10-K 1 d25020_10k.txt FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the fiscal year ended December 31, 2000. OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the transition period from ________ to ________. Commission File number 0-24023 TEJAS BANCSHARES, INC. (Exact name of registrant as specified in its charter) Texas 75-1950688 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 905 South Fillmore, Suite 701, Amarillo, Texas 79101 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (806) 373-7900 Securities to be registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered None Securities registered pursuant to Section 12(g) of the Act: (Title of Class) Common Stock, $1.00 par value per share Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [_] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Registration S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] Aggregate market value of registrant's voting stock held by nonaffiliates (which excludes the registrant's Board of Directors) as of January 29, 2001, was $46,641,788. This amount is based on the book value per share of the registrant's voting stock. There is no established public trading market for the registrant's voting stock and there exists no accurate method to determine its current market price. On January 29, 2001, the Company had 13,415,267 shares of common stock outstanding. DOCUMENTS INCORPORATED BY REFERENCE: Documents Part of Form 10-K Definitive Proxy Statement related to 2001 Part III annual meeting of shareholders PART I ITEM 1. BUSINESS. General Tejas Bancshares, Inc. Tejas Bancshares, Inc. (the "Company"), was incorporated as a Texas corporation on June 22, 1983, as a bank holding company, as defined in the Bank Holding Company Act of 1956, as amended (the "BHC Act"). On December 31, 1983, the Company became a bank holding company by acquiring all issued and outstanding capital stock of Fritch State Bank, a Texas banking association. As described herein, during 1997, Fritch State Bank relocated its main office to Amarillo, Texas, and converted its charter from a Texas banking association to a national banking association under the title "The First National Bank of Amarillo" (the "Bank"). Effective April 1999, the Company established a new middle tier holding company named Tejas Force, Inc. ("Force"). The new company has no significant operations. The Company owns all issued and outstanding capital stock of Force which owns all issued and outstanding capital stock of the Bank. As of December 31, 2000, the Company had, on a consolidated basis, total assets of approximately $369,000,000; total deposits of approximately $284,000,000; total loans of approximately $325,000,000 (net of unearned discount and allowance for loan losses); and total stockholders' equity of approximately $50,000,000. The Company does not, as an entity, engage in separate business activities of a material nature apart from its activities for the Bank. The Company's primary activities are to assist in the management and coordination of the Bank's financial resources and to provide capital, business development, long-range planning, and public relations services for the Bank. The Bank operates under the day-to-day management of its own officers, and the Bank's Board of Directors formulates its own policies for banking and business matters. The Company's primary source of revenue is dividends from the Bank. Any future dividend payments by the Bank will be determined by the Bank based on its financial condition, and any dividends may be declared and paid only in compliance with applicable law and regulatory guidelines. As a bank holding company, the Company is subject to regulation by the Board of Governors of the Federal Reserve System (the "Federal Reserve") in accordance with the requirements in the BHC Act and by the rules and regulations promulgated thereunder by the Federal Reserve. The First National Bank of Amarillo The Bank is a national banking association with its main office in Amarillo, Texas. The Bank opened for business on April 10, 1965, as a Texas banking association and converted to a national banking association effective June 30, 1997. As a national banking association, the Bank 1 is subject to regulation by the Comptroller of the Currency (the "Comptroller") in accordance with the requirements in the National Bank Act and the rules and regulations promulgated thereunder by the Comptroller. As of December 31, 2000, the Bank had total assets of approximately $369,000,000; total deposits of approximately $285,000,000; total loans of approximately $325,000,000 (net of unearned discount and allowance for loan losses); and total stockholders' equity of approximately $49,000,000. The Bank provides a full range of banking services to business, industry, public and governmental organizations, and individuals in Amarillo, Dalhart, and Fritch, Texas. The Bank serves its customers with a variety of commercial banking services. For businesses, the Bank offers checking facilities, certificates of deposit, short-term loans for working capital purposes, term loans for fixed assets and expansion needs, and other commercial loans for its business customers. When the borrowing needs of a customer exceed the Bank's lending limit, the Bank participates with other banks and, in certain cases, with William H. Attebury, a director of the Company, in making the loan. Similarly, the Bank provides other services for its customers through its correspondent and other relationships with other financial institutions. In addition, since mid-1999, the Bank has offered trust services. The individual services provided by the Bank include checking accounts, savings accounts, certificates of deposit, Money Market Deposit accounts, NOW accounts, IRA and qualified retirement plans, safe deposit facilities, and personal loan programs, including home improvement loans, mortgage loans, and installment loans for the purchase of automobiles and other consumer goods. The Bank also provides cashier's checks, travelers' checks, money orders, wire transfers, and bank-by-mail services. Change in Control of the Company and the Bank Effective May 23, 1997, Donald E. Powell, the Company's President and Chief Executive Officer and the Bank's Chairman of the Board, President, and Chief Executive Officer, acquired control of all outstanding stock of the Company (the "Acquisition"). Mr. Powell's acquisition of control of the Company was accomplished pursuant to a stock purchase agreement by and among Mr. Powell, the Company, and all shareholders of the Company (the "Stock Purchase Agreement"). The Stock Purchase Agreement stated that the Company would repurchase approximately 73 percent of its outstanding common stock from existing shareholders and that Mr. Powell would acquire the remaining shares from one or more shareholders. The aggregate purchase price for the shares to be received by all shareholders of the Company was $2,163,697.45, and was determined through arms'-length negotiations among the shareholders of the Company, the Company, and Mr. Powell. The Stock Purchase Agreement contemplated that certain non-performing loan assets on the books of the Bank would be transferred out of the Bank for the benefit of the Company's then- current shareholders. Immediately before the closing of the Acquisition, some non-performing loan assets had not been transferred to the shareholders and remained on the Bank's books. Accordingly, the aggregate purchase price for the Company's stock was adjusted downward, and Mr. Powell and the Company on behalf of its shareholders entered into an agreement pursuant to which any net recoveries on the non-performing assets received after the effective date of the Acquisition would be subsequently transferred to the Company's shareholders on a pro rata basis according to each shareholder's respective ownership interest in the Company on the closing date of the Acquisition. 2 The aggregate value of the non-performing loan assets was approximately $79,000 as of May 23, 1997, the effective date of the Acquisition. Immediately before consummating the transaction, the Company had 9,195 shares of common stock, par value $10.00 per share, issued and outstanding and owned by 21 shareholders. Pursuant to the Stock Purchase Agreement, the Company repurchased 6,695 shares of the common stock for $1,575,416.47, which shares were subsequently canceled, thereby reducing the number of outstanding shares of the Company to 2,500. Simultaneously, Mr. Powell acquired the remaining 2,500 shares of the Company's outstanding shares of common stock for $588,280.98 from a single shareholder. As a result of these simultaneous transactions, Mr. Powell owned 2,500 shares, which were all the issued and outstanding shares of the Company. The purchase price for the 6,695 shares repurchased by the Company, $1,575,416.47 in the aggregate, was funded from (i) the proceeds of a $1,000,000 loan to the Company by Mr. Powell, and (ii) a dividend paid to the Company by the Bank. Mr. Powell's loan to the Company was to be repaid over a ten-year period and was secured by a pledge of all capital stock of the Bank owned by the Company. The loan was prepaid in full on September 2, 1997. Before acquiring a controlling interest in the Company and an indirect controlling interest in the Bank, Mr. Powell applied for and received regulatory approval of the Acquisition from the Federal Reserve Bank of Dallas and the Texas Department of Banking. After Mr. Powell's acquisition of all outstanding stock of the Company, and in anticipation of an intrastate public offering of the Company's common stock, its Articles of Incorporation were amended to (i) increase the authorized shares of common stock of the Company from 10,000 to 20,000,000 shares; (ii) reduce the par value of the common stock of the Company from $10.00 to $1.00 per share; (iii) eliminate the preemptive rights of the shareholders of the Company; and (iv) generally update the indemnification provisions in the Company's organizational documents. Since Mr. Powell was the Company's sole shareholder following the Acquisition, these amendments were approved by unanimous written consent following their adoption by the Company's Board of Directors. In addition, on July 2, 1997, the Company effected a 77.4372-for-1 stock dividend to all shareholders of record on June 30, 1997 (the "Stock Dividend"). As a result of the Stock Dividend, Mr. Powell's 2,500 shares were converted into 196,093 shares of the Company's common stock, representing all current outstanding shares. The purpose and effect of the Stock Dividend was to preserve Mr. Powell's investment in the Company ($588,280.98) in relation to the price of the shares offered to the public at $3.00 per share. Mr. Powell's original $588,280.98 investment in the Company is the economic equivalent of having purchased 196,093 shares (excluding a fractional share interest) at $3.00 per share (196,093 shares x $3.00 = $588,279). The conversion of Mr. Powell's 2,500 shares into 196,093 shares was accomplished by declaring a dividend of 77.4372 shares for each share of Common Stock outstanding (2,500 shares outstanding + (77.4372 x 2,500 shares) = 196,093). Following the Stock Dividend, Mr. Powell's cost basis in the stock equaled $3.00 per share, which is equivalent to the price of the Common Stock offered in the public offering. 3 Change in Management and Competitive Focus. Before the Acquisition, Mr. Powell served as the Chairman of the Board, President, and Chief Executive Officer of Boatmen's First National Bank of Amarillo, Amarillo, Texas. Boatmen's First National Bank of Amarillo, formerly known as The First National Bank of Amarillo before it was acquired by Boatmen's Bancshares, Inc., St. Louis, Missouri, in 1994, had an established correspondent banking relationship with the Bank. Accordingly, because of this relationship, Mr. Powell had developed contacts with former management of the Bank and the Company. In late August 1996, NationsBank Corporation, Charlotte, North Carolina ("NationsBank"), and Boatmen's Bancshares, Inc.("Boatmen's"), announced that they had entered into a definitive agreement pursuant to which NationsBank would acquire Boatmen's. As a result thereof, NationsBank indirectly acquired Boatmen's First National Bank of Amarillo. NationsBank's acquisition of Boatmen's was completed in late January 1997. Although Mr. Powell retained his position as an executive officer and Chairman of the Board of Boatmen's First National Bank of Amarillo after the NationsBank transaction in January 1997, he voluntarily resigned from Boatmen's effective February 5, 1997, to pursue other lifelong pursuits, including the operation of a truly "community-owned" financial institution. An initial step in fulfilling this pursuit resulted in the Acquisition and indirect acquisition of control of the Bank. Immediately after the Acquisition, Mr. Powell became the President and Chief Executive Officer of the Company. The Company's former President and Chief Executive Officer continued to be employed by the Bank following the Acquisition and currently serves as the manager of one of the Bank's branches. In addition, immediately following the Acquisition, Mr. Powell, as the sole shareholder of the Company, reconstituted the Company's Board of Directors with five persons, each of whom, including Mr. Powell, previously served as a member of the Board of Directors of Boatmen's First National Bank of Amarillo, Mr. Powell's former employer. Information regarding the current executive officer and directors of the Company is given in Part III to this Annual Report on Form 10-K. In addition, following the Acquisition, the executive officers and members of the Board of Directors of the Bank were reconstituted in similar fashion. In addition to the management changes noted above, following the Acquisition, management of the Bank took steps to (1) relocate the main office of the Bank from Fritch, Texas, to Amarillo, Texas, retaining the Fritch location as a full-service branch of the Bank; (2) convert the Bank from a Texas banking association to a national banking association chartered by the Comptroller, and (3) change the name of the Bank from "Fritch State Bank" to "The First National Bank of Amarillo." These transactions, the net result of which was to reintroduce "The First National Bank of Amarillo" to Amarillo, were completed on or about June 30, 1997. In addition, the Bank sought approval to establish three de novo full-service branches in Amarillo and an additional full-service branch in Dalhart, Texas. The Dalhart branch, previously operated by the Bank as a loan production office, opened on October 15, 1997. The three Amarillo branch locations opened on February 2, 1998, February 17, 1998, and January 28, 2000. To support this physical expansion and growth in market presence, the Bank hired approximately 107 additional employees between June 30, 1997, and December 31, 2000, bringing the current number of full-time equivalent employees to 116. Additional information regarding the increase in non-interest expense of the Company associated with the larger employee base is 4 provided at "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION -- Other Operating Income and Expense." Many of these persons previously worked for Mr. Powell at The First National Bank of Amarillo or Boatmen's First National Bank of Amarillo following the acquisition by Boatmen's in 1994 and have significant banking experience in the Amarillo banking market. In addition to increasing its physical presence in the Texas Panhandle, the Bank sought to increase its loan portfolio by enhancing existing customer relations, aggressively advertising the "return" of The First National Bank of Amarillo, and offering an expanded array of loan products, including agricultural loans. See "BUSINESS - Lending Activities" for additional information regarding the Bank's loan products. After the Acquisition and in anticipation of this significant growth and physical expansion of the Company and the Bank, the Company took steps to raise approximately $40 million in additional capital in a community offering principally to Panhandle residents. The intrastate offering to bona fide residents of Texas was concluded on August 31, 1997, when the offering was completely subscribed. Approximately $37.4 million of this newly raised capital was contributed by the Company to the Bank to support loan and deposit growth and a larger lending limit, and to maintain a capital base at a level that the Bank's management deemed sufficient for satisfactory capital ratios. A number of key factors which have been primarily attributable to the significant growth of the Company and the Bank following the Acquisition include (1) appointing an experienced and knowledgeable Board of Directors of the Company and the Bank; (2) hiring an experienced management team and seasoned Bank employees; (3) formulating and implementing an aggressive business plan to be an active lending institution and to penetrate key markets in the Texas Panhandle using, at least initially, existing customer contacts and contacts known to the new management team; and (4) a stable local economy. In addition, since the banking business is highly personalized, particularly in the markets served by the Bank, it attributes much of its success to the efforts of its enhanced staff who provide personalized banking services to the Bank's customers and the aggressive advertising of its highly personalized service to its target market. One of the Bank's goals is to be the premier financial institution in the Panhandle, recognized for customer service, and the delivery of personalized service has become one of the Bank's most recognizable features since the Acquisition. In addition, the Bank enjoys a unique position as one of the few locally owned and operated national banks in Amarillo. Accordingly, management attributes a portion of its success to the Bank's ability to capitalize on customers' disruption, dissatisfaction, and turnover from the acquisition by out-of-state holding companies of many community banks in and around the Panhandle, including Amarillo. To some degree, banks and other financial institutions compete on the basis of rates and services. Although the Bank seeks to remain competitive with its interest rates on loans and offers on deposits, it believes that its success has been and will continue to be dependent on its emphasis on community banking, customer service, and personal relationships. 5 Competition The banking business in the Bank's trade area, which includes Amarillo, Dalhart, and Fritch, and surrounding areas of the Panhandle, has become increasingly competitive over the past several years, and the level of competition facing the Company and the Bank may increase further. The Company and the Bank experience competition in both lending and attracting funds from other banks and non-bank financial institutions in their market area. Non-bank competitors for deposits and deposit-type accounts include savings and loan associations, credit unions, securities firms, money market funds, life insurance companies, and the mutual funds industry. The Bank encounters competition for loans from other banks, savings and loan associations, finance companies, insurance companies, small loan and credit card companies, credit unions, pension trusts, and securities firms. Recent legislation, court decisions, and administrative actions have expanded the business activities in which banks and non-bank financial institutions may engage. When others engage in these activities, the level of competition for the Company and the Bank is expected to increase. Some competitors are not subject to the same degree of regulation and supervision as the Company and the Bank. Many banks and other financial institutions with which the Company and the Bank compete have capital resources and legal loan limits substantially above those maintained by the Company and the Bank. These institutions can perform certain functions for their customers, including securities brokerage and international banking services, which the Company and the Bank presently do not offer directly. Although the Company may offer these services through correspondent banks, its inability to provide these services directly may be a competitive disadvantage. The Company considers its principal competition in the commercial banking business to be the other full-service banks in its primary market areas. The Company's products and services in its target market are most similar to those of area banks and, to some extent, savings associations. The Bank seeks to provide a high level of personalized banking service to professionals and owner-operated businesses, emphasizing quick and flexible responses to customer demands. The Bank relies heavily on its officers, directors, and existing shareholders to solicit and refer potential customers, and expects this to continue for the foreseeable future. Trust Department In connection with its personalized banking services to professionals and owner-operated businesses, the Bank formed a full-service Trust Department in mid-1999. The Trust Department provides the following services: Trust Administration. The Trust Department consults with its customers regarding various trust options that fit their needs. As Trustee, the Bank will, among other things, administer trusts per their terms, invest trust assets, keep records, make tax and fiduciary decisions, distribute income and/or principal to beneficiaries. 6 Investment Management. The Bank designs and implements an investment portfolio using multiple assets, styles and managers to meet its customers' personal risk tolerance, return needs, and time horizon. Custodial Services. As custodian, the Bank holds customers' assets in safekeeping and executes trade settlements. Financial and Tax Planning. The Bank uses its expertise and extensive experience in addressing financial and tax planning issues. Estate Administration. The Bank supervises the settlement of estates per the terms of its customers' wills as well as help in resolving in any unexpected issues. The Bank may also act as agent for any designated executor and assist him or her with the estate settlement. Farm and Ranch Asset Management. The Bank handles all matters to properly manage farm and ranch assets, including, among others, property leasing, property insurance, crop insurance, income collection and bill paying. Oil and Gas Asset Management. The Bank handles all matters to manage oil and gas assets including, among others, leasing, production and income collection, operating expenses and tax reporting. Employee Benefits. The Bank manages investments for 401(k) plans, pension and profit sharing plans, IRAs, and individual securities. Lending Activities One of the Bank's main objectives is to seek attractive lending opportunities in its service area. Accordingly, in addition to offering a broad range of deposit services and products typically available from most banks and savings associations, the Bank offers a full range of retail and commercial credit services designed to meet the borrowing needs of small and medium-sized businesses and customers in the Bank's service area. These products include commercial loans (such as lines of credit, term loans, refinancing, etc.), personal lines of credit, direct-installment customer loans, residential mortgage loans, construction loans, and letters of credit. Substantially all of the Bank's loans are made to borrowers in the Bank's service area, which includes the Texas Panhandle. The Bank has, however, made a small number of loans outside its service area and in surrounding states. This practice is generally limited to borrowers (both individuals and businesses) who have either specific ties to the Bank's service area or businesses in the Bank's service area. The Bank conducts its lending activities pursuant to the loan policy adopted by its Board of Directors. See "BUSINESS - - Loan Policies and Underwriting Practices" for a discussion of the Bank's loan policy. Substantially all loans in the Bank's portfolio have been originated by the Bank. A few loans in the Bank's portfolio, however, were purchased from a competing bank. These purchased loans had been originated by members of the Bank's lending staff during their prior tenure at the competing bank and were seasoned loans of known customers. These purchased loans conform with the Bank's underwriting standards. This practice was unique to the Bank's startup during the latter half of 1997. The Bank may, from time to time, purchase loans from other banks 7 and participations from correspondent banks, which loans will conform to the Bank's underwriting standards. The Bank has no foreign loans or highly leveraged transaction loans in its portfolio. Loan Portfolio For purposes of this discussion, the Bank's loans are divided into four categories: commercial loans, agricultural loans, real estate loans, and loans to individuals, each discussed below. Commercial Loans. The Bank's commercial loans are diversified to meet most business needs. The commercial loans offered by the Bank include (i) commercial real estate loans (as discussed herein), (ii) short-term working capital and other commercial loans, and (iii) construction loans (discussed herein). Credit analysis of a commercial loan application involves a review of many related factors including collateral, type of loan, loan maturity, terms and conditions, and various loan-to-value ratios related to the Bank's loan policy. The Bank requires commercial borrowers to submit financial statements at least annually. Any exceptions to this requirement are extremely rare. In addition, the Bank requires appraisals or evaluations for loans secured by real estate. These appraisals or evaluations are obtained before the funds are advanced. The Bank also requires personal guarantees on all non-individual/consumer loans, except when cash collateral or financial strength of the borrower mitigates this requirement. The total number of loans in the Bank's portfolio without personal guarantees at December 31, 2000, is insignificant compared to the overall value of its loan portfolio. Terms are granted commensurate with the useful life of the collateral offered. Agricultural Loans. Agricultural loans include loans to cattle feeding operations, cattle producers, farmers and ranchers, and other agriculture-related borrowers. These loans are subject to the credit analysis, financial statement, and collateral requirements mentioned above under commercial loans. Real Estate Loans. Real estate loans are divided into three categories: residential mortgage lending, construction loans, and commercial real estate loans, each discussed in greater detail below. Residential Mortgage Loans. The Bank's continued commitment to provide residential mortgage loans led to the decision to start a full scale Mortgage Department during the first quarter of 2000. This decision was made based on the following factors: (i) the commitment to be more competitive in this line of business, (ii) a strong real estate market, and (iii) low interest rates. Residential loan originations are now generated by the Bank's Mortgage Department with referrals coming from the Bank's lending staff, marketing efforts, present customers, walk-in customers, and referrals from real estate agents, mortgage brokers, and builders. The Bank focuses its lending efforts primarily on the origination of loans secured by first mortgages on owner-occupied, one-to- four family residences. Substantially all of the Bank's one-to-four family residential mortgage originations are secured by properties in and around Amarillo. The outstanding principal amount of loans secured by properties outside the Bank's service area is not significant compared to the value of the Bank's entire loan portfolio. The Bank does not purchase residential mortgage loans but may sell loans it originates on the secondary market. Residential mortgage products include Conventional and Jumbo loan products. The terms vary from fixed-rate to variable-rate loans with amortization up to 30 years. The Bank requires loans 8 secured by first mortgages on real estate to have loan-to-value ratios within limits as specified by the secondary market. The Bank's Mortgage Department also originates home equity loans. The terms of these loans are very specific as mandated by federal and state law. Construction Loans. Construction loans consist of one-to-four family and commercial. The Bank's emphasis in construction loans is directed toward properties that will either be sold or have a specific repayment source at completion. The Bank may finance construction loans for projects built on speculation, but these typically have substantial secondary sources of repayment. The Bank's construction loans are secured by property located primarily in its service area and typically have variable interest rates during the construction period. Construction loans to individuals are generally made in connection with permanent financing on the property. In determining whether to originate real estate construction loans, the Bank considers such factors as the borrower's financial condition and debt service coverage. Commercial Real Estate Loans. Commercial real estate loans provide permanent financing for commercial and retail structures, office buildings, warehouses, churches, and multiple-family buildings. Commercial real estate lending entails a thorough analysis of the borrower's financial condition and/or the tenant's financial condition, debt service coverage, and current and projected economic conditions. Commercial real estate loans are made at both fixed and adjustable interest rates, generally for terms up to 15 years. Loans to Individuals. Loans to individuals include personal and consumer loans, which may be secured or unsecured depending on the credit quality and purpose of the loan. The Bank requires loan applications and/or personal financial statements from its borrowers on loans that it originates. Loan officers complete a debt-to-income analysis that must meet established standards of the Bank's lending policy. Consumer loan terms vary according to the type and value of collateral, length of contract, and creditworthiness of the borrower. The Bank's underwriting standards for consumer loans include an application, a determination of the applicant's payment history on other debts, with greatest weight being given to payment history with the Bank, and an assessment of the borrower's ability to meet existing obligations and payments on the proposed plan. Although the applicant's creditworthiness is a primary consideration, the underwriting process also includes a comparison of the value of the collateral, if any, to the proposed amount of the loan. See "BUSINESS -- Loan Policies and Underwriting Practices." Additional information regarding the various components of the Bank's loan portfolio is provided under the caption "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS -- Loan Portfolio." Risk Elements The risk elements in the Company's loan portfolio are similar to those in other comparable commercial banks. Risk elements related to specific loan categories are as follows: Commercial Loans. Commercial loans include a variety of loans to commercial entities, including loans to finance accounts receivable, inventories, and other business activities. Risk of nonperformance on these loans includes the risk that the borrower's cash flow will be insufficient 9 to service the debt and the risk that collateral will not be sufficient to offset any loss. Certain loans to qualified borrowers may be unsecured. Agricultural Loans. Agricultural loans, in addition to risks similar to other commercial loans as described above, may be susceptible to commodity market risk and weather. Real Estate Loans. Real estate loans represent the Bank's greatest concentration of loans, approximately 42 percent of the portfolio at December 31, 2000. However, the amount of risk associated with these loans is mitigated in part because of the type of loans involved. Most of the Bank's real estate loans are collateralized by properties in and around Amarillo. However, the Bank does have some real estate loans that would be considered to be outside of the trade territory, most of which are commercial real estate properties that are occupied by tenants with substantial financial capacity. Real estate properties are particularly sensitive to general economic conditions and experience devaluation when economic factors decline. Accordingly, an increase in interest rates or a softening of the real estate market may reduce demand for this product. Management also pursues an aggressive policy of reappraisal on any real estate loan that becomes troubled, and potential exposures are recognized and reserved for as soon as they are identified. Installment Loans. Risk of nonperformance on these loans includes the risk that the borrower's cash flow will be insufficient to service the debt and the risk that the collateral will be insufficient to offset any loss. Currently, the economy in the Bank's service area appears stable. Management is, however, cognizant of the nationwide increase in the personal bankruptcy rate and believes this trend may have an adverse effect on the Bank's net charge-offs. Most of the Bank's loans to individuals are collateralized, which management believes will limit its exposure in this area if current bankruptcy trends continue. Loan Policies and Underwriting Practices General. The Bank's credit officers strive to accommodate all credit needs of creditworthy borrowers. Attempts are made, within the parameters of the Bank's loan policy, as discussed below, to make and structure loans designed to generate future business for the Bank. The Bank operates within the parameters of its loan policy and underwriting standards. These policies and standards, however, may not apply to all potential borrowers or circumstances, and, accordingly, deviations from the loan policy or underwriting standards, related to either collateralization requirements and/or loan-to-value ratio guidelines, are made only in extreme situations. These deviations, which are infrequent and involve loans representing an insignificant amount relative to the value of the Bank's overall loan portfolio, are addressed individually during the underwriting process. Although the Bank does not formally track these deviations from policy as a whole (except for real estate loans), known deviations are addressed herein. The following summarizes the Bank's loan policy and underwriting practices. Loan Policy. The Bank maintains a comprehensive loan policy that establishes guidelines for all categories of lending. It represents a reference guide and training tool outlining the Bank Management's position relative to lending activities. It is written to provide guidelines to be consistently applied by the Bank's loan officers without destroying the innovative and creative approaches necessary to cope with changing markets. 