subsidiaries nor any of their
respective officers, directors or employees has employed any broker or finder or
incurred any liability for any financial advisory fees, brokerage fees,
commissions or finder's fees and no broker or finder has acted directly or
indirectly for Sterling or any of its Subsidiaries in connection with this
Agreement or the transactions contemplated hereby.

         Section 6.9 Merger Consideration.

                                      -33-
<PAGE>

         Sterling has sufficient cash available to fund the cash portion of the
Merger Consideration.

         Section 6.10 Absence of Undisclosed Liabilities.

         Except as set forth in the Sterling SEC Reports, the Sterling earnings
release dated January 16, 2003 and the correction to capital ratios release
dated January 23, 2003 (collectively, "Sterling Earnings Release") or Section
6.10 of the Sterling Disclosure Memorandum, neither Sterling nor any of its
Subsidiaries has any obligations or liabilities (contingent or otherwise) in an
amount equal to, or in excess of, $250,000, in the aggregate, except obligations
and liabilities (i) which are fully accrued or reserved against in the
consolidated balance sheet of Sterling and its Subsidiaries as of June 30, 2003,
included in the Sterling Financial Statements or reflected in the notes thereto,
or (ii) which were incurred after June 30, 2003, in the ordinary course of
business consistent with past practice and have been fully accrued and reserved
for on the books of Sterling as of the date hereof. Except as set forth in the
Sterling Earnings Release and the Sterling SEC Reports, since June 30, 2003,
neither Sterling nor any of its Subsidiaries has incurred or paid any obligation
or liability which would have a Sterling Material Adverse Effect.

         Section 6.11 Tax Matters.

         Except as set forth in the Sterling SEC Reports or Section 6.11 of the
Sterling Disclosure Memorandum:

         (a)      All material Tax Returns required to be filed by or on behalf
of Sterling or any of its Subsidiaries have been timely filed, or requests for
extensions have been timely filed, granted and have not expired, all such Tax
Returns filed are complete and accurate in all material respects and all Taxes
payable by or with respect to Sterling and its Subsidiaries for the periods
covered by such Tax Returns (whether or not shown on such Tax Returns) have been
timely paid in full or are adequately reserved for in accordance with GAAP on
the June 30, 2003 financial statements included in the Sterling Financial
Statements. With respect to the periods for which Tax Returns have not been
filed, Sterling and its Subsidiaries have established adequate reserves
determined in accordance with GAAP for the payment of all Taxes.

         (b)      No deficiencies for any Taxes have been proposed, asserted or
assessed against Sterling or any of its Subsidiaries that are not adequately
provided for on the Sterling Financial Statements and no request for waivers of
the time to assess any such Taxes has been granted or are pending. Neither
Sterling nor any Subsidiary is involved in any material audit examination,
deficiency or refund litigation or matter in controversy with respect to any
Taxes. All Taxes due with respect to completed and settled examinations or
concluded litigation have been paid or adequately reserved for. No claim has
ever been made by an authority in a jurisdiction where any of Sterling and its
Subsidiaries does not file Tax Returns that it is or may be subject to taxation
by that jurisdiction.

         (c)      Adequate provision for any Taxes due or to become due for
Sterling and any of its Subsidiaries for any period or periods through and
including June 30, 2003, has been made, in accordance with GAAP, and is
reflected on the June 30, 2003 financial statements included in

                                      -34-
<PAGE>

the Sterling Financial Statements. Deferred Taxes of Sterling and its
Subsidiaries have been provided for in the Sterling Financial Statements in
accordance with GAAP. None of the assets or properties of Sterling or any of its
Subsidiaries is subject to any Tax lien, other than such liens for Taxes which
are not due and payable, which may thereafter be paid without penalty or the
validity of which are being contested in good faith by appropriate proceedings
and for which adequate provisions are being maintained in accordance with GAAP.

         (d)      Sterling and its Subsidiaries have collected and withheld all
Taxes which they have been required to collect or withhold in connection with
any amounts paid or owing to any employee, independent contractor, creditor,
shareholder, or other third party and have timely submitted all such collected
and withheld amounts to the appropriate authorities. Sterling and its
Subsidiaries are in compliance in all material respects with the back-up
withholding and information reporting requirements under (i) the Code, and (ii)
any state, local or foreign laws, and the rules and regulations, thereunder.

         (e)      Neither Sterling nor any of its Subsidiaries has made any
payments, is obligated to make any payments, or is a party to any contract,
agreement or other arrangement that could obligate it to make any payments that
would not be deductible under Section 162(m) of the Code (or any corresponding
provision of state, local or foreign Tax law).

         Section 6.12 Allowance for Credit Losses

         Each allowance for credit losses shown in the consolidated balance
sheets of Sterling and its consolidated Subsidiaries as of December 31, 2002,
and as of June 30, 2003 and included in the Sterling Financial Statements,
complies in all material respects with GAAP. The reserves for possible loan
losses shown on the June 30, 2003 Call Reports filed, and all subsequent Call
Reports to be filed, with a Regulatory Agency for Sterling Bank are or will be
adequate to provide for possible losses, net of recoveries relating to loans
previously charged off, on loans outstanding (including accrued interest
receivable) as of the date of such reports.

         Section 6.13 Compliance with Laws.

         Except as set forth in the Sterling SEC Reports or Section 6.13 of
Sterling Disclosure Memorandum:

         (a)      Each of Sterling and its Subsidiaries is in compliance in all
material respects with all laws, rules, regulations, policies, guidelines,
reporting and licensing requirements and orders applicable to its business or to
its employees conducting its business, and with its internal policies and
procedures.

         (b)      Neither Sterling nor any of its Subsidiaries has received any
notification or communication from any Regulatory Authority which would result
in a Sterling Material Adverse Effect (i) asserting that since January 1, 1998,
Sterling or any of its Subsidiaries is not in compliance with any of the
statutes, regulations, or ordinances which such agency, department or Regulatory
Authority enforces, or the internal policies and procedures of Sterling or its
Subsidiaries, (ii) threatening to revoke any license, franchise, permit or
governmental

                                      -35-
<PAGE>

authorization which is material to the Condition of Sterling or any of its
Subsidiaries, (iii) requiring or threatening to require Sterling or any of its
Subsidiaries, or indicating that Sterling or any of its Subsidiaries may be
required, to enter into a Regulatory Agreement, or (iv) directing, restricting
or limiting, or purporting to direct, restrict or limit in any manner the
operations of Sterling or any of its Subsidiaries, including without limitation,
any restrictions on the payment of dividends.

         (c)      Since January 1, 1998, neither Sterling nor any of its
Subsidiaries has been a party to any effective Regulatory Agreement.

         Section 6.14 Absence of Certain Changes or Events.

         Since January 1, 1998, except (i) as disclosed in the Sterling SEC
Reports or (ii) as set forth in Section 6.14 of the Sterling Disclosure
Memorandum, neither Sterling nor any of its Subsidiaries has (a) incurred any
liability which has had a Sterling Material Adverse Effect, (b) suffered any
change in its Condition which would have a Sterling Material Adverse Effect,
other than changes after the date hereof which affect the banking industry as a
whole, (c) failed to operate its business, in all material respects, in the
ordinary course consistent with past practice and prudent banking practices or
(d) changed any accounting practices.

         Section 6.15 Reports.

         Since January 1, 1998, Sterling and each of its Subsidiaries have filed
on a timely basis all material Reports, that they were required to file with any
Regulatory Authority. No Regulatory Reporting Document with respect to periods
beginning on or after January 1, 1998, contained any information that was false
or misleading with respect to any material fact or omitted to state any material
fact necessary in order to make the statements therein not misleading.

          Section 6.16 Registration Statement.

          Sterling has furnished to the Company a true and complete copy of
the Registration Statement it filed with the SEC under the Securities Act. The
Registration Statement did not contain an untrue statement of material fact or
omit to state a material fact required to be stated therein or necessary to make
the statements therein not misleading at the time such Registration Statement
became effective under the Securities Act. The Registration Statement has become
effective under the Securities Act and no stop order proceedings with respect
thereto have been instituted or are pending under the Securities Act. A
sufficient number of shares of Sterling Common Stock are available for issuance
under the Registration Statement to cover the number of shares of Sterling
Common Stock to be issued by Sterling upon consummation of the Merger.

                                  ARTICLE VII
                        CONDUCT OF THE COMPANY'S BUSINESS

         Section 7.1 Conduct of Business Prior to the Effective Time.