10 The Bank's Loan Committee administers its loan policy in accordance with directives from the Bank's Board of Directors. The Loan Committee is comprised of seven Senior Credit Officers. The Committee reviews policy and procedures at least annually, or more frequently as needed, and submits recommendations to the Bank's Chief Executive Officer for review and approval. Ultimate approval of the loan policy rests with the Bank's Board of Directors. The Bank's primary lending area includes customers residing in the Panhandle of Texas and, to a lesser extent, in portions of the neighboring states of Oklahoma, Kansas, Colorado, and New Mexico. Other principles of the Bank's loan policy are described below: o The Bank will not engage in non-recourse lending unless the loan is specifically approved in advance by the Loan Committee or the Chief Executive Officer. Non-recourse lending is defined as a loan with no personal liability of the principal of a borrowing entity when the collateral is the only source of repayment. Although the Bank prefers to obtain guarantees of payment from each principal of a closely held corporation, this is not considered non-recourse lending if there is an additional source of repayment other than the collateral. o If an applicant or a loan application reflects a potential credit weakness, adequate additional support, such as co-signers or enforceable guarantees, is sought. However, these are seldom considered the primary source of repayment and are, therefore, not heavily relied on by the Bank. o Credit officers are responsible for ascertaining the real market value of any collateral taken on a loan. Appraisal reports or comparable sales reports are used as guidelines only, not as an absolute measure of market value. o The Bank satisfies itself as to the repayment source of the borrower, whether it is cash flow or liquidation of collateral associated with a normal business cycle (e.g., sale of crops or cattle, or inventory turnover). Supervision and Regulation Banking is a complex, highly regulated industry. The primary goals of the bank regulatory scheme are to maintain a safe and sound banking system and to facilitate the conduct of monetary policy. In furtherance of those goals, Congress has created several largely autonomous regulatory agencies and enacted much legislation that governs banks, bank holding companies, and the banking industry. Descriptions of and references to the statutes and regulations below are brief summaries and do not purport to be complete. The descriptions are qualified in their entirety by reference to the specific statutes and regulations discussed. The Company As a bank holding company under the BHC Act, the Company is registered with and is subject to regulation by the Federal Reserve. Among other things, applicable statutes and 11 regulations require the Company to file annual and other reports with and furnish information to the Federal Reserve, which may make inspections of the Company. The BHC Act provides that a bank holding company must obtain the prior approval of the Federal Reserve to acquire more than 5 percent of the voting stock or substantially all the assets of any bank or bank holding company. The Company currently has no formal agreement or commitments about any such transaction. However, the Company evaluates opportunities to invest in or acquire other banks or bank holding companies as they arise and may engage in these transactions in the future. In addition, the BHC Act restricts the Bank's extension of credit to the Company. The BHC Act also provides that, with certain exceptions, a bank holding company may not (i) engage in any activities other than those of banking or managing or controlling banks and other authorized subsidiaries or (ii) own or control more than 5 percent of the voting shares of any company that is not a bank, including any foreign company. A bank holding company is permitted, however, to acquire shares of any company, the activities of which the Federal Reserve, after due notice and opportunity for hearing, has determined to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. The Federal Reserve's regulations state specific activities that are permissible under that exception. The Company does not currently have any agreements or commitments to engage in any nonbanking activities. In approving acquisitions by bank holding companies of banks and companies engaged in banking-related activities, the Federal Reserve considers whether any such activity by an affiliate of the holding company can reasonably be expected to produce benefits to the public, such as greater convenience, increased competition, or gains in efficiency, that outweigh any possible adverse effects such as undue consideration of resources, decreased or unfair competition, conflicts of interest, or unsound banking practices. The Federal Reserve has cease-and-desist powers over parent holding companies and nonbanking subsidiaries if their actions constitute a serious threat to the safety, soundness, or stability of a subsidiary bank. Federal regulatory agencies also have authority to regulate debt obligations (other than commercial paper) issued by bank holding companies. That authority includes the power to impose interest ceilings and reserve requirements on the debt obligations. A bank holding company and its subsidiaries are also prohibited from engaging in certain tie-in arrangements in connection with any extension of credit, lease or sale of property, or furnishing of services. A bank holding company may also acquire shares of a company which furnishes or performs services for a bank holding company and acquire shares of the kinds and in the amounts eligible for investment by national banking associations. The Board of Directors of the Company at this time has no plans for these investments. Federal banking law allows a bank holding company to acquire or establish banks in any state of the United States. In addition, Texas banking laws permit a bank holding company which owns stock of a bank outside Texas (an "Out-of-State Bank Holding Company") to acquire a bank or a bank holding company in Texas. Such acquisition may occur only if the Texas bank to be directly or indirectly controlled by the Out-of-State Bank Holding Company has existed and continuously operated as a bank for at least five years. In any event, however, a bank holding company may not own or control banks in Texas whose deposits would exceed 20 percent of the total deposits of all federally insured deposits in Texas. The Board of Directors of the Company at this time has no plans to acquire or establish banks outside Texas. 12 The Bank The Bank is subject to various requirements and restrictions under federal and state laws, and to regulation, supervision, and regular examination by the Comptroller. The Bank is subject to the Comptroller's power to enforce compliance with applicable banking statutes and regulations. These requirements and restrictions include requirements to maintain reserves against deposits, restrictions on the nature and amount of loans and the interest charged thereon, and restrictions relating to investments and other activities of the Bank. Impact of the Gramm-Leach-Bliley Act. On November 12, 1999, President Clinton signed the Gramm-Leach-Bliley Act (the "GLB Act"), which among other things, establishes a comprehensive framework to permit affiliations among commercial banks, insurance companies, and securities firms. Also, a bank holding company which meets certain criteria may certify that it satisfies such criteria and become a financial holding company, and thereby engage in a broader range of activity than permitted a bank holding company. The GLB Act imposes new requirements on financial institutions with respect to customer privacy by generally prohibiting disclosure of customer information to non-affiliated third parties unless the customer has been given the opportunity to object and has not objected to such disclosure. Financial institutions are further required to disclose their privacy policies to customers annually. The GLB Act directs the federal regulators to promulgate implementing regulations within six months of enactment. The privacy provisions will become effective six months thereafter. The Bank does not believe that the GLB Act will have a material adverse effect upon its operations in the near term. However, to the extent the GLB Act permits banks, securities firms, and insurance companies to affiliate, the financial services industry may experience further consolidation. This consolidation could result in a growing number of larger financial institutions that offer a wider variety of financial services than what the Bank currently offers and that can aggressively compete in the markets it currently serves. Dividends. The Bank may generally pay dividends on its stock as long as their payment complies with applicable law and regulations. A national bank may not pay dividends from its stated capital. Additionally, if losses have been sustained at any time by a national bank equal to or exceeding its undivided profits then on hand, it can pay no dividend, and all dividends must be paid out of net profits then on hand, after deducting expenses, including losses and provisions for loan losses. The payment of dividends out of net profits of a national bank is further limited by a provision of the National Bank Act that prohibits it from declaring a dividend on its shares of its stock until 10 percent of its net profits are transferred to the surplus each time dividends are declared, unless the transfer would increase the bank's surplus to an amount greater than its capital. In addition, the prior approval of the Comptroller is required if the total of all dividends declared by a national bank in any calendar year exceeds the total of its net profits for that year combined with its net profits for the two preceding years, less any required transfers to surplus or to funds to retire any preferred stock. Additionally, under 12 U.S. C. ss. 1818, the Comptroller has the right to prohibit the payment of dividends by a national bank if the payment is deemed to be an unsafe and unsound banking practice. 13 Transactions with Affiliates. The Federal Reserve Act prohibits the Bank from engaging in specified transactions (including, for example, loans) with certain affiliates unless the terms and conditions of the transactions are substantially the same or at least as favorable to the Bank as those prevailing at the time for comparable transactions with or involving other non-affiliated entities. In the absence of comparable transactions, any transaction between a bank and its affiliates must be on terms and under circumstances, including credit standards, that in good faith would be offered or would apply to non-affiliated companies. In addition, certain transactions, referred to as "covered transactions," between the Bank and its affiliates may not exceed 10 percent of the Bank's capital and surplus per affiliate and an aggregate of 20 percent of its capital and surplus for covered transactions with all affiliates. Certain transactions with affiliates, such as loans, also must be secured by collateral of specific types and amounts. Finally, the Bank may not purchase low-quality assets from an affiliate. The Company is an affiliate of the Bank. Loans to Insiders. Federal law also constrains the types and amounts of loans that any bank may make to its executive officers, directors, and principal shareholders. Among other things, the loans must be approved by the Bank's Board of Directors in advance and must be on terms and conditions as favorable to the Bank as those available to unrelated persons. Regulation of Lending Activities. Loans made by the Bank are also subject to numerous federal and state laws and regulations, including truth-in-lending statutes, the Federal Consumer Credit Protection Act, the Texas Consumer Credit Code, the Texas Consumer Protection Code, the Equal Credit Opportunity Act, the Real Estate Settlement Procedures Act, and adjustable rate mortgage disclosure requirements. Remedies to the borrower and penalties to the Bank are provided for the Bank's failure to comply with these laws and regulations, whose scope and requirements have expanded significantly in recent years. Branch Banking. Pursuant to the Texas Finance Code, all Texas banks may branch statewide. Accordingly, a bank located anywhere in Texas may, subject to regulatory approval, establish branch facilities near any of the Bank's facilities and within its market areas. If other banks establish branch facilities near the Bank or any of its facilities, it is uncertain whether these facilities would have a materially adverse effect on the Bank's business. In addition, as a result of the successful NationsBank litigation involving branch banking across the borders of Texas and subsequent action by the Texas Legislature in 1999, out-of-state banks may branch into Texas, and Texas banks may branch into other states. Since the Bank's primary service area is in Texas, these developments are not expected to have any material effect on the Bank's business or its competitive position in its primary markets. Governmental Monetary Policies. The commercial banking business is affected not only by general economic conditions but also by the monetary policies of the Federal Reserve. Changes in the discount rate on member bank borrowings, control of borrowings, control of borrowings at the "discount window," open market operations, the imposition of and changes in reserve requirements against member banks, deposits and assets of foreign branches, the imposition of and changes in reserve requirements against certain borrowings by banks and their affiliates, and the limits on interest rates which member banks may pay on time and savings deposits are some of the instruments of monetary policy available to the Federal Reserve. Those policies influence 14 significantly the overall growth of bank loans, investments, deposits, and interest rates charged on loans or paid on time and savings deposits. Any future monetary policies and their effect on the Bank's business and earnings, therefore, cannot be predicted accurately. Capital Adequacy. In 1983, Congress enacted the International Lending Supervision Act, which, among other things, directed the Comptroller to establish minimum levels of capital for national banks and to require national banks to achieve and maintain adequate capital. Pursuant to this authority, the Comptroller has promulgated capital-adequacy regulations to which all national banks, such as the Bank, are subject. The Comptroller's capital-adequacy regulations are based upon a risk-based capital determination, whereby a bank's capital adequacy is determined in light of the risk, both on- and off- balance sheet, in the bank's assets. Different categories of assets are assigned risk weightings and, based thereon, are counted at a percentage (from 0 to 100 percent) of their book value. The regulations divide capital between Tier 1 capital, or core capital, and Tier 2 capital, or supplemental capital. Tier I capital consists primarily of common stock, noncumulative perpetual preferred stock, related surplus, and minority interests in consolidated subsidiaries. Goodwill and certain other intangibles are excluded from Tier 1 capital. Tier 2 capital consists of varying percentages of the allowance for loan and lease losses, all other types of preferred stock not included in Tier 1 capital, hybrid capital instruments, and term-subordinated debt. Investments in and loans to unconsolidated banking and finance subsidiaries that constitute capital of those subsidiaries are excluded from capital. The sum of Tier 1 and Tier 2 capital constitutes qualifying total capital. The Tier 1 component must comprise at least 50 percent of qualifying total capital. Every national bank must maintain a certain ratio of Tier 1 capital to risk-weighted assets (a "Core Capital Ratio") and a ratio of Tier 1 plus Tier 2 capital to risk-weighted assets (a "Risk-Based Capital Ratio"). All banks must achieve and maintain a minimum Core Capital Ratio of at least 4 percent and a minimum Risk-Based Capital Ratio of 8 percent. As of December 31, 2000, the Bank's Core Capital Ratio was 14.97 percent, and its Risk- Based Capital Ratio was 16.22 percent. In addition, national banks generally must achieve and maintain a Leverage Ratio of at least 4 percent. As of December 31, 2000, the Bank's Leverage Ratio was 14.97 percent. FIRREA. The Financial Institutions Reform, Recovery and Enforcement Act ("FIRREA"), enacted in 1989, includes various provisions that affect or may affect the Bank. Among other things, FIRREA generally permits bank holding companies to acquire healthy thrifts and failed or failing thrifts. FIRREA also removed certain cross-marketing prohibitions previously applicable to thrift and bank subsidiaries of a common holding company. Furthermore, a multi-bank holding company may now be required to indemnify the federal deposit insurance fund against losses it incurs for the company's affiliated banks, which in effect makes a bank holding company's equity investments in healthy bank subsidiaries available to the Federal Deposit Insurance Company (the "FDIC") to assist the company's failing or failed bank subsidiaries. In addition, pursuant to FIRREA, any depository institution that has been chartered less than two years, has undergone a change in control within the last two years, is not in compliance with the minimum capital requirements of its primary federal banking regulator, or is otherwise in a troubled 15 condition must notify its primary federal banking regulator of the proposed addition of any person to the board of directors or the employment of any person as a senior executive officer of the institution at least 30 days before the addition or employment becomes effective. During this 30-day period, the applicable federal banking regulatory agency may disapprove of the addition or employment of the director or officer. The Bank is not presently subject to those requirements. FIRREA also expands and increases civil and criminal penalties available to the appropriate regulatory agency against certain "institution-affiliated parties" primarily including (i) management, employees, and agents of a financial institution, as well as (ii) independent contractors such as attorneys and accountants and others who participate in the financial institution's affairs and who caused or are likely to cause more than minimum financial loss to or a significant adverse effect on the institution, by knowingly or recklessly violating a law or regulation, breaching a fiduciary duty, or engaging in unsafe or unsound practices. These practices can include an institution's failure to timely file required reports or to submit accurate reports. Furthermore, FIRREA authorizes the appropriate banking agency to issue cease-and-desist orders that may, among other things, require affirmative action to correct any harm resulting from a violation or practice, including restitution, reimbursement, indemnifications, or guarantees against loss. A financial institution may also be ordered to restrict its growth, dispose of certain assets, or take other action the ordering agency determines to be appropriate. As a result, the Comptroller now has greater enforcement power than it has had since deregulation of the banking industry in 1978. The FDIC Improvement Act. The FDIC Improvement Act of 1991 ("FDICIA") makes many reforms addressing the safety and soundness of the deposit insurance system, supervision of domestic and foreign depository institutions, and improvement of accounting standards. This statute also limits deposit insurance coverage, implements changes in consumer protection laws, and calls for least-cost resolution and prompt regulatory action for troubled institutions. FDICIA requires every national bank with total assets over $500,000,000 to have an annual independent audit of its financial statements by a certified public accountant to verify that the financial statements are presented in accordance with generally accepted accounting principles and comply with other disclosure requirements prescribed by the Comptroller. FDICIA also places certain restrictions on activities of banks depending on their level of capital. FDICIA divides banks into five different categories, depending on their level of capital. Under regulations adopted by the Comptroller, a bank is "well capitalized" if it has a total Risk-Based Capital Ratio of 10 percent or more, a Core Capital Ratio of 6 percent or more, and a Leverage Ratio of 5 percent or more, and the bank is not subject to an order or capital directive to meet and maintain a certain capital level. A bank is "adequately capitalized" if it has a total Risk- Based Capital Ratio of 8 percent or more, a Core Capital Ratio of 4 percent or more, and a Leverage Ratio of 4 percent or more (unless it receives the highest composite rating at its most recent examination and is not experiencing or anticipating significant growth, in which instance it must maintain a Leverage Ratio of 3 percent or more). A bank is "undercapitalized" if it has a total Risk- Based Capital Ratio of less than 8 percent, a Core Capital Ratio of less than 4 percent, or a Leverage Ratio of less than 4 percent. A bank is "significantly undercapitalized" if it has a Risk-Based Capital Ratio of less than 6 percent, a Core Capital Ratio of less than 3 percent, and a Leverage Ratio of less than 3 percent. A bank is "critically undercapitalized" if it has a Leverage Ratio of 2 percent or less. 16 In addition, the Comptroller may downgrade a bank's classification (but not to "critically undercapitalized") based on other considerations even if the Bank meets the capital guidelines. According to these guidelines, the Bank was classified as "well capitalized" as of December 31, 2000. In addition, if a national bank is undercapitalized, it must submit a capital restoration plan to the Comptroller. Pursuant to FDICIA, an undercapitalized national bank is prohibited from increasing its assets, engaging in a new line of business, acquiring any interest in any company or insured depository institution, or opening or acquiring a new branch office, except under certain circumstances, including the Comptroller's acceptance of a capital restoration plan for the bank. Furthermore, if a national bank is undercapitalized, the Comptroller may take certain actions to correct its capital position; if a bank is significantly undercapitalized or critically undercapitalized, the Comptroller would be required to take one or more prompt corrective actions. These actions would require among other things: (i) sales of new securities to bolster capital, (ii) improvements in management, (iii) limits on interest rates paid, (iv) prohibitions on transactions with affiliates, (v) termination of certain risky activities, and (vi) restrictions on compensation paid to executive officers. If a national bank is critically undercapitalized, FDICIA requires it to be placed into conservatorship or receivership within 90 days, unless the Comptroller and the FDIC concur that other action would better achieve the FDICIA's purposes for prompt corrective action. A bank's capital classification affects the frequency of its examinations, impacts its ability to engage in certain activities, and affects the deposit insurance premiums it pays. Under FDICIA, the Comptroller must conduct a full-scope, on-site examination of every national bank at least once every 12 months. An exception to this rule is made, however, for national banks (i) with assets of less than $100,000,000, (ii) categorized as "well capitalized," (iii) found to be well managed with an outstanding composite rating, and (iv) not subject to a change in control during the last 12 months; these banks will be examined by the Comptroller once every 18 months. Under FDICIA, banks may be restricted in their ability to accept brokered deposits, depending on their capital classification. "Well-capitalized" banks are permitted to accept brokered deposits, but all banks that are not well capitalized cannot accept those deposits. The FDIC may, on a case-by-case basis, permit banks that are adequately capitalized to accept brokered deposits if it determines that the deposits would not constitute an unsafe or unsound practice for the bank. In addition, under FDICIA, the FDIC can assess insurance premiums on a bank's deposits at a variable rate depending on the probability that the deposit insurance fund will incur a loss for the bank. (Under prior law, the deposit insurance assessment was a flat rate, regardless of the likelihood of loss.) In this regard, the FDIC has issued regulations for a transitional risk-based deposit assessment that determines the deposit insurance assessment rates on the basis of the bank's capital classification and supervisory evaluations. Each of these categories has three subcategories, resulting in nine assessment risk classifications. The three subcategories about capital are "well capitalized," "adequately capitalized," and "less than adequately capitalized" (includes "undercapitalized," "significantly undercapitalized," and "critically undercapitalized" banks). The three subcategories for supervisory concerns are "healthy," "supervisory concern," and "substantial supervisory concern." A bank is deemed "healthy" if it is financially sound with only a few minor weaknesses. A bank is deemed subject to "supervisory concern" if it has weaknesses that, if not 17 corrected, could result in significant deterioration of the bank and increased risk to the Bank Insurance Fund. A bank is deemed subject to "substantial supervisory concern" if it poses a substantial probability of loss to the Bank Insurance Fund of the FDIC (the "BIF"). The federal banking agencies have established guidelines which prescribe standards for depository institutions relating to internal controls, information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, and management compensation. The agencies may require an institution which fails to meet these standards to submit a compliance plan. The agencies are also currently proposing standards for asset quality and earnings. The Company cannot predict what effect these guidelines will have on the Bank. Deposit Insurance. The Bank's deposits are insured up to $100,000 per insured account by the BIF. As an institution whose deposits are insured by BIF, the Bank paid deposit insurance premiums to the BIF of approximately $49,600 for the year ended December 31, 2000. The Bank's deposit insurance assessments may increase depending upon the risk category and subcategory, if any, to which the Bank is assigned by the FDIC. Any increase in insurance assessments could have an adverse effect on the Bank's earnings. Interstate Banking Legislation. During its 1999 session, the Texas legislature enacted legislation codifying the NationsBank litigation to allow interstate branch banking. See "SUPERVISION AND REGULATION -- Branch Banking." Interstate banking (e.g., out-of-state holding companies acquiring Texas financial institutions), however, cannot be prohibited by states, but it is subject to certain state law limitations on the ages of the banks to be acquired and on the total amount of deposits within a state that a bank holding company may control. Management of the Company and the Bank cannot predict any other legislation or regulations and their effects. THE FOREGOING SUMMARIZES SOME OF THE RELEVANT LAWS, RULES, AND REGULATIONS GOVERNING NATIONAL BANKS AND BANK HOLDING COMPANIES, BUT DOES NOT PURPORT TO BE A COMPLETE SUMMARY OF ALL APPLICABLE LAWS, RULES, AND REGULATIONS GOVERNING BANKS AND BANK HOLDING COMPANIES. Environmental Factors To date, the Company has not been required to perform any investigations or clean-up activities, nor has it been subject to any environmental claims. There can be no assurance, however, that this will remain the case in the future. In the ordinary course of its business, the Company from time to time forecloses on properties securing loans. There is a risk that the Company could be required to investigate and clean up hazardous or toxic substances or chemical releases at those properties after their acquisition and could be held liable to a governmental entity or to third parties for property damage, personal injury, and investigation and clean-up costs in connection with the contamination. The costs of investigation, remediation, or removal of those substances may be substantial, and the presence of the substances, or the failure to properly remediate the property, may adversely affect the owner's ability to sell or rent the property or to borrow using the property as 18 collateral. Persons who arrange for the disposal or treatment of hazardous or toxic substances also may be liable for the costs of removal or remediation of the substances at the disposal or treatment facility, whether or not the person owns or operates the facility. In addition, the owner or former owners of a contaminated site may be subject to common-law claims by third parties based on damages and costs resulting from environmental contamination of the property. In its business, the Company may acquire properties through foreclosure, and hazardous or toxic waste could be found on them. The Company could then be held responsible for cleaning up or removing the waste, and the cost could exceed the value of the properties. Employees The Company is a bank holding company and primarily conducts its operations through its subsidiary, the Bank. The Company has no paid employees. Certain Bank employees and directors conduct the Company's business but are not specifically compensated as Company employees. As of December 31, 2000, the Bank had 109 full-time and 14 part-time employees. Employees receive benefits, such as life and health insurance plans. The Bank's employees are not represented by any collective bargaining group. The Bank considers its relations with its employees to be good. Dependence on Key Personnel The Company's and the Bank's growth and development since the Acquisition on May 23, 1997, have largely depended upon the services of Donald E. Powell, Chairman of the Board, President, and Chief Executive Officer. The loss of Mr. Powell's services for any reason could have a material adverse effect on the Company and the Bank. ITEM 2. PROPERTIES. The Company's executive and administrative offices are located at 905 South Fillmore, Amarillo, Texas. The Company has executed two leases with an unaffiliated third party for this location, one for approximately 5,600 square feet on the seventh floor, which is used for the Company's and the Bank's executive and administrative offices, and one for approximately 2,100 square feet on the ground floor, which is used for retail banking transactions. These leases expire in June 2004 and provide for rent escalations tied to either increases in the lessor's operating expenses or fluctuations in the consumer price index in the relevant geographic market. The term of these leases may be renewed through June 2012. In addition to the main office, the Bank maintains five full-service branch offices in Amarillo (three branches), Dalhart, and Fritch, Texas. Amarillo, Texas As described above, the Bank's main retail office is located on the first floor of a seven-story office complex at 905 South Fillmore in downtown Amarillo. The Bank leases approximately 7,700 square feet of office space from an unaffiliated third party. This location offers a walk-in lobby but has no drive-through lanes. On February 2, 1998, and February 17, 1998, the Bank opened two de novo, full-service branches in commercial areas of Amarillo. One branch is near the intersection of U.S. Interstate 40 19 and Washington Street and is highly visible to passing traffic. The other branch is near the intersection of 34th Avenue and Bell Street, also a highly visible location. The Bank constructed and owns each branch building and leases the ground space from unaffiliated third parties. The leases expire in February 2010 and August 2027. Each stand-alone branch facility is approximately 2,500 square feet and has five drive-through lanes and one walk-up automated teller machine. On December 4, 1999, the Bank opened another de novo, full-service branch on 45th Street near Coulter in a temporary facility. The branch moved into its completed facility located at 45th and Coulter on January 28, 2000. The Bank owns this facility. Dalhart, Texas On October 15, 1997, the Bank opened a de novo, full-service branch at 1723 Tennessee in Dalhart. This branch, which offers four drive-through lanes and one drive-up automated teller machine, is located in a strip shopping center in the business district and is surrounded by other commercial businesses. This facility, which occupies approximately 5,500 square feet, is leased from an unaffiliated third party. The initial term of the lease will expire in October 2002 but may be renewed through October 2012. Fritch, Texas The Fritch branch of the Bank is located downtown at 102 West Broadway (Highway 136). It consists of a one-story brick building (approximately 3,230 square feet) with three drive-through lanes and one drive-up automated teller machine; it is owned by the Bank. ITEM 3. LEGAL PROCEEDINGS. The Company and the Bank are sometimes involved in various legal proceedings in the normal course of their business. None of these matters, either singularly or in the aggregate, would have, in the management's opinion, a material adverse effect upon the financial statements of the Company or the Bank. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. None. 20 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. There is no established public trading market for the Company's Common Stock, and, as the Transfer Agent for the Company's Common Stock, the Bank believes the Common Stock is seldom traded and is not necessarily aware of the price for which it is bought or sold. There can be no assurance that an active public trading market for the Company's Common Stock will be created. None of the Company's shares of Common Stock (i) is subject to outstanding options or warrants to purchase nor are any securities convertible into the Company's Common Stock, except for options to purchase 602,667 shares of Common Stock which were outstanding at December 31, 2000, to key employees of the Bank under the Company's 1998 Incentive Stock Plan, or (ii) is being or proposed to be publicly offered by the Company. The Company paid no cash dividends on its Common Stock in 1998, 1999, or 2000. The Company intends to retain all earnings to finance its operations and does not expect to pay cash dividends in the foreseeable future. Any decision by the Board of Directors to declare dividends in the future will depend on the Company's earnings, capital requirements, financial condition, and other relevant factors. The Company's ability to pay dividends is also restricted by Texas law. Generally, Texas law prohibits corporations from paying dividends if, after giving effect to the distribution, the corporation would be insolvent, or the distribution exceeds the surplus of the corporation. The Company is also subject to the dividend restrictions applicable to national banks because its principal source of income is the dividends the Bank pays to the Company. Under the National Bank Act, dividends may be paid only out of retained earnings as defined in the statute. The Comptroller's approval is required if the dividends for any year exceed the net profits, as defined, for that year plus the retained net profits for the preceding two years. In addition, unless a national bank's capital surplus equals or exceeds the stated capital for its common stock, no dividends may be declared unless the bank makes transfers from retained earnings to capital surplus. See "Supervision and Regulation" under Item 1 of this Annual Report on Form 10-K. ITEM 6. SELECTED FINANCIAL DATA. The following table gives consolidated selected financial data about the results of operations and financial condition of the Company for the periods and at the dates indicated. Amounts are in thousands, except for weighted average shares outstanding and per-share data. These data are qualified by, and should be read in conjunction with, the separate financial statements, reports, and other financial information elsewhere in this document. Certain consolidated financial data as of and for 2000, 1999, and 1998 are based on and derived from audited financial statements elsewhere in this document. Share data have been adjusted to reflect the 77.4372-for-1 stock dividend on July 2, 1997. 21