                                      -36-
<PAGE>

         During the period from the date of this Agreement until the earlier of
the Effective Time or the termination of this Agreement, and except as otherwise
contemplated by this Agreement, the Company shall, and shall cause each of its
Subsidiaries to:

                  (i)      operate and conduct its business in the usual,
         regular and ordinary course, consistent with past practice and prudent
         banking practices;

                  (ii)     preserve intact the Company's and each of its
         Subsidiaries' corporate existence, business organization, assets,
         licenses, permits, authorizations, and business opportunities;

                  (iii)    comply with all material contractual obligations
         applicable to business operations of the Company and/or its
         Subsidiaries;

                  (iv)     maintain all of its properties and assets in good
         repair, order and condition, reasonable wear and tear excepted, and
         maintain the insurance coverages described in Section 5.18 or obtain
         comparable insurance coverages from reputable insurers, which, in
         respect to amounts, types and risks insured, are adequate for the
         business conducted by the Company and its Subsidiaries and consistent
         with the existing insurance coverages;

                  (v)      in good faith and in a reasonable manner (a)
         cooperate with Sterling in satisfying the conditions in this Agreement,
         (b) assist Sterling in obtaining as promptly as possible all consents,
         approvals, authorizations and rulings, whether regulatory, corporate or
         otherwise, as are necessary to carry out and consummate the
         transactions contemplated by this Agreement, (c) upon the written
         request of Sterling, furnish information concerning the Company and its
         Subsidiaries not previously provided to Sterling required for inclusion
         in any filings or applications that may be necessary in that regard,
         and (d) perform all acts and execute and deliver all documents
         necessary to cause the transactions contemplated by this Agreement to
         be consummated at the earliest date that is reasonably possible;

                  (vi)     timely file all Reports required to be so filed by
         the Company or any of its Subsidiaries with any Regulatory Authority
         and to the extent permitted by applicable law, promptly thereafter
         deliver to Sterling copies of all such Reports required to be so filed;

                  (vii)    comply in all material respects with all applicable
         laws and regulations, domestic and foreign;

                  (viii)   promptly notify Sterling upon obtaining knowledge of
         any default, event of default or condition with which the passage of
         time or giving of notice would constitute a default or an event of
         default under the Company Loan Documents and promptly notify and
         provide copies to Sterling of any material written communications
         concerning the Company Loan Documents;

                  (ix)     promptly give written notice to Sterling of (a) any
         material change in its business, operations or prospects, (b) any
         complaints, investigations or hearings (or

                                      -37-
<PAGE>

         communications indicating that the same may be contemplated) of any
         Regulatory Authority, (c) the institution or the threat of any material
         litigation against the Company, or (d) any event or condition that
         would cause any of the representations or warranties of the Company
         contained in this Agreement to be untrue or misleading in any material
         respect or which would otherwise cause a Company Material Adverse
         Effect;

                  (x)      use its best efforts to maintain current customer
         relationship and preserve intact its business organization, employees,
         advantageous business relationships and retain the services of its
         officers and employees; and

                  (xi)     promptly notify Sterling of the making,
         renegotiating, renewal, increase, extension or purchase of any loan,
         lease (credit equivalent), advance, credit enhancement or other
         extension of credit in an amount exceeding $300,000 but not exceeding
         $500,000 to any individual borrower.

         Section 7.2 Forbearances.

         During the period from the date of this Agreement to the earlier of the
Effective Time or the termination of this Agreement, and except as set forth in
Section 7.2 of the Company Disclosure Memorandum, the Company shall not, and
shall not permit any of its Subsidiaries to, without the prior written consent
of Sterling (and the Company shall provide Sterling with prompt notice of any
events referred to in this Section 7.2 occurring after the date hereof):

         (a)      other than in the ordinary course of business consistent with
past practice, incur any indebtedness for borrowed money (other than short-term
indebtedness incurred to refinance short-term indebtedness and indebtedness of
the Company or any of its Subsidiaries to the Company or any of its
Subsidiaries; it being understood and agreed that incurrence of indebtedness in
the ordinary course of business shall include, without limitation, the creation
of deposit liabilities, purchases of federal funds, and sales of certificates of
deposit), assume, guarantee, endorse or otherwise as an accommodation become
responsible for the obligations of any other Person, or make any loan or advance
other than in the ordinary course of business consistent with past practice and
prudent banking practices;

         (b)      adjust, split, combine or reclassify any capital stock; make,
declare or pay any dividend or make any other distribution on, or directly or
indirectly redeem, purchase or otherwise acquire, any shares of its capital
stock or any securities or obligations convertible into or exchangeable for any
shares of its capital stock, other than distributions from the Bank to the
Company, grant any stock options or stock awards, or grant any Person any right
to acquire any shares of its capital stock; or issue any additional shares of
capital stock (except upon exercise and conversion of Company Options, as
provided in Section 3.2 and Section 8.6), or any securities or obligations
convertible into or exchangeable for any shares of its capital stock; provided,
however, that the Company, consistent with its prior practice, may make a
distribution ("Tax Distribution") to each shareholder equal to 35% of the
estimated net income and gains, if any (after taking into consideration any and
all losses, deductions and other taxable items) ("Estimated Income"), of the
Company for the taxable years 2003 and 2004 up to and including the day before
the Closing Date that would be allocable to each such shareholder on his or her

                                      -38-
<PAGE>

individual federal income Tax Return for such period, provided that the
Estimated Income amount is consented to by Sterling prior to any such Tax
Distribution, such consent not to be unreasonably withheld.

         (c)      sell, transfer, mortgage, encumber or otherwise dispose of any
of its properties or assets to any Person, or cancel, release or assign any
indebtedness to such Person or any claims held by any such Person, except in the
ordinary course of business consistent with past practice and prudent banking
practices or pursuant to contracts or agreements in force at the date of this
Agreement;

         (d)      make any material investment (other than trades in investment
securities in the ordinary course) either by purchase of stock or securities,
contributions to capital, property transfers, or purchase of any property or
assets of any other Person;

         (e)      enter into, terminate or fail to exercise any material right
under, any contract or agreement involving annual payments in excess of $10,000
and which cannot be terminated without penalty upon 30 days' notice, or make any
change in, or extension of (other than automatic extensions) any of its leases
or contracts involving annual payments in excess of $10,000 and which cannot be
terminated without penalty upon 30 days' notice;

         (f)      make, renegotiate, renew, increase, extend or purchase any (i)
loan, lease (credit equivalent), advance, credit enhancement or other extension
of credit, except (A) in conformity with existing lending practices of the
Company in amounts not to exceed $500,000 to any individual borrower, (B) loans
or advances as to which the Company or any Subsidiary has a legally binding
obligation to make such loan or advances as of the date hereof, (C) loans fully
secured by a certificate of deposit at the Bank, and (D) consumer loans in
amounts less than $100,000; provided, however, that the Company and its
Subsidiaries may not make, renegotiate, renew, increase, extend or purchase any
loan that is underwritten based on no verification of income or loans commonly
known or referred to as "no documentation loans," or (ii) loans, advances or
commitments to directors, officers or other affiliated parties of the Company or
any of its subsidiaries;

         (g)      modify the terms of any Company Benefit Plan (including any
severance pay plan) or increase or modify in any manner the compensation or
fringe benefits of any of its Employees (including, without limitation, entering
into any commitment to pay any "stay bonuses" or similar benefits) or pay any
pension or retirement allowance not required by any existing plan or agreement
to any such Employees, pay any bonuses, or become a party to, amend or commit
itself to any pension, retirement, profit-sharing or welfare benefit plan or
agreement or employment agreement with or for the benefit of any Employee other
than routine adjustments in compensation and fringe benefits in the ordinary
course of business consistent with past practice (except as may be contemplated
by this Agreement);

         (h)      settle any claim, action or proceeding involving the payment
of money damages in excess of $10,000;

         (i)      amend its Articles of Incorporation or its bylaws;

                                      -39-
<PAGE>

         (j)      fail to maintain its Regulatory Agreements, material
Authorizations or to file in a timely fashion all federal, state, local and
foreign Tax Returns;

         (k)      make any capital expenditures of more than $10,000
individually or $50,000 in the aggregate;

         (l)      fail to maintain or administer each Company Benefit Plan in
accordance with applicable Law or timely make all contributions or accruals
required thereunder in accordance with GAAP;

         (m)      take any action that is intended or may reasonably be expected
to result in any of its representations and warranties set forth in this
Agreement being or becoming untrue at any time prior to the Effective Time, or
in any of the conditions to the Merger set forth in Article X not being
satisfied or in a violation of any provision of this Agreement, except, in every
case, as may be required by applicable law;

         (n)      change any methods or policies of accounting from those used
in the Company Financial Statements;

         (o)      make or change any election, change an annual accounting
period, adopt or change any accounting method, file any amended Tax Return,
enter into any closing agreement, settle any Tax claim or assessment relating to
the Company or any of its Subsidiaries, surrender any right to claim a refund of
Taxes, consent to any extension or waiver of the limitation period applicable to
any Tax claim or assessment relating to the Company or any of its Subsidiaries,
or take any other similar action relating to the filing of any Tax Return or the
payment of any Tax, if such election, adoption, change, amendment, agreement,
settlement, surrender, consent or other action would have the effect of
increasing the Tax liability of the Company or any of its Subsidiaries for any
period ending after the Closing Date or decreasing any Tax attribute of the
Company or any of its Subsidiaries existing on the Closing Date; or

         (p)      agree, or make any commitment, to take, in writing or
otherwise, any of the actions described in clauses (a) through (p) of this
Section 7.2.

                                  ARTICLE VIII
                              ADDITIONAL AGREEMENTS

         Section 8.1 Access and Information.

         (a)      During the period from the date of this Agreement through the
Effective Time:

                  (i)      the Company shall, and shall cause its Subsidiaries
         to, afford Sterling and its accountants, counsel and other
         representatives full access during normal business hours to the
         properties, books, contracts, Tax Returns, Reports, commitments and
         records of the Company and its Subsidiaries at any time, and from time
         to time, for the purpose of conducting any review or investigation
         reasonably related to this Agreement or the Merger, and the Company and
         its Subsidiaries will cooperate fully with all such reviews

                                      -40-
<PAGE>

         and investigations provided that Sterling provides the Company with
         reasonable notice of Sterling's on-site visits and that Sterling does
         not unreasonably interfere with the business operations of the Company
         during the course of such visits; and

                  (ii)     Sterling shall upon reasonable notice make copies of
         the Sterling SEC Reports and other information reasonably related to
         Sterling's operations or financial performance available to the Company
         and its advisors for purposes of any review or report to the Company
         Board in evaluating the Merger.

         (b)      During the period from the date of this Agreement through the
Effective Time, the Company shall furnish to Sterling (i) all Reports which are
filed after the date hereof promptly upon the filing thereof, (ii) a copy of
each Tax Return filed by it after the date hereof, and (iii) monthly and other
interim financial statements in the form prepared by the Company for its
internal use. During this period, the Company shall notify Sterling promptly of
any material change in the Condition of the Company or any of its Subsidiaries.

         (c)      During the period from the date of this Agreement through the
Effective Time, the Company shall provide Sterling such additional information
as Sterling may request from time to time regarding the loans, credit facilities
and/or collateral therefor as may be specified by Sterling. The Company shall
also make available to Sterling its loan files, correspondence and other records
regarding any such specified loans, credit facilities and/or collateral.

         (d)      Notwithstanding the foregoing provisions of this Section 8.1,
no investigation by any party hereto made heretofore or hereafter shall affect
the representations and warranties of the other parties which are contained
herein and each such representation and warranty shall survive such
investigation.

         (e)      Sterling agrees that it will keep confidential any information
furnished to it by the Company in connection with the transactions contemplated
by this Agreement which is reasonably designated as confidential at the time of
delivery, except to the extent that such information (i) was already known to
Sterling and was received from a source other than the Company or any of its
Subsidiaries, directors, officers, employees or agents, (ii) thereafter was
lawfully obtained from another source or was publicly disclosed by the Company
or its agent or representative, or (iii) is required to be disclosed to any
Regulatory Authority, or is otherwise required to be disclosed by law. Sterling
agrees not to use such confidential information, and to implement safeguards and
procedures that are reasonably designed to prevent such confidential information
from being used, for any purpose other than in connection with the transactions
contemplated by this Agreement. Upon any termination of this Agreement, Sterling
will return to the Company or will destroy all documents furnished Sterling for
its review and all copies of such documents made by Sterling. The Company agrees
to keep confidential, in accordance with the provisions of this Section 8.1(e),
any information furnished to it by Sterling in connection with the transactions
contemplated by this Agreement that is reasonably designated as confidential at
the time of delivery. The Company agrees not to use any such confidential
information, and to implement safeguards and procedures that are reasonably
designed to prevent such confidential information from being used, for any
purpose other than in connection with the transactions contemplated by this
Agreement. Upon any termination of this Agreement, the

                                      -41-

<PAGE>

Company will return to Sterling or will destroy all documents containing any
such confidential information furnished to the Company for its review and all
copies of such documents made by the Company.

         Section 8.2 Registration Statement and Proxy Statement.

         (a)      As promptly as practicable after the execution of this
Agreement, the Company shall (i) prepare and mail to its shareholders and (ii)
if required by applicable law file with the appropriate Regulatory Authorities a
proxy or information statement (the "Proxy Statement") relating to the Company
Shareholders' Meeting. Sterling shall furnish all information concerning
Sterling and its Subsidiaries as the Company may reasonably request in
connection with and the preparation of the Proxy Statement. The Company shall
give Sterling and its counsel the opportunity to review the Proxy Statement and
each document to be incorporated by reference therein prior to mailing the Proxy
Statement to its shareholders.

         (b)      Unless otherwise required pursuant to the applicable fiduciary
duties of the Company Board (as determined in good faith by the Company Board
based upon the advice of its outside counsel), no amendment or supplement to the
Proxy Statement will be made by the Company without the approval of Sterling,
which approval shall not be unreasonably withheld.

         (c)      The information supplied by the Company for inclusion in the
Proxy Statement shall not, at (i) the time the Proxy Statement (or any amendment
thereof or supplement thereto) is first mailed to the stockholders of the
Company and (ii) the time of the Company Shareholders' Meeting, contain any
untrue statement of a material fact or omit to state any material fact required
to be stated therein or necessary in order to make the statements therein not
misleading.

         (d)      The information supplied or to be supplied by Sterling for
inclusion in the Proxy Statement will not, at the time it is supplied to the
Company, contain any untrue statement of a material fact or omit to state any
material fact necessary in order to make the statements made therein not
misleading.

         (e)      The shares of Sterling Common Stock to be issued as the Merger
Consideration will be issued under Sterling's effective shelf registration
statement on Form S-4 (Registration No.333-46345) ("Registration Statement")
under the Securities Act. Rule 145 under the Securities Act will be available to
the Company Shareholders who receive these shares of Sterling Common Stock under
Article III to sell these shares without further registration under the
Securities Act. As of its effective date, the Registration Statement complied as
to form in all material respect with the applicable requirements of the
Securities Act. The prospectus (the "Prospectus"), included in the Registration
Statement, at the time of delivery to Company stockholders and at the time of
the Company Stockholders Meeting, has complied and will comply as to form in all
material respects with the applicable requirements of the Securities Act. The
Registration Statement and Prospectus do not contain any untrue statement of a
material fact or omit to state any material fact required to be stated therein
or necessary in order to make the

                                      -42-
<PAGE>

statements made therein, in the light of the circumstances under which they were
made, not misleading.

         Section 8.3 Company Shareholder's Meeting.

         The Company, acting through the Company Board, shall, in accordance
with applicable law, duly call, give notice of, convene and hold a special
meeting of its shareholders as soon as practicable for the purpose of approving
and adopting this Agreement and approving the Merger. The Company shall cause
the Company Shareholder's Meeting to occur within 45 days after the Proxy
Statement is completed; provided, however, that the Company Shareholder's
Meeting shall occur no later than October 15, 2003. Subject to the fiduciary
duties of the Company Board under applicable law as determined by such directors
in good faith after consultation with and based upon the advice of outside
counsel, the Company shall include in the Proxy Statement of the Company for use
in connection with the Company Shareholders' Meeting, the recommendation of the
Company Board that the Company shareholders vote in favor of the approval and
adoption of the Merger, this Agreement and the consummation of the transactions
contemplated hereby. The Company agrees to use its best efforts to obtain the
approval and adoption of the Merger and this Agreement by the Company
shareholders. The Company (i) acknowledges that a breach of its covenant
contained in this Section 8.3 to convene a meeting of its shareholders and call
for a vote thereat with respect to the approval of this Agreement, the Merger
and the transactions contemplated hereby and thereby will result in irreparable
harm to Sterling which will not be compensable in monetary damages and (ii)
agrees that such covenant shall be specifically enforceable and that specific
performance and injunctive relief shall be a remedy properly available to
Sterling for a breach of such covenant.

         Section 8.4 Filing of Regulatory Approvals.

         Within 15 Business Days following the date of this Agreement, Sterling
and the Company shall file all notices and applications to the applicable
Regulatory Authorities which Sterling deems necessary or appropriate to complete
the transaction contemplated herein, including the Delaware Merger and the Bank
Merger; provided, however, that such 15 Business Day period shall be tolled for
each day during which the Company has not provided to Sterling information
Sterling has requested from the Company for purposes of such notices and
applications. Sterling and the Company each agree to deliver to the other copies
of all non-confidential portions of any such applications. The Company shall
cooperate, and shall cause its Subsidiaries, accountants, counsel and other
representatives to cooperate, with Sterling and its accountants, counsel and
other representatives, in connection with the preparation by Sterling of any
applications and documents required to obtain the Approvals which cooperation
shall include providing all information, documents and appropriate
representations as may be necessary in connection therewith and, when requested
by Sterling, preparing and filing regulatory applications.

                                      -43-
<PAGE>

         Section 8.5 Press Releases.

         Prior to the public dissemination of any press release or other public
disclosure of information about this Agreement, the Merger or any other
transaction contemplated hereby, the parties to this Agreement shall mutually
agree as to the form and substance of such release or disclosure, except as
otherwise provided by applicable law or by rules of the Nasdaq.

         Section 8.6 Company Options.