The Bank's growth in loans and deposits during 2000, 1999, 1998, and 1997, is primarily attributable the relocation of its main office from Fritch to Amarillo, a more economically vibrant market. Deposit and loan growth can be attributable to the new management team, which has emphasized growth from the Bank's existing client base, capitalized on opportunities in its target market (e.g., customers of competing financial institutions), and delivered personalized banking services to its customers. In addition, the Bank's loan growth is attributable to its aggressive commercial lending program and its entry into agricultural and real estate lending and strong emphasis on the commercial loan market. See "Item 1. BUSINESS -- Change in Management and 22 Competitive Focus" for additional information regarding the various factors contributing to the Bank's recent growth. Growth in total assets during 2000, 1999, 1998, and 1997 is primarily attributable to the increase in the Bank's loan portfolio, which was supported by a significant capital infusion after the Company's stock offering in 1997. The increase in 2000 and 1999 interest income as compared to 1998 was attributable primarily to the larger loan portfolio, and the increase in non-interest income was accompanied by increases in interest and non-interest expenses. Larger provisions for loan losses were necessary to maintain an adequate allowance for loan losses. See "Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS--Provision and Allowance for Loan Losses" for additional information about the provision for loan losses. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. Management's Discussion and Analysis of Financial Condition and Results of Operations of the Company analyzes the major elements of the Company's consolidated balance sheets, and statements of earnings. This section should be read in conjunction with the Company's consolidated financial statements and accompanying notes and other detailed financial information included herein. General The Company is a one-bank holding company that commenced operations on December 31, 1983. The Bank originally began operations as Fritch State Bank on April 10, 1965. Ownership of the Bank is the Company's major activity. Activities of the Company are limited and are stated in Note 15 to the Consolidated Financial Statements included with this Annual Report on Form 10-K. Accordingly, unless specifically noted herein, the Company's activities as described in this Management's Discussion and Analysis of Financial Condition and Results of Operations are virtually indistinguishable from those of the Bank. As more fully discussed in Item 1 "BUSINESS--General" to this Annual Report on Form 10-K, composition of the management team of the Company and the Bank changed significantly in 1997, and the new management team significantly changed the geographic, product, and service focus of the Bank. Prior management generally limited loans to selected commercial and consumer installment loans, which comprised less than 10 percent of average assets. Limited real estate lending was performed, and agricultural loans were made only on a exception basis. During 1997, however, the new management team changed the lending philosophy of the Bank to a more traditional commercial banking activity. Accordingly, average loans during 2000, 1999, and 1998 represented approximately 89 percent, 79 percent, and 77 percent, respectively, of average total assets. 23 The new management team's philosophy in growing the loan portfolio was to hire experienced loan officers primarily from one large competing financial institution in the Amarillo market, and for those loan officers to aggressively grow the Bank's lending customers' base. Although management aggressively sought new customers, it was, and continues to be, selective in deciding which customers to pursue to operate in a safe and sound manner in accordance with the Bank's loan policy. Thus management believes that the Bank's loan portfolio growth has been achieved without relaxing credit underwriting policies. The Bank's loan policy, including underwriting standards, is discussed at length in Item 1 "BUSINESS--Loan Policies and Underwriting Practices" to this Annual Report on Form 10-K. Deposit growth was significant during 2000, 1999, and 1998 and was primarily fueled by the additional customers gained through the process mentioned above and by the Bank's ability to attract deposits because of the reputation of its management team and the name recognition of "The First National Bank of Amarillo" in its market. The Bank does not offer above-market rates on its deposits and has no "brokered" deposits. For the Years Ended December 31, 2000, 1999, and 1998 Results of Operations The Company experienced net earnings of $4,776,278, $4,092,725, and $3,304,303 for the years ended December 31, 2000, 1999, and 1998, respectively. Earnings for 2000, 1999, and 1998, were significantly influenced by activity in the allowance for loan losses, as discussed below. The return on average assets for 2000, 1999, and 1998 was 1.45 percent, 1.53 percent, and 1.65 percent, respectively, and return on average equity was 9.90 percent, 9.45 percent, and 8.37 percent, respectively. The improvement in return on average equity in 2000, 1999, and 1998 is primarily attributable to higher net interest income and non-interest income, offset with a higher provision for loan losses and higher non-interest expense. The provision for loan losses in 2000 was approximately $3,150,000 in comparison to the 1999 and 1998 provisions of $1,320,000 and $975,000, respectively. During 2000, additional provisions were made to the allowance for loan losses. These provisions included an amount related to a potential problem loan that resulted in a charge off of $2,500,000 in late 2000. In addition, management believed that the allowance for loan losses should grow as loans grow. Accordingly, management made a subjective determination of the allowance based on banking experience and knowledge, and comparison to peers. Management expects that appropriate, additional provisions will be made as the loan portfolio grows. Net Interest Income The largest component of operating income is net interest income, which is the difference between the income earned on assets and interest paid on deposits. Net interest income is determined by the rates earned on the Company's interest-earning assets and the rates paid on its interest-bearing liabilities, the relative amounts of interest-earning assets and interest-bearing liabilities, and the degree of mismatch and the maturity and repricing characteristics of its interest-earning assets and interest-bearing liabilities. 24 During the years ended December 31, 2000, 1999, and 1998, net interest income was $17,159,438, $13,354,688, and $10,215,928, respectively. The increase in net interest income during 2000 and 1999 of $3,804,750 (28.5 percent) and $3,138,760 (30.7 percent), respectively, is primarily due to an increase in average interest-earning assets of approximately $58,770,000 and $61,242,000, respectively, net of an increase in average interest-bearing liabilities of approximately $44,725,000 and $45,225,000, respectively. The following table gives the average consolidated balance sheets of the Company and its subsidiaries for the past three years along with an analysis of net interest earnings for each major category of interest-earning assets and interest-bearing liabilities, the average yield or rate paid on each category, and net yield on interest-earning assets:

---------- (1) For purposes of these computations, nonaccruing loans are included in the daily average loan amounts outstanding. 25 The following table summarizes interest earned and paid resulting from changes in volume and in rates:

The change in interest due to volume and rate has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each. Other Operating Income and Expense Other Operating Income. Other operating income for 2000 and 1999 increased by $811,454 (44.0 percent) and $696,700 (60.6 percent), respectively, because of increased activity on deposit accounts. Other Operating Expenses. During 2000 and 1999, other operating expenses increased by $1,703,991 (22.2 percent) and $1,337,408 (21.1 percent), respectively. The increase in operating expenses was primarily attributable to the Company's overall growth, including increases of 14 and 8 full-time equivalent employees in 2000 and 1999, respectively, as compared to 1998 (which accounted for approximately $752,000 and $882,000, respectively, of the increase in operating expenses), and increases in other costs to conduct banking operations (which accounted for approximately $952,000 and $455,000, respectively, of the increase in operating expenses). Securities Portfolio The Company's objective in its management of the investment portfolio is to maintain high quality, relatively liquid investments with competitive returns. During 2000, the weighted average yield on taxable securities was 6.07 percent as compared to 5.56 percent during 1999 and 6.04 percent during 1998. The Company primarily invests in U.S. Treasury securities, other U.S. government agency obligations, and mortgage-backed securities. 26 The carrying values of the major classifications of securities were as follows:

Other securities for 2000 consist primarily of Federal Home Loan Bank and Federal Reserve Bank stock. For 1999 and 1998 other securities consist primarily of Federal Reserve Bank stock. The following table shows the stated maturities of securities at December 31, 2000, and the weighted average yields of such securities (calculated on the basis of the cost and effective yield weighted for the scheduled maturity of each security). Mortgage-backed securities are reported at their estimated average life.

(1) These securities do not have maturity dates and are included in over ten years column. Loan Portfolio During 2000, total loans increased by $67,547,523 from $262,247,493 at December 31, 1999, to $329,795,016 at December 31, 2000. From 1993 through 1996, total loans were about $1.5 to $1.9 million. At December 31, 2000, 1999, and 1998, net loans accounted for 87.9 percent, 86.2 percent, and 74.2 percent, respectively, of total assets. The growth in the loan portfolio during 1997 through 2000 was primarily attributable to the previously discussed change of ownership of the Company and the Bank, the change in management after the Acquisition, and, as a result of the management change, the Bank's renewed emphasis on lending and its recognition of the importance of loans in its overall asset mix. Prior management of the Bank generally limited loans to selected commercial and consumer installment loans, which portfolio of loans comprised less than 10 percent of total average assets. The Bank conducted limited real estate lending, due primarily to the stagnant economy in the Bank's primary market, and agricultural loans were made only on an exceptional basis. During 1997, however, the Bank relocated to the larger and more economically viable Amarillo market, and new management changed the Bank's lending philosophy to more closely resemble a traditional 27 commercial banking business. To accomplish its goal of growing the Bank's loan portfolio, management hired nine experienced loan officers in 1997, primarily from one competing financial institution in Amarillo. These loan officers were successful in generating new business from existing customers of the Bank as well as new customer relationships for the Bank. As a result, at December 31, 2000, 1999, and 1998, loans represented approximately 89 percent, 79 percent, and 77 percent, respectively, of total average assets. Although taking an aggressive posture in growing the loan portfolio, management was careful to build a portfolio consistent with the underwriting parameters in the Bank's loan policy. Accordingly, management believes that the significant growth in the Bank's loan portfolio during 2000, 1999, and 1998 has been achieved without relaxing credit underwriting policies. Growth in the loan portfolio, as discussed above, also resulted in a significant change in the portfolio mix. The loan portfolio in 1996 consisted primarily of commercial loans (representing approximately 36 percent of total loans) and installment loans (representing approximately 53 percent of total loans). With the change in philosophy as described above, agribusiness and real estate lending activity increased from 0 percent and 11 percent of the loan portfolio, respectively, at December 31, 1996, to approximately 13 percent and 29 percent of total loans, respectively, at December 31, 1997, approximately 27 percent and 35 percent of total loans, respectively, at December 31, 1998, approximately 15 percent and 40 percent of total loans, respectively, at December 31, 1999, and approximately 17 percent and 42 percent of total loans, respectively, at December 31, 2000. The amounts of loans outstanding at the indicated dates are shown in the following table according to type of loans:

28 The following table shows the maturity analysis of loans outstanding as of December 31, 2000, net of unearned discount. Also provided are the amounts due after one year classified according to the sensitivity to changes in interest rates:

The Bank has no specific policies regarding "rollover" of short-term loans in its portfolio. Although some loans are expected to be renewed at maturity, the Bank evaluates each maturing loan on a case-by-case basis to determine whether it should be renewed or whether the borrower should be requested to pay off the loan at maturity. The Bank cannot reasonably estimate the dollar amount of loans maturing during 2001 which may ultimately be renewed. Provision and Allowance for Loan Losses The following table summarizes the Bank's loan loss experience for the last five years ended December 31: 29