         (a)      As soon as practicable after the execution of this Agreement,
the Company shall notify each holder of a Company Option of the execution of
this Agreement and the terms and conditions contained herein requiring the
exercise of the Company Options. The Company shall use its best efforts to cause
each Company Option to either be (i) exercised into shares of Company Common
Stock, or (ii) terminated prior to the Effective Time as more specifically
provided in Section 3.2.

         (b)      The Company shall, in accordance with the terms thereof, cause
all Company Stock Plans (including, without limitation, the Company's Executive
Long-Term Stock Investment Plan), to be terminated at and as of the Effective
Time and without further action by any party.

         Section 8.7 Miscellaneous Agreements and Consents.

         Subject to the terms and conditions of this Agreement, each of the
parties hereto agrees to use its respective commercially reasonable efforts to
satisfy, or cause to be satisfied, all conditions to their respective
obligations under this Agreement and to take, or cause to be taken, all action,
and to do, or cause to be done, all things necessary, proper or advisable under
applicable laws and regulations to consummate and make effective the
transactions contemplated by this Agreement as expeditiously as reasonably
practicable, including, without limitation, using their respective commercially
reasonable efforts to lift or rescind any injunction or restraining order or
other order adversely affecting the ability of the parties to consummate the
transactions contemplated hereby. Sterling and the Company shall, and shall
cause each of their respective Subsidiaries to, use their commercially
reasonable efforts to obtain consents of all third parties and Regulatory
Authorities necessary or, in the reasonable opinion of Sterling or the Company,
desirable for the consummation of the transactions contemplated by this
Agreement including the Merger and the Delaware Merger and the Bank Merger.
While this Agreement is in effect, neither Sterling nor the Company shall take
any actions, or omit to take any actions, which would cause this Agreement to
become unenforceable in accordance with its terms. In case at any time after the
Effective Time any further action is necessary or desirable to carry out the
purposes of this Agreement, the proper officers and directors of Sterling shall
be deemed to have been granted authority in the name of the Company to take all
such necessary or desirable action.

         Section 8.8 Affiliates Letters.

                                      -44-

<PAGE>

         Within ten (10) days of the execution of this Agreement, the Company
shall deliver to Sterling a letter identifying all persons who are then
"affiliates" of the Company for purposes of Rule 145 under the Securities Act.
Within ten (10) days of any person becoming an affiliate of the Company after
the Company's delivery of the letter referred to above, the Company shall
provide to Sterling an updated letter identifying all persons who are then
"affiliates." The Company shall cause each person so identified to deliver to
Sterling prior to the Effective Time a written agreement substantially in the
form attached hereto as Annex C (an "Affiliate Letter"). For a period of not
less than two years after the date hereof (or such shorter period of time as may
be applicable for such "affiliates" to sell shares of Sterling Common Stock in
accordance with Rule 144 of the Securities Act), Sterling will continue to file
in a timely manner all securities reports required to be filed by it pursuant to
Section 13 and Section 15(d) of the Exchange Act.

         Section 8.9 Indemnification.

         (a)      Sterling shall indemnify, defend and hold harmless the
directors, officers, employees, and agents of the Company and its Subsidiaries
(each, an "Indemnified Party") against all losses, expenses (including
reasonable attorneys' fees), claims, damages or liabilities and amounts paid in
settlement arising out of actions or omissions or alleged acts or omissions
occurring at or prior to the Effective Time (including the transactions
contemplated by this Agreement) to the full extent permitted under the TBCA,
applicable federal law or regulatory authorities, and by the Company's Articles
of Incorporation and bylaws as in effect on the date hereof, including
provisions relating to advances of expenses incurred in the defense of any
proceeding to the full extent permitted by the TBCA, applicable federal law or
regulatory authorities, upon receipt of any undertaking required by the TBCA,
except that the right to indemnification shall not arise in those instances in
which the party seeking indemnification has participated in the breach of any
covenant or agreement contained herein or knowingly caused any representation or
warranty of the Company contained herein to be false or inaccurate in any
respect and the claim arises principally from such breach or the falsity or
inaccuracy of such representation or warranty. Without limiting the foregoing,
in any case in which a determination by Sterling is required to effectuate any
indemnification, Sterling shall direct, at the election of the Indemnified
Party, that the determination shall be made by independent counsel mutually
agreed upon between Sterling and the Indemnified Party.

         (b)      Sterling shall use its commercially reasonable efforts (and
the Company shall cooperate prior to the Effective Time in these efforts) to
maintain in effect for a period of three years after the Effective Time the
Company's existing directors' and officers' liability insurance policy (provided
that Sterling may substitute therefor (i) policies of at least the same coverage
and amounts containing terms and conditions which are substantially no less
advantageous in the aggregate or (ii) with the consent of the Company given
prior to the Effective Time, any other policy) with respect to claims arising
from facts or events which occurred prior to the Effective Time and covering
persons who are currently covered by such insurance; provided, however, that
Sterling shall not be obligated to make premium payments for such three-year
period in respect of such policy (or coverage replacing such policy) which
exceed, for the portion related to the Company's directors and officers, 100% of
the annual premium payments on the

                                      -45-

<PAGE>

Company's current policy in effect as of the date of this Agreement (the
"Maximum Amount"). If the amount of the premiums necessary to maintain or
procure such insurance coverage exceeds the Maximum Amount, Sterling shall use
its commercially reasonable efforts to maintain the most advantageous policies
of directors' and officers' liability insurance obtainable for a premium equal
to the Maximum Amount.

         (c)      If sterling shall consolidate with or merge into any other
person and shall not be the continuing or surviving person of such consolidation
or merger or shall transfer all or substantially all of its assets to any
person, then and in each case, proper provision shall be made so that the
successors and assigns of Sterling shall assume the obligations set forth in
this Section 8.9.

         (d)      The provisions of this Section 8.9 are intended to be for the
benefit of, and shall be enforceable by, each Indemnified Party, and his or her
heirs and representatives.

         (e)      Sterling shall pay all expenses, including reasonable
attorneys' fees, that may be incurred by any Indemnified Party in successfully
enforcing the indemnity and other obligations provided for in this Section 8.9
if Sterling has been finally determined to have acted in bad faith in refusing
such indemnity. The Indemnified Party shall pay all expenses, including
reasonable attorneys' fees, incurred by Sterling if the indemnification or other
obligations provided in this Section 8.9 are denied by a court of competent
jurisdiction by final and nonappealable order.

         Section  8.10 Certain Change of Control Matters.

         From and after the date hereof, the Company shall take all action
necessary so that none of the execution and delivery of this Agreement, the
consummation of the Merger or the consummation of the other transactions
contemplated hereby will either increase, or accelerate the payment of, any
benefits otherwise payable under any Company Benefit Plan other than the
acceleration of the vesting of the Company Options.

         Section 8.11 Employee Benefits.

         As soon as practicable following the Effective Time, Sterling shall
provide generally to officers and employees of the Company and its Subsidiaries
employee benefits, including without limitation health and welfare benefits,
life insurance and vacation arrangements, on terms and conditions which when
taken as a whole are substantially similar, in the good faith opinion of
Sterling, to those provided from time to time by Sterling and its Subsidiaries
to their similarly situated officers and employees. In that regard, such
officers and employees of the Company shall be credited under the employee
benefit plans of Sterling for their years of "eligibility service" and "vesting
service" earned under the Company Benefit Plans to the extent such Company
Benefit Plans were comparable to the applicable Sterling plans as if such
service had been earned with Sterling. Such officers and employees of the
Company shall be credited with "benefit service" under the employee benefit
plans of Sterling only with respect to their period of employment with Sterling
and its Subsidiaries after the Effective Time in accordance with the terms and
conditions of such employee benefit plans. As of the Effective Time, the
employees and their dependents, if any, previously covered as of the Effective
Time under the

                                      -46-

<PAGE>

Company's health insurance plan shall be covered under Sterling's health
insurance plan and, to the extent possible under the terms of Sterling's then
current health insurance plan, will not be subject to any pre-existing condition
limitations or exclusions, except those excluded under Sterling's health
insurance plan. The Company's employees shall not be required to satisfy the
deductible and employee payments required by Sterling's comprehensive medical
and/or dental plans for the calendar year of the Effective Time to the extent of
amounts previously credited during such calendar year under comparable plans
maintained by the Company. Nothing in this Agreement shall operate or be
construed as requiring Sterling or any of its Subsidiaries to continue to
maintain or to terminate any Company Benefit Plan or any employee benefit plan
of Sterling or to limit in any way Sterling's ability to amend any such plan.

         Section 8.12 Certain Actions.

         No party shall take any action which would adversely affect or delay
the ability of either Sterling or the Company to obtain any necessary approvals
of any Regulatory Authority or other governmental authority required for the
transactions contemplated hereby or to perform its covenants and agreements
under this Agreement.

         Section 8.13 No Solicitation.

         (a)      Neither the Company nor any of its Subsidiaries shall, nor
shall it authorize or permit any of its officers, directors or employees or any
investment banker, financial advisor, attorney, accountant or other
representative retained by it or any of its Subsidiaries to initiate, solicit,
encourage (including by way of furnishing information), or take any other action
to facilitate, any inquiries or the making of any proposal which constitutes, or
may reasonably be expected to lead to, any Acquisition Proposal (as defined
herein), or enter into or maintain or continue discussions or negotiate with any
person in furtherance of such inquiries or to obtain an Acquisition Proposal, or
agree to or endorse any Acquisition Proposal, and the Company shall notify
Sterling orally (within one business day) and in writing (as promptly as
practicable), in reasonable detail, as to any inquiries and proposals which it
or any of its Subsidiaries or any of their respective representatives or agents
may receive; provided, however, that (i) the Company may furnish or cause to be
furnished confidential and non-public information concerning the Company and its
businesses, properties or assets to a third party (subject to execution by such
third party of a confidentiality agreement containing confidentiality provisions
substantially similar to those of the letter agreement entered into between the
Company and Sterling dated November 12, 2002), (ii) following the execution of
such a confidentiality agreement, the Company may engage in discussions or
negotiations with a third party executing such an agreement, (iii) following
receipt of an Acquisition Proposal, the Company may take and disclose to its
shareholders a position with respect to such Acquisition Proposal, including, if
such Acquisition Proposal is a tender offer, the Company Board may take and
disclose to the Company's shareholders a position contemplated by Rule 14e-2
under the Exchange Act, and/or (iv) following receipt of an Acquisition
Proposal, the Company Board may withdraw or modify its recommendation referred
to in Section 5.28, but in each case referred to in the foregoing clauses (i)
through (iv) only to the extent that the Company Board shall conclude in good
faith (on the basis of advice from outside counsel) that such action is required
in order for the Company Board to satisfy its fiduciary obligations under
applicable law; provided, further, that

                                      -47-
<PAGE>

the Company Board shall not take any of the foregoing actions referred to in
clauses (i) through (iv) until after reasonable notice to and consultation with
Sterling with respect to such action and that the Company Board shall continue
to consult with Sterling after taking such action and, in addition, if the
Company Board receives an Acquisition Proposal or any request for confidential
and non-public information or for access to the properties, books or records of
the Company or any Subsidiary for the purpose of making, or in connection with,
an Acquisition Proposal, then the Company shall promptly inform Sterling as
provided above of the terms and conditions of such proposal or request and the
identity of the person making it. As used herein, the term "Acquisition
Proposal" means: (x) any proposal, inquiry or offer from any person relating to,
or any agreement to engage in, any acquisition or purchase of a significant
amount of the assets of the Company and its Subsidiaries on a consolidated
basis, or any equity interest in the Company or any of its Subsidiaries or any
take-over bid or tender offer (including an issuer bid or self-tender offer) or
exchange offer, merger, plan of arrangement, reorganization, consolidation,
business combination, sale of substantially all of the assets, sale of
securities, recapitalization, liquidation, dissolution or similar transaction
involving the Company or any of its Subsidiaries (other than the transactions
contemplated by this Agreement) or any other transaction the consummation of
which would or could reasonably be expected to impede, interfere with, prevent
or materially delay the consummation of the Merger or which would or could
reasonably be expected to materially dilute the benefits to Sterling of the
transactions contemplated hereby or (y) any public announcement of, or written
communication to the Company of, any proposal, plan or intention to do any of
the foregoing. The Company will immediately cease and cause to be terminated any
existing activities, discussions or negotiations with any parties conducted
heretofore with respect to any of the foregoing. "Acquisition Transaction" means
the transaction(s) by which an Acquisition Proposal is consummated. Nothing in
this Section 8.13 shall (a) permit the Company to terminate this Agreement or
(b) permit the Company or any of its Subsidiaries to enter into any written
agreement with respect to an Acquisition Proposal during the term of this
Agreement (it being agreed that during the term of this Agreement neither the
Company nor any of its Subsidiaries shall enter into any written agreement with
any person that provides for, or in any way facilitates, an Acquisition
Proposal, other than a confidentiality agreement in the form referred to above),
it being understood that Section 10.1 sets forth the rights of the Company to
terminate this Agreement.

         (b)      Without limiting the foregoing, it is understood that any
violation of the restrictions set forth in the first sentence of Section 8.13(a)
by any employee, officer or director or authorized employee, agent or
representative of the Company or any of its Subsidiaries (including, without
limitation, any investment banker, financial advisor, attorney or accountant or
other representative retained by the Company or any of its Subsidiaries) or
otherwise shall be deemed to be a breach of Section 8.13(a) by the Company.

                                      -48-
<PAGE>

         Section 8.14 Termination Fee.

         To compensate Sterling for entering into this Agreement, taking actions
to consummate the transactions contemplated hereunder and incurring the costs
and expenses related thereto and other losses and expenses, including foregoing
the pursuit of other opportunities by Sterling, the Company and Sterling agree
as follows:

         (a)      Provided that neither Sterling nor Merger Sub shall be in
material breach of its obligations under this Agreement (which breach has not
been cured promptly following receipt of written notice thereof by the Company
specifying in reasonable detail the basis of such alleged breach), the Company
shall pay to Sterling the sum of $400,000 (the "Termination Fee"), if this
Agreement is terminated (i) by the Company under the provisions of Section
10.1(e), (ii) by either Sterling or the Company under the provisions of Section
10.1(f) due to the failure of the Company's shareholders to approve and adopt
this Agreement and the Merger, if at the time of such failure to so approve and
adopt this Agreement and the Merger there shall exist an Acquisition Proposal
with respect to the Company and, within nine months of the termination of this
Agreement, the Company enters into a definitive agreement with any third party
with respect to any Acquisition Proposal with respect to the Company or (iii) by
Sterling under the provisions of Section 10.1(g).

         (b)      Any payment required by clauses (i) and (iii) of paragraph (a)
of this Section 8.14 shall become payable within two Business Days after
termination of this Agreement. Any payment of the Termination Fee required by
clause (ii) of paragraph (a) of this Section 8.14 shall become payable within
two (2) Business Days of the Company's entry into the definitive agreement
referred to in clause (ii).

         (c)      The Company acknowledges that the agreements contained in this
Section 8.14 are an integral part of the transactions contemplated in this
Agreement, and that, without these agreements, Sterling would not enter into
this Agreement; accordingly, if the Company fails to promptly pay the
Termination Fee when due, the Company shall in addition thereto pay to Sterling
all costs and expenses (including fees and disbursements of counsel) incurred in
collecting such Termination Fee, together with interest on the amount of the
Termination Fee (or any unpaid portion thereof) from the date such payment was
required to be made until the date such payment is received by Sterling at the
prime rate as reported in The Wall Street Journal as in effect from time to time
during such period.

         Section 8.15 Accruals.

         At the request of Sterling, the Company shall, consistent with GAAP,
immediately prior to the Closing establish and take such reserves and accruals
as Sterling shall reasonably request to conform the Bank's loan, accrual and
reserve policies and practices to the policies of Sterling Bank, provided,
however, that no such adjustment shall constitute or be deemed to be a breach,
violation or failure to satisfy any representation, warranty, covenant,
condition or other provision or constitute grounds for termination of this
Agreement. No adjustment shall require any prior filing with or approval from
any governmental agency or regulatory authority or violate any law, rule or
regulation applicable to the Company or any Subsidiary.

                                      -49-

<PAGE>

         Section 8.16 Certain Agreements.

         Neither the Company nor any Subsidiary (nor any of their agents or
representatives) will waive any provision of any confidentiality or standstill
or similar agreement to which it is a party without the prior written consent of
Sterling, unless the Company Board or the board of directors of such Subsidiary
concludes in good faith (based upon advice from outside counsel) that waiving
such provision is necessary or appropriate in order for such board of directors
to act in a manner which is consistent with its fiduciary obligations under
applicable law. The Company will immediately advise Sterling of the termination
or waiver of any confidentiality or standstill or similar agreement to which it
is a party by the other party or parties to such agreement.

         Section 8.17 Release Agreements.

         The Company shall use its best efforts, on behalf of Sterling and
pursuant to the request of Sterling, to cause each Company Specified Shareholder
to execute and deliver to Sterling a written release and waiver in substantially
the form attached hereto as Annex D (the "Release Agreements") prior to the
Effective Time, providing for, among other things, the release of the Company,
Bank, Sterling and the Surviving Corporation and their respective affiliates
from any and all claims, known and unknown, that such Person has or may have
against any of the foregoing through the Effective Time.

         Section 8.18 Nasdaq Listing.

         To the extent required by applicable Nasdaq rules, Sterling shall use
its best efforts to have the shares of Sterling Common Stock to be issued to the
holders of the Company Common Stock in the Merger included for quotation on the
Nasdaq prior to the Effective Time.

         Section 8.19 Post-Closing Actions.