Risk elements include accruing loans past due 90 days or more, nonaccrual loans, and loans which have been restructured to provide a reduction or deferral of interest or principal for reasons related to the debtor's financial difficulties, potential problem loans, and loan concentrations. The bank had no nonaccrual loans at the years ended December 31, 1996 to 2000. The following table summarizes the Bank's past due, loans for the years ended December 31:

At December 31, 2000, the Bank had no foreign loans outstanding and no loan concentrations, except for those indicated in the first table under "Loan Portfolio," exceeding 10 percent of total loans. Management believes all material restructured loans have been identified based upon the Bank's loan data system and management's awareness of the loan files and customer contacts. 30 The Company has developed policies and procedures for evaluating the overall quality of its loan portfolio and the timely identification of potential problem loans. Management's judgment as to the adequacy of the allowance is based upon a number of assumptions about future events which it believes are reasonable, but which may not be valid. Thus, there can be no assurance that future charge offs will not exceed the allowance for loan losses or that additional increases in the allowance for loan losses will not be required. Activity in the allowance for loan losses for 2000, 1999, and 1998, had a significant impact on earnings. Additions to the allowance for loan losses, recorded as the provision for loan losses on the Company's consolidated statements of earnings, are made periodically to maintain the allowance at an appropriate level based on management's analysis of the potential risk in the loan portfolio. The amount of the provision is a function of the level of loans outstanding, the level of nonperforming loans, historical loan loss experience, the amount of loan losses actually charged off or recovered during a given period, and current and anticipated economic conditions. The Company believes that it is conservative in the identification and charge off of problems, and, in certain instances, the Company has received recoveries on loans that were previously charged off. At December 31, 2000, 1999, and 1998, allowances for loan losses were $4,989,585, $4,524,678, and $3,625,435, respectively, which represented 1.51 percent, 1.73 percent, and 1.94 percent of outstanding loans at those respective dates. This compares to peer group percentages of the allowance for loan losses to outstanding loans of 1.35 percent, 1.27 percent, and 1.32 percent, for 2000, 1999, and 1998, respectively. During 2000, 1999 and 1998, the Company recorded provisions for loan losses of $3,150,000, $1,320,000, and $975,000, respectively. The provisions were made in connection with the respective increases of $67,547,523 and $75,071,134 in the loan portfolio to $329,795,016 (2000), from $262,247,493 (1999) and $187,176,359 (1998). The increase in loans is primarily attributable to the change in ownership and management's aggressive posture to grow the Company. In addition, during 2000 additional provisions were made to the allowance for loan losses. These provisions included an amount related to a potential problem loan that resulted in a charge off of $2,500,000 in late 2000. Determination of the Company's amount of the provision for loan losses for 2000, 1999, and 1998 was unique. Prior management of the Company generally limited its lending activity to commercial and consumer installment loans, and the loan portfolio constituted less than 10 percent of average total assets of the Bank. Because of significant growth in the loan portfolio during 1997, new management believed that the allowance for loan losses should grow also. Determining an appropriate level of allowance for loan loss and provision for loan loss was unique because, with management's decision to offer a broader range of loan products and to deploy more of the Bank's assets in loans, the Company had no historical loss history to benchmark against. Accordingly, management made a subjective determination of the proper level of allowance based on collective banking experiences, knowledge of the market and conditions, comparison to peers, and an intentional effort to be conservative during this growth phase. Management believes that appropriate underwriting practices were adhered to in the origination of new loans and, although the Company had no significant impaired, potential problem, or nonperforming loans at December 31, 2000, management recognized that losses are often inherent in the lending process. Accordingly, management believes that loan losses should be provided for as the loan portfolio grows, even if specific problem loans are not yet identified. Determination of an appropriate allowance is subjective and may be adjusted in the near term because of changes in economic conditions or review by 31 regulatory examiners. Management expects that appropriate, additional future provisions will be made as the loan portfolio grows. The risk elements in the Company's loan portfolio are similar to those in the loan portfolios of other comparable commercial banks in the Bank's lending area and are discussed in detail under the caption "GENERAL--Lending Activities--Risk Elements." Management made a subjective determination of the proper level of the allowance for loan losses by considering each risk element and drawing from collective banking experiences and knowledge of the Company's market, by evaluating overall economic conditions, by comparing its loan portfolio to those of peer banks, and by intentionally trying to be conservative during the Bank's significant growth phase. Management thus determined that allowances at December 31, 2000, of $4,989,585 (representing 1.51 percent of outstanding loans) and at December 31, 1999, of $4,524,678 (representing 1.73 percent of outstanding loans) were appropriate. The allowance for loan losses is not specifically allocated among the various categories of loans in the portfolio, and management cannot predict the amount of charge-offs by loan category in 2000. At December 31, 2000, 1999, or 1998, there were no significant impaired loans or loans delinquent over 90 days. Accrual of interest is discontinued on loans when management believes, after considering economic and business conditions and collection efforts, that a borrower's financial condition is such that the collection of interest is doubtful. A delinquent loan is generally placed in nonaccrual status when it becomes 90 days or more past due. When a loan is placed in nonaccrual status, all interest which has been accrued on the loan but remains unpaid is reversed and deducted from earnings as a reduction of reported interest income. No additional interest is accrued on the loan balance until the collection of both principal and interest becomes reasonably certain. Management's policy is to charge off loans when it determines that the outstanding principal on the loan is uncollectible. Loans charged off do not necessarily mean that a loan has absolutely no recovery or salvage value; rather, when management decides to charge off a loan, management has determined that it is no longer practical or desirable to defer charging off the loan even though partial recovery may eventually be effected. Potential Problem Loans. A potential problem loan is one in which management has serious doubts about the borrower's future performance under the loan contract. These loans are current as to principal and interest, and, accordingly, they are not included in nonperforming assets categories. At December 31, 2000, the Company had no material loans considered by management to be potential problem loans. The level of potential problem loans is one factor to be used in determining the adequacy of the allowance for loan losses. Deposits and Other Interest-Bearing Liabilities Deposits. Average total deposits were $266,326,929, $221,807,286, and $159,963,123 during 2000, 1999, and 1998, respectively. Average interest-bearing deposits were $194,929,072 in 2000, as compared to $163,406,629 in 1999, and $118,290,101 in 1998. 32 The average daily amount of deposits and rates paid are summarized for the periods indicated in the following table.

Maturities of time certificates of deposits of $100,000 or more outstanding as of December 31, 2000, are summarized as follows: 3 months or less $25,296,299 Over 3 months through 6 months 13,353,335 Over 6 months through 12 months 19,025,173 Over 12 months 3,684,213 ----------- $61,359,020 =========== There were no deposits by foreign depositors at December 31, 2000, 1999, or 1998. Significant Financial Ratios The following table shows consolidated operating and capital ratios for 2000, 1999, and 1998. 2000 1999 1998 ---- ---- ---- Return on average assets 1.45% 1.53% 1.65% Return on average equity 9.90% 9.45% 8.37% Average equity to average asset ratio 14.60% 16.25% 19.71% Dividend payout ratio to net earnings 0.00% 0.00% 0.00% Return on assets declined slightly during 2000 and 1999, however, return on equity increased, indicating improved leverage. Borrowed Funds At December 31, 2000, the Company had federal funds purchased and borrowings from the Federal Home Loan Bank of $17,000,000 and $16,000,000, respectively with weighted average interest rates of 6.78% and 6.47%, respectively. The maximum amount of federal funds purchased and borrowings from the Federal Home Loan Bank outstanding at any month-end was $22,700,000 and $16,000,000, respectively. During 2000, the average amounts outstanding and related weighted average interest rates were approximately $8,628,000 and $4,683,000, and 6.81% and 6.70%, respectively. The Company had no borrowed funds at December 31, 1999 and 1998. Capital The cornerstone of the Company's capital structure is its common stock, which represents 100 percent of total capitalization at December 31, 2000. The Company's equity base was strengthened 33 significantly during 1997 through the issuance of common stock in an intrastate offering to bona fide Texas residents on August 31, 1997. The Company raised approximately $40 million in new capital in this offering. The cash raised from the stock offering was used primarily to increase the Bank's capital base to support its physical expansion and significant growth in its loan portfolio. Additional information regarding the Bank's physical expansion is given under the caption "BUSINESS-- General--Change in Management and Competitive Focus," and additional information regarding growth of the Bank's loan portfolio is provided under the caption "Loan Portfolio" to this MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. Dependence on this additional capital to support the significant loan growth was partially offset by the significant increase in the deposit base at the Bank during 2000, 1999, 1998, and late 1997, which provided an additional source of funding loan growth. From December 31, 1999, to December 31, 2000, average total deposits at the Bank increased by $44,519,643, from $221,807,286 to $266,326,929, an increase of approximately 20 percent. From December 31, 1998, through December 31, 1999, average total deposits at the Bank increased by $61,844,163 from $159,963,123 to $221,807,286, or an increase of approximately 39 percent. Additional information regarding the growth in the deposit base is provided under the caption "Deposits and Other Interest-Bearing Liabilities" to this MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The combination of the Bank's increased deposit base coupled with the additional capital from the stock offering has been used to support the significant loan growth at the Bank following the Acquisition. The Company and the Bank are subject to various regulatory capital requirements of banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of the assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company's and the Bank's capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Prompt corrective action provisions are not applicable to bank holding companies. Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (shown in the table below) of Total and Tier I Capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I Capital to average assets (as defined). Management believes, as of December 31, 2000, that the Company and the Bank meet all capital adequacy requirements to which they are subject. As of December 31, 2000, the most recent notification from the Bank's regulator categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier I risk-based, and Tier 2 leveraged ratios as set forth in the following table. There are no conditions or events since that notification that management believes have changed the Bank's category. 34 The Company and the Bank exceeded their regulatory capital ratios, as shown in the following table.

The Company currently has no material commitments for capital expenditures and no present intention to pay dividends on its common stock. Given the Company's strong capital ratios shown in the preceding table, management believes the Company's capital structure is adequate to support continued growth of the Company and the Bank in the near future. Liquidity Management Liquidity management involves monitoring the Company's sources and uses of funds in order to meet its day-to-day cash flow requirements while maximizing profits. Liquidity represents the ability of a Company to convert assets into cash or cash equivalents without significant loss and to raise additional funds by increasing liabilities. Liquidity management is made more complicated because different balance sheet components are subject to varying degrees of management control. For example, the timing of maturities of the investment portfolio is very predictable and subject to a high degree of control at the time investment decisions are made. However, net deposit inflows and outflows are far less predictable and are not subject to the same degree of control. The Company has maintained a level of liquidity that is adequate to provide the necessary cash requirements. The Company's uses federal funds and borrowings from the Federal Home Loan Bank as its primary source of liquidity. Average federal funds sold were $2,403,239 and $26,769,378 during 2000 and 1999, respectively. Average federal funds purchased were $8,627,596 and $108,219 during 2000 and 1999, respectively. The Company has $45,000,000 in federal funds purchased lines available from correspondent banks of which $17,000,000 was used as of December 31, 2000. Borrowings from the Federal Home Loan Bank were $16,000,000 as of December 31, 2000, and averaged $4,683,060 for 2000. Management has also lined out potential purchasers of loans as a tool to maintain liquidity. The Company has numerous loan participations with other parties, primarily financial institutions. Loan participations are a common commercial banking arrangements whereby the Company sells, on a nonrecourse basis, a portion of a loan to another party or parties. These arrangements spread the risk between or among the parties and provide liquidity to the Company while reducing risk. Although no formal agreements or commitments exist, management believes that additional loan participations could readily be sold for liquidity purposes, if necessary. Management regularly reviews the liquidity position of the Company and has implemented internal policies which establish guidelines for sources of asset-based liquidity. Management believes that 35 the continued growth in the deposit base will enable the Company to meet its long-term liquidity needs. Interest-Rate Risk Sensitivity The largest component of the Company's net earnings is derived from the spread between yields on interest-earning assets and the cost of interest-bearing liabilities. In a changing interest-rate environment, this spread can widen or narrow depending on the relative repricing and maturities of interest-earning assets and interest-bearing liabilities. The Company's general policy is to reasonably match the rate sensitivity of its assets and liabilities to prudently manage interest-rate risk. To accomplish this, the Company monitors its interest-rate sensitivity, or risk, and matches more closely the cash flows and effective maturities or repricings of its interest-sensitive assets and liabilities. Interest-rate sensitivity is a function of the repricing characteristics of the Company's portfolio of assets and liabilities. These repricing characteristics are the time frames at which interest-earning assets and interest-bearing liabilities are subject to changes in interest rates either at repricing, replacement, or maturity. Sensitivity is measured as the difference between the volume of assets and liabilities in the Company's current portfolio that are subject to repricing in future time periods. The difference at any given time is called the interest sensitivity "gap" and is usually calculated separately for various segments of time and on a cumulative basis. Any excess of assets or liabilities results in an interest sensitivity gap. A positive gap denotes net asset sensitivity, and a negative gap represents net liability sensitivity. An institution has a negative gap if the amount of interest-bearing liabilities maturing or repricing in a specified time period exceeds the amount of interest-earning assets maturing or repricing in the same period. If more interest-earning assets than interest-bearing liabilities mature or reprice in a specified period, then the institution has a positive gap. Accordingly, in a rising interest-rate environment in an institution with a negative gap, the cost of its rate-sensitive liabilities would theoretically rise faster than the yield on its rate-sensitive assets, thereby diminishing future net interest income. In a falling interest-rate environment, a negative gap would indicate that the cost of rate-sensitive liabilities would decline faster than the yield on rate-sensitive assets and improve net interest income. For an institution with a positive gap, the reverse would be expected. The Company has sought to increase the sensitivity of its assets to changing interest rates by emphasizing shorter term and/or adjustable rate loans. The Company also originates fixed-rate mortgage loans, which are generally sold in the secondary market. The Company manages the maturity and repricing characteristics of its liabilities and has sought to keep the interest sensitivity of its liabilities short by emphasizing shorter term deposits. The following table presents rate-sensitive assets and rate-sensitive liabilities as of December 31, 2000, which mature or reprice in the time periods shown. Except for the effects of prepayments, the table presents principal cash flows from payments, maturity, or repricing. This table does not necessarily indicate the impact of general interest rate movements on the Company's net interest income because the repricing of certain categories of assets and liabilities is subject to competitive and other pressures beyond the Company's control. As a result, certain assets and liabilities indicated as maturing or otherwise repricing within a stated period may, in fact, mature or reprice at different times and at different volumes. 36