         None of the parties shall take, or permit any of their Subsidiaries or
Affiliates to take, any action after the Closing that would disqualify the
Merger as a reorganization within the meaning of Section 368(a) of the Code.

         Section 8.20 Banker's and Finder's Fees.

         The Company shall pay all broker's and finder's fees to the parties
identified on Section 5.22 of the Company Disclosure Memorandum, such payments
to be paid prior to the Closing Date and in such a manner so as not to
constitute an expense or liability of Sterling which Sterling would be required
to include in any of its consolidated statements of income.

         Section 8.21 Notification; Updated Disclosure Memorandums.

                                      -50-
<PAGE>

         The Company shall give prompt notice to Sterling, and Sterling shall
give prompt notice to the Company, of (i) any representation or warranty made by
it in this Agreement becoming untrue or inaccurate in any respect, including,
without limitation, as a result of any change in the Company Disclosure
Memorandum, or (ii) the failure by it to comply with or satisfy in any material
respect any covenant, condition or agreement to be complied with or satisfied by
it under this Agreement; provided, however, that no such notification shall
affect the representations, warranties, covenants or agreements of the parties
or the conditions to the obligations of the parties under this Agreement.

         Section 8.22 Closing Date.

         The Company, Sterling and Merger Sub shall each use commercially
reasonable efforts to consummate the Merger on or before January 31, 2004;
provided, that the parties acknowledge that substantial compliance with the
provisions of Section 8.4 of this Agreement shall constitute compliance with
this Section 8.22.

         Section 8.23 Certain Tax Matters.

         (a)      Tax Periods ending on or before the Closing Date. The Company
shall file all Tax Returns for the Company and its Subsidiaries for all periods
ending on or prior to the Closing Date that are filed after the Closing Date. To
the extent permitted or required by applicable law, the shareholders of the
Company (the "Shareholders") shall include any income, gain, loss, deduction or
other Tax items for such periods on their respective individual Tax Returns in a
manner consistent with the Schedule K-1s prepared by the Company for such
period. The final S corporation return will be filed using consistent elections
and accounting methods and no Tax elections or accounting changes will be made
which may adversely affect any Tax period during which an S election was in
effect.

         (b)      Cooperation on Tax Matters. Sterling and Richard E. Lane as
the representative of the Shareholders ("Shareholder Representative") agree to
give prompt notice to each other of any proposed adjustment to Taxes for any
Pre-Closing Taxable Period. Sterling and the Shareholder Representative shall
cooperate fully, as and to the extent reasonably requested by the other party,
in connection with the filing of Tax Returns pursuant to this Section 8.23 and
any audit, litigation, or other proceeding with respect to Taxes. Such
cooperation shall include the retention and (upon the other party's request) the
provision of records and information which are reasonably relevant to any such
audit, litigation or other proceeding and making employees available on a
mutually convenient basis to provide additional information and explanation of
any material provided hereunder. The Shareholder Representative agrees to
control the conduct of any audit, litigation or other proceeding for any
Pre-Closing Taxable Period of the Company and to keep Sterling apprised of all
material developments with respect to any such audit, litigation or other
proceeding. The Shareholder Representative, the Company and its Subsidiaries and
Sterling agree (i) to retain all books and records with respect to Tax matters
relevant to the Company relating to any Pre-Closing Taxable Period until the
expiration of the statute of limitations (and, to the extent notified by
Sterling or the Shareholder Representative, any extensions thereof) of the
respective Pre-Closing Taxable Periods, and to abide by all record retention
agreements entered into with any Taxing authority, and (ii) to give the other
party

                                      -51-
<PAGE>

reasonable written notice prior to transferring, destroying or discarding any
such books and records and, if the other party so requests, the Company or the
Shareholder Representative, as the case may be, shall allow the other party to
take possession of such books and records. Sterling and the Shareholder
Representative further agree, upon request, to use their best efforts to obtain
any certificate or other document from any governmental authority or any other
Person as may be necessary to mitigate, reduce or eliminate any Tax that could
be imposed (including, but not limited to, with respect to the transactions
contemplated hereby).

         (c) Tax Sharing Agreements. All Tax sharing agreements or similar
agreements with respect to or involving the Company shall be terminated as of
the Closing Date, and, after the Closing Date, the Company shall not be bound
thereby or have any liability thereunder.

         (d) Certain Taxes. All transfer, documentary, sales, use, stamp,
registration and other such Taxes and fees (including any penalties and
interest) incurred in connection with this Agreement (including any Tax on
corporate-level gains attributable to pre-Closing Tax periods which is triggered
by or attributable to the Merger), shall be paid by the Shareholders when due,
and the Shareholders will, at their own expense, file all necessary Tax Returns
and other documentation with respect to all such transfer, documentary, sales,
use, stamp, registration and other Taxes and fees, and, if required by
applicable law, Sterling will, and will cause its affiliates to, join in the
execution of any such Tax Returns and other documentation.

         (e) Disclosure of Tax Treatment or Tax Structure. Notwithstanding
anything set forth herein to the contrary (including the provisions set forth in
Section 8.5 or 8.13) or in any other agreement to which a party hereto is bound
(including the letter agreement entered into between the Company and Sterling
dated November 12, 2002), the parties hereto (and any employee, representative
or other agent of any of the parties) are hereby expressly authorized to
disclose the "tax treatment " and "tax structure" (as those terms are defined in
Treas. Reg. Sections 1.6011-4(c)(8) and 9 respectively) of the Merger and all
materials of any kind (including opinions or other tax analyses) that are
provided to the parties relating to such "tax treatment" or "tax structure" of
the Merger; provided, however, that (a) such disclosure shall not be made until
the earlier of (i) the date of the public announcement of discussions relating
to the Merger, (ii) the date of the public announcement of the Merger, or (iii)
the date of the execution of an agreement to enter into the Merger, including
this Agreement, (b) "tax treatment" and "tax structure" shall not include the
identity of any existing or future party (or any Affiliate thereof) to this
Agreement, and (c) this provision shall not permit disclosure to the extent that
nondisclosure is required to comply with any applicable federal or state
securities laws.

         Section 8.24 Employee Bonuses.

         Sterling agrees to cause to be paid to the employees of the Company and
the Bank bonuses in respect of calendar year 2003 consistent with the past
practices of the Company and the Bank; provided, however, that the aggregate
bonuses to be paid shall not exceed 6% of the pre-tax net income of the Bank for
the period beginning January 1, 2003 and ending on the earlier to occur of the
Closing Date or December 31, 2003. In the event the Closing Date occurs prior to
December 31, 2003 the pre-tax net income of the Bank shall be annualized for
purposes

                                      -52-
<PAGE>

of determining the aggregate bonuses to be paid. Any bonus to be paid pursuant
to this Section 8.24 shall be paid on or after January 1, 2004 and on or before
January 31, 2004.

                                   ARTICLE IX
                              CONDITIONS TO MERGER

         Section 9.1 Conditions to Each Party's Obligation to Effect the Merger.

         The respective obligations of each party to effect the Merger and the
other transactions contemplated hereby shall be subject to the fulfillment or
waiver at or prior to the Effective Time of the following conditions:

         (a)      The Company shareholders shall have approved and adopted all
matters relating to this Agreement, the Merger and the transactions contemplated
hereby and as required under the TBCA and the Company's Articles of
Incorporation at the Company Shareholders' Meeting.

         (b)      This Agreement, the Merger, the Bank Merger and the other
transactions contemplated hereby shall have been approved by the Federal Reserve
Board, the Commissioner, the FDIC and any other Regulatory Authorities whose
approval is required for consummation of the transactions contemplated hereby
(other than the Bank Merger) and all applicable waiting periods shall have
expired. No such approval or consent shall be conditioned or restricted in any
manner (including requirements relating to the disposition of assets) which in
the good faith judgment of Sterling would so adversely impact the economic or
business benefits of the transactions contemplated by this Agreement that, had
such condition or restriction been known, it would not have entered into this
Agreement.

         (c)      Neither Sterling, Merger Sub nor the Company shall be subject
to any litigation which seeks any order, decree or injunction of a court or
agency of competent jurisdiction to enjoin or prohibit the consummation of the
Merger or the other transactions contemplated by this Agreement.

         Section 9.2 Conditions to Obligations of the Company to Effect the
Merger.

         The obligations of the Company to effect the Merger shall be subject to
the fulfillment or waiver at or prior to the Effective Time of the following
additional conditions:

         (a)      Representations and Warranties. The representations and
warranties of Sterling and Merger Sub set forth in Article VI hereof shall be
true and correct in all material respects as of the date of this Agreement and
as of the Effective Time (as though made on and as of the Effective Time except
to the extent such representations and warranties are by their express
provisions made as of a specified date) and the Company shall have received a
certificate signed by the chairman, president or other duly authorized officer
of each of Sterling and Merger Sub to that effect.

         (b)      Performance of Obligations. Each of Sterling and Merger Sub
shall have performed in all material respects all obligations required to be
performed by it under this

                                      -53-
<PAGE>

Agreement prior to the Effective Time, and the Company shall have received a
certificate signed by the chairman, president or other duly authorized officer
of each of Sterling and Merger Sub to that effect and as to the absence of
litigation as described in Section 9.1(c).

         (c)      Material Adverse Change. Prior to the Closing, there shall not
have occurred any material adverse change in the financial condition, business,
operations or properties of Sterling or any of its Subsidiaries, taken as a
whole, nor shall any event have occurred which, with the lapse of time, may
cause or create any material or adverse change in the financial condition,
business, operations or properties of Sterling and its Subsidiaries, taken as a
whole, in the reasonable and good faith judgment of the Company Board; provided,
however, that a decrease in the market price of Sterling Common Stock as quoted
on Nasdaq in and of itself shall not be deemed to be a material adverse change.

         (d)      Opinion of Counsel. The Company shall have received an opinion
of Locke Liddell & Sapp LLP, counsel for Sterling, addressed to the Company and
in form mutually acceptable to Locke Liddell & Sapp LLP and counsel to the
Company, as to the validity of the approvals of the Merger by the board of
directors of Sterling and by the board of directors and shareholder of Merger
Sub.

         (e)      Salary Continuation Agreement. Sterling shall have guaranteed
the obligations of the Bank and/or Sterling Bank under the Salary Continuation
Agreement dated January 1, 2000 between Richard E. Lane and the Bank.

         Section 9.3 Conditions to Obligations of Sterling and Merger Sub to
Effect the Merger.

         The obligations of Sterling and Merger Sub to effect the Merger shall
be subject to the fulfillment at or prior to the Effective Time of the following
additional conditions:

         (a)      Representations and Warranties. The representations and
warranties of the Company set forth in Article V hereof shall be true and
correct in all material respects as of the date of this Agreement and as of the
Effective Time (as though made on and as of the Effective Time except to the
extent such representations and warranties are by their express provisions made
as of a specified date) and Sterling and Merger Sub shall have received a
certificate signed by the chairman, chief executive officer, president or other
duly authorized officer of the Company to that effect.

         (b)      Performance of Obligations. The Company shall have performed
in all material respects all obligations required to be performed by it under
this Agreement prior to the Effective Time, and Sterling and Merger Sub shall
have received a certificate signed by the chairman and chief executive officer,
president or other duly authorized officer of the Company to that effect and as
to the absence of litigation as described in Section 9.1(c).

         (c)      Material Adverse Change. Prior to the Closing, there shall not
have occurred any material adverse change in the Condition of the Company and
any of its Subsidiaries, taken as a whole, nor shall any event have occurred
which, with the lapse of time, may cause or create any

                                      -54-

<PAGE>

material adverse change in the Condition of the Company and any of its
Subsidiaries, taken as a whole, in the reasonable and good faith judgment of the
Board of Directors of Sterling, and Sterling and Merger Sub shall have received
a certificate signed by the chairman, chief executive officer, president or
other duly authorized officer of the Company to that effect.

         (d)      Opinion of Counsel. Sterling and Merger Sub shall have
received an opinion of Akin Gump Strauss Hauer and Feld LLP, counsel for the
Company, addressed to Sterling and Merger Sub and in form mutually acceptable to
Akin Gump Strauss Hauer and Feld LLP and counsel to Sterling, as to the validity
of the approvals of the Merger by the Company Board and the shareholders of the
Company.

         (e)      Dissenting Shares. The number of Dissenting Shares shall not
exceed ten percent (10%) of the total issued and outstanding shares (as of the
Effective Time) of Company Common Stock.

         (f)      Release Agreements. Sterling shall have received Release
Agreements, substantially in the form of Annex D, executed and delivered by each
of the Company Specified Shareholders.

         (g)      Affiliate Agreements. Each person who is an "affiliate" (for
purposes of Rule 145 under the Securities Act) of the Company at the time this
Agreement is submitted to the approval of the shareholders of the Company shall
deliver to Sterling an Affiliate Letter.

         (h)      Company Options. All of the Company Options shall have been
fully and completely exercised or terminated and all Company Stock Plans shall
have been terminated.

         (i)      Noncompete Agreements. Sterling shall have received Noncompete

         Agreements executed and delivered by Richard E. Lane and Paul D.
Thornton.

         (j)      Broker's and Finder's Fees and Expenses. The Company shall
have fully paid all of the broker's, finder's and other fees and expenses in
accordance with Section 8.20 and shall provide to Sterling satisfactory evidence
of the payment, in full, of all such fees and expenses.

         (k)      Consents Obtained. All consents, authorizations and approvals
required to be received from, or given to, any Person (other than the matters
described in Section 9.1(b)) by the Company for the authorization, execution and
delivery of this Agreement and the consummation of the transactions contemplated
hereby, including, without limitation, those identified in Section 5.4 of the
Company Disclosure Memorandum, shall have been obtained or made by the Company.

         (l)      Transactions in Capital Stock. The company shall have
delivered to Sterling a list of all transactions in the capital stock (or
instruments exercisable for or convertible into capital stock) of the Company
from and including the date of this Agreement through the Effective Time.

                                      -55-
<PAGE>

         (m)      Salary Continuation Agreement. Richard E. Lane and the Bank
shall have entered into an amendment of the Salary Continuation Agreement dated
January 1, 2000 between Richard E. Lane and the Bank to the effect that the
transactions contemplated by this Agreement and the merger of the Bank and
Sterling Bank shall not constitute a change of control for purposes of such
agreement and Sterling shall have guaranteed the obligations of the Bank and/or
Sterling Bank under such agreement..

         (n)      Deferred Compensation Agreement. The Restatement of Deferred
Compensation Agreement effective January 1, 2000 between Paul D. Thornton and
the Bank and the Deferred Compensation Agreement effective January 1, 2000
between Carlin R. Friar and the Bank shall have been terminated without payments
by the Bank or by the Company in excess of $284,754.94 in the aggregate (subject
to adjustments based on normal accruals under the respective Deferred
Compensation Agreements).

         (o)      Deferred Compensation Plan. The Company's Deferred
Compensation Plan dated effective July 1, 1999 shall have been terminated and
all distributions under such plan shall have been made

                                    ARTICLE X
                                   TERMINATION

         Section 10.1 Termination.

         Notwithstanding any other provision of this Agreement, and
notwithstanding the approval of this Agreement, the Merger and the transactions
contemplated hereby by the shareholders of the Company, this Agreement may be
terminated and the Merger may be abandoned at any time prior to the Effective
Time:

         (a) by mutual consent of the Board of Directors of Sterling and the
Company; or

         (b) by the Company Board or the Board of Directors of Sterling if (i)
the Federal Reserve, the FDIC or the Commissioner has denied approval of the
Merger or the Bank Merger and such denial has become final and nonappealable or
has approved the Merger subject to conditions that in the judgment of Sterling
would restrict it or its Subsidiaries or Affiliates in their respective spheres
of operations and business activities after the Effective Time or (ii) the
Effective Time does not occur by January 31, 2004, provided, however, that the
right to terminate this Agreement under clause (ii) of this Section 10.1(b)
shall not be available to any party whose failure to fulfill any obligation
under this Agreement has been the cause of or resulted in the failure of the
Effective Time to occur prior to such date; or

         (c) by Sterling (if it is not in breach of any of its obligations
hereunder) pursuant to notice in the event of a breach or failure by the Company
that would cause a failure of the conditions in Section 9.3, which breach or
failure has not been, or cannot be, cured within 30 days after written notice of
such breach is given to the Company; or

                                      -56-
<PAGE>

         (d)      by the Company (if it is not in breach of any of its
obligations hereunder) pursuant to notice in the event of a breach or failure by
Sterling that would cause a failure of the conditions in Section 9.2, which
breach or failure has not been, or cannot be, cured within 30 days after written
notice of such breach is given to Sterling; or

         (e)      by the Company if (i) there shall not have been a breach of
any covenant or agreement on the part of the Company under this Agreement and
(ii) prior to the Effective Time, the Company shall have received a bona fide
Acquisition Proposal and the Company Board determines in its good faith judgment
and in the exercise of its fiduciary duties, based as to legal matters on the
written opinion of independent legal counsel and as to financial matters on the
written opinion of an investment banking firm of national reputation, that such
alternative Acquisition Proposal (if consummated pursuant to its terms) would
result in an alternative Acquisition Transaction that is more favorable to the
Company shareholders than the Merger ("Superior Proposal") and that the failure
to terminate this Agreement and accept such alternative Acquisition Proposal
would be inconsistent with the proper exercise of such fiduciary duties;
provided, however, that termination under this clause (ii) shall not be deemed
effective until payment of the Termination Fee required by Section 8.14; or

         (f)      by either Sterling or the Company, if the Merger and this
Agreement shall fail to receive the requisite vote for approval and adoption at
the Company Shareholders' Meeting; or

         (g)      by Sterling if the Company Board shall have (i) resolved to
accept a Superior Proposal, or (ii) recommended to the shareholders of the
Company that they tender their shares in a tender or exchange offer commenced by
a third party or (iii) withdrawn or modified, in any manner that is adverse to
Sterling or Merger Sub, its recommendation or approval of this Agreement or the
Merger or recommended to the Company shareholders acceptance or approval of any
alternative Acquisition Proposal, or shall have resolved to do the foregoing;

         (h)      by Sterling if the number of Dissenting Shares exceeds ten
percent (10%) of the total issued and outstanding shares (as of the Effective
Time) of Company Common Stock; or

         (i)      by Sterling if the factual substance of any warranties set
forth in Section 5.24 is not true and accurate irrespective of the knowledge or
lack of knowledge of the Company and losses, damages, environmental response
costs, liabilities, fines, penalties, costs and expenses which might arise there
from could reasonably exceed $50,000.

         Section 10.2 Effect of Termination.

         In the event of the termination and abandonment of this Agreement
pursuant to Section 10.1, this Agreement shall become void and have no effect,
except that (i) the provisions of this Section 10.2 and Section 8.1(e), Section
8.14 and Section 11.1 shall survive any such termination and abandonment; and
(ii) no party shall be relieved or released from any liability arising out of an
intentional breach of any provision of this Agreement.

         Section 10.3 Non-Survival of Representations, Warranties and Covenants.

                                      -57-

<PAGE>

         Except for Article III and Article IV and Section 8.9, Section 8.19,
and Section 11.1, none of the respective representations, warranties,
obligations, covenants and agreements of the parties shall survive the Effective
Time.

                                   ARTICLE XI
                               GENERAL PROVISIONS

         Section 11.1 Expenses.

         Each party hereto shall bear its own expenses incident to preparing,
entering into and carrying out this Agreement and consummating the Merger,
Sterling shall pay all printing expenses and filing fees incurred in connection
with this Agreement, the Registration Statement and the Proxy Statement;
provided that the Company shall pay all expenses relating to the mailing of the
Proxy Statement.

         Section 11.2 Entire Agreement; Parties in Interest.

         Except as otherwise expressly provided herein, this Agreement contains
the entire agreement between the parties hereto with respect to the transactions
contemplated hereunder and supersedes all prior arrangements or understandings
with respect thereto, written or oral. The terms and conditions of this
Agreement shall inure to the benefit of and be binding upon the parties hereto
and their respective successors. Other than Section 8.9, nothing in this
Agreement, expressed or implied, is intended to confer upon any individual,
corporation or other entity (including, without limitation, any employee or
shareholder of the Company), other than Sterling, Merger Sub and the Company or
their respective successors, any rights, remedies, obligations or liabilities
under or by reason of this Agreement. The exhibits identified in this Agreement
are incorporated by reference hereto and made a part hereof.

         Section 11.3 Amendments.

         To the extent permitted by law, this Agreement may be amended by a
subsequent writing signed by each Sterling, Merger Sub and the Company; provided
however, that the provisions hereof relating to the amount of the Merger
Consideration shall not be amended after the Company Shareholders' Meeting
without any requisite approval of the holders of the issued and outstanding
shares of Company Common Stock entitled to vote thereon.

         Section 11.4 Waivers.

         Prior to or at the Effective Time, each of Sterling, Merger Sub and the
Company shall have the right to waive any default in the performance of any term
of this Agreement by the other, to waive or extend the time for the compliance
or fulfillment by any other party of any and all of such other party's
obligations under this Agreement and to waive any or all of the conditions
precedent to its obligations under this Agreement, except any condition which,
if not satisfied, would result in the violation of any law or applicable
governmental regulation.

                                      -58-

<PAGE>

         Section 11.5 No Assignment.

         None of the parties hereto may assign any of its rights or delegate any
of its obligations under this Agreement to any other person or entity without
the prior written consent of the other parties to this Agreement; provided,
however, that Sterling may assign its rights and obligations or those of Merger
Sub to any direct or indirect, wholly-owned subsidiary of Sterling, but no such
assignment shall relieve Sterling of its obligations hereunder if such assignee
does not perform such obligations.

         Section 11.6 Notices.

         All notices or other communications which are required or permitted
hereunder shall be in writing and sufficient if delivered by courier, by
facsimile transmission, or by registered or certified mail, postage prepaid to
the persons at the addressees set forth below (or at such other address as may
be provided hereunder), and shall be deemed to have been delivered as of the
date so delivered:

Company:                      South Texas Capital Group, Inc.
                              400 W. Houston
                              San Antonio, Texas 78207
                              Attention:  Richard E. Lane, Chairman of the Board
                              Facsimile:  (210) 541-7939

With a copy to:               Akin Gump Strauss Hauer and Feld LLP
                              300 Convent Street, Suite 1500
                              San Antonio, Texas 78205
                              Attention:  Cecil Schenker
                              Facsimile:  (210) 224-2035

Sterling or Merger Sub:       Sterling Bancshares, Inc.
                              2550 North Loop West, Suite 600
                              Houston, Texas 77092
                              Attention:  J. Downey Bridgwater, President and
                                             Chief Executive Officer
                              James W. Goolsby, Jr., General Counsel
                              Facsimile:  (713) 849-5498

With a copy to:               Locke Liddell & Sapp LLP
                              3400 JPMorgan Chase Tower
                              600 Travis Street
                              Houston, Texas 77002
                              Attention:  Annette L. Tripp
                              Facsimile:  (713) 223-3717

         Section 11.7 Specific Performance.

                                      -59-

<PAGE>

         The parties hereby acknowledge and agree that the failure of either
party to fulfill any of its covenants and agreements hereunder, including the
failure to take all such actions as are necessary on its part to cause the
consummation of the Merger, will cause irreparable injury for which damages,
even if available, will not be an adequate remedy. Accordingly, each party
hereby consents to the issuance of injunctive relief by any court of competent
jurisdiction to compel performance of the other party's obligations and to the
granting by any such court of the remedy of specific performance hereunder.

         Section 11.8 Governing Law.

         This Agreement shall in all respects be governed by and construed in
accordance with the laws of the state of Texas applicable to contracts executed
and to be performed in that state without giving effect to any choice of law
principles. All actions and proceedings arising out of or relating to this
Agreement shall be heard and determined in any state or federal court sitting in
Houston, Harris County, Texas.

         Section 11.9 Counterparts.

         This Agreement may be executed in one or more counterparts, each of
which shall be deemed to constitute an original but all of which together shall
constitute one and the same instrument. Delivery of a copy of this Agreement
bearing an original signature by facsimile transmission (whether directly from
one facsimile device to another by means of a dial-up connection or whether
mediated by the worldwide web), by electronic mail in "portable document format"
(".pdf") form, or by any other electronic means intended to preserve the
original graphic and pictorial appearance of a document, will have the same
effect as physical delivery of the paper document bearing the original
signature, provided a copy bearing an original signature on paper is
subsequently delivered. "Originally signed" or an "original signature" means or
refers to a signature that has not been mechanically or electronically
reproduced.

         Section 11.10 Captions.

         The captions contained in this Agreement are for reference purposes
only and are not part of this Agreement.

         Section 11.11 Severability.

         If any term or other provision of this Agreement is invalid, illegal or
incapable of being enforced by any rule of Law, or public policy, all other
conditions and provisions of this Agreement shall nevertheless remain in full
force and effect so long as the economic or legal substance of the Merger is not
affected in any manner materially adverse to any party. Upon such determination
that any term or other provision is invalid, illegal or incapable of being
enforced, the parties hereto shall negotiate in good faith to modify this
Agreement so as to effect the original intent of the parties as closely as
possible in a mutually acceptable manner in order that the Merger be consummated
as originally contemplated to the fullest extent possible.

                                      -60-

<PAGE>

                  [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]

                                      -61-
<PAGE>

         IN WITNESS WHEREOF, Sterling, Merger Sub and the Company have caused
this Agreement to be signed by their respective officers thereunto duly
authorized, all as of the date first written above.

                                          STERLING BANCSHARES, INC.

                                          By: /s/J. Downey Bridgwater
                                              ----------------------------------
                                              J. Downey Bridgwater,

                                          SB 2003, INC.

                                          By: /s/ James W. Goolsby, Jr.
                                              ----------------------------------
                                              James W. Goolsby, Jr., President
                                              and Secretary

                                          SOUTH TEXAS CAPITAL GROUP, INC.

                                          By: /s/ Richard E. Lane
                                              ----------------------------------
                                              Name: Richard E. Lane
                                              President and Chief Executive
                                              Officer

The undersigned has executed this Agreement on the date hereof for the limited
purpose of agreeing to be bound by the terms and provisions of Section 8.23(b)
of this Agreement.

                                          /s/ Richard E. Lane
                                          --------------------------------------
                                          Richard E. Lane

Source: [{"source": "alea-institute/alea-institute/kl3m-data-edgar-agreements/train-00058-of-00352.parquet"}, [{"source": "alea-institute/alea-institute/kl3m-data-edgar-agreements/train-00058-of-00352.parquet"}]]