As shown by the table, at December 31, 2000, the maturities of the Company's interest-bearing assets extend over 15 years, while its interest-bearing liabilities generally mature in less than one year. Also, the Company's interest-bearing assets significantly exceed its interest-bearing liabilities (a positive gap). Accordingly, a rising interest-rate environment would positively affect the Company's net interest margin, and a falling interest-rate environment would negatively affect the Company's net interest margin. A static gap report consists of an inventory of the dollar amounts of assets and liabilities that could mature or reprice in a particular period. It does not consider the probability that potential maturities or repricings of interest-sensitive accounts will occur, or to what extent. Accordingly, although the table indicates the Company's gap position at a particular time, those measurements are not intended to and do not forecast the effect of changes in market interest rates on the Company's gap position and may differ from actual results after December 31, 2000. 37 Impact of Inflation Unlike most industrial companies, the assets and liabilities of financial institutions such as the Company and the Bank are primarily monetary. Therefore, interest rates have a more significant effect on the Company's performance than do the changes in the general rate of inflation and changes in prices. In addition, interest rates do not necessarily move in the same direction or in the same magnitude as the prices of goods and services. New Accounting Standards In June 1998, the Financial Accounting Standards Board (FASB) issued Statement No. 133, Accounting for Derivative Instruments and Hedging Activities, which addresses the accounting for derivative transactions and hedging activities. Subsequently, FASB issued Statement No. 137 which effectively delayed adoption of No. 133 by one year. The Company will adopt the new standard beginning with its 2001 fiscal year, when adoption is first required. Management has evaluated the reporting requirements under this new standard and believes it will not have a material impact on the Company's financial results. Forward-Looking Statements The Company makes certain forward-looking statements in this Annual Report on Form 10-K that are based upon its current expectations and projections about current events. The Company contends these forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995, and is including this statement for purposes of these safe harbor provisions. You can identify these statements from the Company's use of the words "estimate," "project," "believe," "intend," "anticipate," "expect," and similar expressions. These forward-looking statements include: o statements of the Bank's goals, intentions, and expectations; o statements regarding the Bank's business plans and growth strategies; o statements regarding the asset quality of the Bank's loan and investment portfolios; and o estimates of the Bank's risks and future costs and benefits. These forward-looking statements are subject to significant risks, assumptions, and uncertainties, including, among other things, the following important factors which could affect the actual outcome of future events: o fluctuations in market rates of interest and loan and deposit pricing, which could negatively affect our net interest margin, asset valuations, and expense expectations; o adverse changes in the economy of the Texas Panhandle, which might affect the Company's business prospects and could cause credit-related losses and expenses; o the extent of continuing client demand for the high level of personalized service that is the key element of the Bank's banking approach; 38 o adverse developments in the Bank's loan and investment portfolios; o difficulties in identifying attractive acquisition opportunities and strategic partners that will complement the Bank's banking approach; o competitive factors in the banking industry, such as the trend towards consolidation in the Bank's market; and o changes in banking legislation or the regulatory requirements of federal and state agencies applicable to bank holding companies and banks like the Company. Because of these and other uncertainties, the Company's actual future results may be materially different from the results indicated by these forward-looking statements. In addition, the Company's past results of operations do not necessarily indicate the Company's future results. These uncertainties and others are discussed in the sections of this Annual Report on Form 10-K named "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business." ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Please refer to "ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - Interest-Rate Risk Sensitivity" which is incorporated herein by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. Please refer to the financial statements, the report thereon and the notes thereto commencing at page F-1 of this Form 10-K, which financial statements, report, notes, and data are incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. PART III. ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. (A) DIRECTORS OF THE REGISTRANT Information concerning the directors of the Company is shown in the 2001 definitive Proxy Statement incorporated herein by this reference. (B) EXECUTIVE OFFICERS OF THE REGISTRANT Information concerning the executive officers of the Company is shown in the 2001 definitive Proxy Statement incorporated herein by this reference. 39 (C) COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT Information on compliance with Section 16(a) of the Exchange Act is included in the Company's 2001 definitive Proxy Statement incorporated herein by this reference. ITEM 11. EXECUTIVE COMPENSATION. Information on executive compensation is shown in the Company's 2001 definitive Proxy statement incorporated herein by this reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. Information on security ownership of certain beneficial owners and directors and officers is shown in the Company's 2001 definitive Proxy Statement incorporated herein by this reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. Information concerning relationships and related transactions of the directors and officers of the Company is shown in the Company's 2001 definitive Proxy Statement incorporated herein by reference. PART IV. ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (A) DOCUMENTS FILED AS A PART OF THIS REPORT (1) Exhibit Number Description ------ ----------- 3.1 Restated Articles of Incorporation of Tejas Bancshares, Inc.* 3.2 Amended and Restated Bylaws of Tejas Bancshares, Inc.* 10.1 Tejas Bancshares, Inc., 1998 Incentive Stock Plan ** 21.1 Subsidiaries of Tejas Bancshares, Inc.*** ---------- * Incorporated by reference from the Company's Registration Statement on Form 10 dated April 10, 1998. ** Incorporated by reference from the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1998. *** Incorporated by reference from the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 40 (2) Financial Statements Page Independent Auditor's Report F-3 Audited Financial Statements Consolidated Balance Sheets F-4 Consolidated Statements of Earnings F-6 Consolidated Statements of Stockholders' Equity F-7 Consolidated Statements of Cash Flows F-8 Summary of Significant Accounting Policies F-9 Notes to Consolidated Financial Statements F-13 (B) REPORTS ON FORM 8-K None. 41 TEJAS BANCSHARES, INC. SIGNATURES Pursuant to Section 13 or 15(d) of the Securities Act of 1934, Tejas Bancshares, Inc., has caused this report to be signed on its behalf by the undersigned, hereunto duly authorized on February 22, 2001. TEJAS BANCSHARES, INC. By /s/ Donald E. Powell ------------------------------------- Donald E. Powell Chairman of the Board, President, and Chief Executive Officer Pursuant to the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of Tejas Bancshares, Inc., and in the capacities and on the date indicated. Signature Title Date /s/ Donald E. Powell Principal Executive Officer -------------------------- and Director February 22, 2001 Donald E. Powell /s/ Jack Hall Principal Financial Officer -------------------------- and Principal Accounting February 22, 2001 Jack Hall Officer /s/ William H. Attebury Director February 22, 2001 -------------------------- William H. Attebury /s/ Danny H. Conklin Director February 22, 2001 -------------------------- Danny H. Conklin /s/ Wales H. Madden, Jr. Director February 22, 2001 -------------------------- Wales H. Madden, Jr. /s/Jay O'Brien Director February 22, 2001 -------------------------- Jay O'Brien 42 TEJAS BANCSHARES, INC. AND SUBSIDIARIES Amarillo, Texas CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 F-1 INDEX TO FINANCIAL STATEMENTS PAGE INDEPENDENT AUDITOR'S REPORT........................................... F-3 FINANCIAL STATEMENTS Consolidated Balance Sheets....................................... F-4 Consolidated Statements of Earnings............................... F-6 Consolidated Statements of Stockholders' Equity................... F-7 Consolidated Statements of Cash Flows............................. F-8 Summary of Significant Accounting Policies........................ F-9 Notes to Consolidated Financial Statements........................ F-13 F-2 Independent Auditor's Report The Board of Directors Tejas Bancshares, Inc. Amarillo, Texas We have audited the accompanying consolidated balance sheets of Tejas Bancshares, Inc. and subsidiaries as of December 31, 2000 and 1999, and the related consolidated statements of earnings, stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 2000. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Tejas Bancshares, Inc. and subsidiaries as of December 31, 2000 and 1999 and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2000 in conformity with generally accepted accounting principles. Clifton Gunderson LLP Amarillo, Texas January 29, 2001 F-3 TEJAS BANCSHARES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS December 31, 2000 and 1999

F-4 TEJAS BANCSHARES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (CONTINUED) December 31, 2000 and 1999

These consolidated financial statements should be read only in connection with the accompanying summary of significant accounting policies and notes to consolidated financial statements. F-6 TEJAS BANCSHARES, INC. AND SUBSIDIARIES Consolidated Statements of Stockholders' Equity Years ended December 31, 2000, 1999 and 1998

These consolidated financial statements should be read only in connection with the accompanying summary of significant accounting policies and notes to consolidated financial statements. F-8 TEJAS BANCSHARES, INC. AND SUBSIDIARIES SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES December 31, 2000, 1999 and 1998 Nature of Operations Tejas Bancshares, Inc. (the Company) provides a variety of financial services to individuals and corporate customers in the community of Amarillo, Texas and the surrounding geographical area. The Company's primary deposit products are demand deposits and time and savings accounts. Its primary lending products are consumer, commercial, agriculture and real estate loans. The Company also provides trust services. Principles of Consolidation The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, which include The First National Bank of Amarillo (the Bank). All significant intercompany balances and transactions have been eliminated in consolidation. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Comprehensive Income The Company follows the provisions of Financial Accounting Standard No. 130, Reporting Comprehensive Income. Under this standard, comprehensive income is reported for all periods. Comprehensive income includes both net income and other comprehensive income. Other comprehensive income includes the change in unrealized gains and losses on securities available-for-sale, net of tax. Investment Securities The Company classifies its investment securities in one of three categories; trading, available-for-sale or held-to-maturity. Trading securities are bought and held principally for the purpose of selling them in the near term. The Company had no investment securities classified as trading at December 31, 2000 or 1999. Held-to-maturity securities are those in which the Company has the ability and intent to hold the security until maturity. All other securities not included in trading or held-to-maturity are classified as available-for-sale. Trading and available-for-sale securities are recorded at fair value. Held-to-maturity securities are recorded at amortized cost, adjusted for the amortization or accretion of premiums or discounts. Unrealized gains and losses on trading securities are included in earnings. Unrealized gains and losses, net of the related tax effect, on available-for-sale securities are reported in other comprehensive income. Realized gains (losses) on securities available-for-sale are included in other operating income and, when applicable, are reported as a reclassification adjustment, net of tax, in other comprehensive income. Transfers of securities between categories are recorded at fair value at the date of transfer. Unrealized gains and losses are recognized in earnings for transfers into trading securities. F-9 TEJAS BANCSHARES, INC. AND SUBSIDIARIES SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES December 31, 2000, 1999 and 1998 Investment Securities (Continued) A decline in the market value of any available-for-sale or held-to-maturity security below cost that is deemed other than temporary is charged to earnings resulting in the establishment of new cost basis for the security. Premiums and discounts are amortized or accreted over the life of the related security as an adjustment to yield using the effective interest method. Dividend and interest income are recognized when earned. Realized gains and losses for securities classified as available-for-sale and held-to-maturity are included in earnings and are derived using the specific identification method for determining the cost of securities sold. Loans Held for Sale Loans originated and intended for sale in the secondary market are carried at the lower of cost or estimated fair value in the aggregate. Net unrealized losses, if any, are recognized through a valuation allowance by charges to income. Loans and Allowance for Loan Losses Loans are stated at the amount of unpaid principal, reduced by an allowance for loan losses and unearned income. Unearned income on certain installment loans is taken into income over the term of the loan by the sum-of-the-months digits method. The effect of not using the interest method is not material to the financial position or results of operations of the Company. Interest on other loans is calculated by using the simple interest method on daily balances of the principal amount outstanding. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Impaired loans are measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or the market price or the fair value of the collateral if the loan is collateral dependent. The accrual of interest on impaired loans is discontinued when, in management's opinion, the borrower may be unable to meet payments as they become due. When interest accrual is discontinued, all unpaid accrued interest is reversed. Interest payments received on nonaccrual loans are generally applied to principal. The allowance for loan losses is established through a provision for loan losses charged to expense. Loans are charged against the allowance for loan losses when management believes that the collectibility of the principal is unlikely. The allowance is an amount that management believes will be adequate to absorb possible losses on existing loans that may become uncollectible, based on evaluations of individual credits, prior loan loss experience and general economic conditions. The allowance is subjective in nature and may be adjusted in the near term because of changes in economic conditions or review by regulatory examiners. F-10 TEJAS BANCSHARES, INC. AND SUBSIDIARIES SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES December 31, 2000, 1999 and 1998 Bank Premises and Equipment Bank premises and equipment are stated at cost less accumulated depreciation and amortization, which is computed using the straight-line method over the estimated useful lives of the assets. Advertising Costs The Company expenses advertising costs as incurred. Income Taxes Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Off-Balance-Sheet Financial Instruments In the ordinary course of business, the Company has entered into off-balance-sheet financial instruments consisting primarily of commitments to extend credit. Such financial instruments are recorded in the consolidated financial statements when they become payable. Cash Equivalents For purposes of the consolidated statements of cash flows, the Company considers due from banks and federal funds sold to be cash equivalents. Federal funds sold are generally purchased and sold for one-day periods. Net Earnings Per Share Earnings per share has been computed in accordance with Statement of Financial Accounting Standards No. 128, Earnings Per Share (SFAS 128). Basic earnings per share is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if the Company's stock options were exercised. Such dilutive potential common shares are calculated using the treasury stock method. Transfers of Financial Assets Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. F-11 TEJAS BANCSHARES, INC. AND SUBSIDIARIES SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES December 31, 2000, 1999 and 1998 Stock Compensation Plans Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, encourages all entities to adopt a fair value based method of accounting for employee stock compensation plans, whereby compensation cost is measured at the grant date based on the value of the award and is recognized over the service period, which is usually the vesting period. However, it also allows an entity to continue to measure compensation cost for those plans using the intrinsic value based method of accounting prescribed by Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, whereby compen-sation cost is the excess, if any, of the quoted market price of the stock at the grant date (or other measurement date) over the amount an employee must pay to acquire the stock. Stock options issued under the Company's stock option plan have no intrinsic value at the grant date, and under Opinion No. 25 no compensation cost is recognized for them. The Company has elected to continue with the accounting methodology in Opinion No. 25 and, as a result, has provided pro forma disclosures of net earnings and earnings per share and other disclosures, as if the fair value based method of accounting had been applied. New Accounting Standards In June 1998, the Financial Accounting Standards Board issued Statement No. 133, Accounting for Derivative Instruments and Hedging Activities, which addresses the accounting for derivative transactions and hedging activities. The Company will adopt the new standard beginning with its 2001 fiscal year, the year in which adoption is first required. Management has evaluated the impact of adopting this new standard and believes it will not have a material impact. This information is an integral part of the accompanying consolidated financial statements. F-12 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 1 - INVESTMENT SECURITIES The amortized cost, gross unrealized gains, gross unrealized losses and fair value for available-for-sale securities by major security type at December 31, 2000, were as follows:

Other securities consist of Federal Home Loan Bank and Federal Reserve Bank stock at December 31, 2000. The amortized cost, gross unrealized gains, gross unrealized losses and fair value for available-for-sale securities by major security type at December 31, 1999, were as follows:

Other securities consist of Federal Reserve Bank stock at December 31, 1999. Maturities of investment securities classified as available-for-sale were as follows at December 31, 2000 (maturities of mortgage-backed securities have been presented based upon estimated cash flows, assuming no change in the current interest rate environment). Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

F-13 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 1 - INVESTMENT SECURITIES (CONTINUED) Investment securities with a carrying value of approximately $2,000,000 and $4,700,000 at December 31, 2000 and 1999, respectively, were pledged to secure public deposits as required or permitted by law. NOTE 2 - LOANS The major classification of loans are as follows: 2000 1999 ---- ---- Real estate - primarily commercial mortgage $ 139,203,866 $ 105,900,875 Agriculture 57,310,086 39,454,848 Commercial 106,098,467 94,893,661 Installment loans to individuals 23,692,144 20,432,316 Student loans 3,502,551 1,606,681 Unearned income (12,098) (40,888) ------------- ------------- Total loans $ 329,795,016 $ 262,247,493 ============= ============= The Bank grants consumer, commercial, agriculture and real estate loans to customers in primarily the community of Amarillo, Texas and the surrounding geographical area. Although the Bank has a diversified loan portfolio, a substantial portion of its debtors' ability to honor their commitments is dependent upon the real estate and agricultural sectors. The changes in the allowance for loan losses were as follows:

At December 31, 2000 and 1999 there were no material amounts of impaired loans. NOTE 3 - DEPOSITS The aggregate amount of time deposits in denominations of $100,000 or more was approximately $61,359,000 and $52,534,000 at December 31, 2000 and 1999, respectively. The related interest expense on these deposits was approximately $3,580,000 and $2,253,000 for 2000 and 1999, respectively. Other interest-bearing deposits of $100,000 or more totaled approximately $81,032,000 and $74,487,000 at December 31, 2000 and 1999, respectively. At December 31, 2000, the scheduled maturities of all time deposits were substantially all within one year. F-14 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 4 - OTHER BORROWINGS Other borrowings consist of advances from the Federal Home Loan Bank (FHLB) which are secured by stock in FHLB, deposits with FHLB and certain first mortgage loans. The borrow-ings bear interest at rates ranging from 6.39% to 6.48% and are due within seven days. NOTE 5 - INCOME TAXES The following is a summary of the components of income tax expense: 2000 1999 1998 ---- ---- ---- Current - federal $2,239,694 $ 2,509,909 $ 1,711,286 Deferred 265,595 (403,280) (969,287) ---------- ----------- ----------- Total income tax expense $2,505,289 $ 2,106,629 $ 741,999 ========== =========== =========== The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are as follows: 2000 1999 ---- ---- Deferred tax assets: Allowance for loan losses $ 1,302,205 $1,499,283 Bank premises and equipment basis and depreciation differences 151,027 116,638 Allowance for investment security losses 24,685 27,461 Available-for-sale securities -- 3,311 Other 36,550 72,607 ----------- ---------- 1,514,467 1,719,300 Deferred tax liabilities: Available-for-sale securities (3,274) -- Other (64,072) -- ----------- ---------- Net deferred tax asset $ 1,447,121 $1,719,300 =========== ========== Management believes that it is more likely than not that the Company will realize the recorded deferred tax assets and, accordingly, no valuation allowance has been established. Total income taxes for the years ended December 31, 2000, 1999 and 1998 are allocated $2,505,289, $2,106,629, and $741,999, respectively, to income tax from operations and $6,584, $(16,007) and $(6,017), respectively, as a component of other comprehensive income for the tax effect of unrealized gains (losses) on available-for-sale securities recognized for financial report-ing purposes. F-15 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 5 - INCOME TAXES (CONTINUED) Total income tax expense differed from the amounts computed by applying the U.S. federal income tax rate of 34% in 2000, 1999 and 1998 to earnings before income taxes as a result of the following: 2000 1999 1998 ---- ---- ---- Computed "expected" tax expense $2,475,733 $ 2,107,780 $ 1,375,743 Effect of valuation allowance -- -- (644,015) Other, net 29,556 (1,151) 10,271 ---------- ----------- ----------- Total income tax expense $2,505,289 $ 2,106,629 $ 741,999 ========== =========== =========== NOTE 6 - STOCK OPTIONS AND STOCK COMPENSATION PLAN Stock Options On May 19, 1998, the Company's stockholders approved the Tejas Bancshares, Inc. 1998 Incentive Stock Plan (the Plan). The Plan's objectives are to attract, retain and provide incentive to employees, officers and directors and to increase overall stockholders' value. The number of shares reserved for issuance under the Plan is 1,333,333. The Plan provides for the grant of both incentive stock options and non-qualified stock options as well as the grant of restricted stock, stock appreciation rights, dividend equivalent rights, stock awards and other stock-based awards. The exercise price of the options granted approximated or exceeded the market value of the common stock at the date of grant. The options generally vest ratably over eight years from the date of grant and terminate 10 years from the date of grant. The following table summarizes the activity for the Plan: Weighted-average Shares exercise price ------ -------------- Outstanding at December 31, 1997 -- $ -- Granted 514,600 3.03 Exercised -- -- Expired or canceled (6,600) 3.00 -------- -------- Outstanding at December 31, 1998 508,000 3.03 Granted 186,500 5.90 Exercised (9,283) 3.00 Expired or canceled (76,900) 3.20 -------- -------- Outstanding at December 31, 1999 608,317 3.89 Granted 7,500 6.00 Exercised (1,350) 3.00 Expired or canceled (11,800) 3.76 -------- -------- Outstanding at December 31, 2000 602,667 $ 3.92 ======== ======== F-16 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 6 - STOCK OPTIONS AND STOCK COMPENSATION PLAN (CONTINUED) Stock Options (continued) Weighted-average Shares exercise price ------ -------------- Exercisable at end of year December 31, 2000 104,867 $ 3.51 December 31, 1999 45,225 3.00 December 31, 1998 -- -- Available for grant at end of year December 31, 2000 720,033 December 31, 1999 715,733 December 31, 1998 825,333 The following table summarizes information about options outstanding under the Plan at December 31, 2000:

The Company applies Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, in accounting for the Plan and recognizes no compensation costs in net earnings from the grant of options as options are granted at exercise prices equal to the current stock price. Had compensation cost been determined under the terms of SFAS 123, Accounting for Stock-Based Compensation, the Company's pro forma 2000, 1999 and 1998 net earnings and earnings per share would have been as follows: 2000 1999 1998 ---- ---- ---- Net earnings As reported $4,776,278 $4,092,725 $3,304,303 Pro forma 4,660,478 3,928,725 3,181,303 Earnings per share Basic As reported $ 0.36 $ 0.31 $ 0.25 Pro forma 0.35 0.29 0.24 Diluted As reported $ 0.35 $ 0.30 $ 0.24 Pro forma 0.35 0.29 0.23 F-17 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 6 - STOCK OPTIONS AND STOCK COMPENSATION PLAN (CONTINUED) In accordance with SFAS 123, the fair value of options at date of grant was estimated using the Black-Scholes option pricing model with the following weighted-average assumptions: 2000 1999 1998 ---- ---- ---- Risk-free interest rate 6.03% 5.65% 5.14% Expected life (years) 7.51 8.49 9.14 Expected volatility 32.00% 32.00% 32.00% Expected dividend yield -- -- -- In accordance with SFAS 123, the weighted average fair value of options granted during 2000, 1999 and 1998 was $3.34, $3.28 and $4.28, respectively. Directors' Stock Compensation Plan During October 1998, the Company's board of directors approved a nonemployee directors' compensation plan for the directors of the Bank. The Plan provides that directors will receive shares of common stock as compensation for serving. Restricted shares are issued to the directors and are released after the end of each year of service. Shares related to missed meetings or for termination are forfeited back to the Company. A committee of the board determined the fair value at the date of issue. During 1999 and 1998, a total of 10,800 and 64,000 shares, respectively, were issued under the Plan. No shares were issued under the Plan during 2000. During 2000, 4,100 shares were forfeited back to the Company for missed meetings. Amortization of compensation cost in 2000, 1999 and 1998 amounted to $105,600, $106,800 and $18,600, respectively. NOTE 7 - TRANSACTIONS WITH RELATED PARTIES The Company's directors and their associates, including companies and firms of which they are officers or in which they and/or their families have an ownership interest, are customers of the Company. The following is a summary of loan activity with these parties for the year ended December 31, 2000, 1999 and 1998:

The Company also has deposit activities with related parties in the normal course of business which amounted to $14,046,967, $12,441,002 and $4,249,597 at December 31, 2000, 1999, and 1998, respectively. F-18 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 7 - TRANSACTIONS WITH RELATED PARTIES (CONTINUED) During 1998, the Company entered into a lease agreement with a partnership for certain land to be used for a branch site. Two partners are members of the Company's Board of Directors. Lease expense recognized during 1998 for the agreement was approximately $6,600. During 1999, the land was purchased for $521,000. The two directors sold the land at their cost (unaudited). NOTE 8 - SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash disbursed for interest for the years ended December 31, 2000, 1999 and 1998 was $9,048,817, $5,806,889, and $4,244,631, respectively. Cash disbursed for income taxes was $3,426,000, $2,286,000 and $1,969,000 for the years ended December 31, 2000, 1999 and 1998, respectively. During the year ended December 31, 2000, noncash investing activities included the recognition as a component of comprehensive income the net unrealized gain on available-for-sale securities of $12,782, net of deferred taxes of $6,584. During the year ended December 31, 1999, noncash investing activities included the recognition as a component of comprehensive income the net unrealized loss on available-for-sale securities of $(31,074), net of deferred taxes of $(16,007). During the year ended December 31, 1998, noncash investing activities included the recognition as a component of comprehensive income the net unrealized loss on available-for-sale securities of $(11,681), net of deferred taxes of $(6,017). Other noncash transactions during 1999 and 1998 included the issuance of 10,800 and 64,600 shares, respectively, of common stock under a directors' stock compensation plan. There were no shares of common stock issued under a directors' stock compensation plan during 2000, but 4,100 shares were canceled. NOTE 9 - LEASE COMMITMENTS The Company leases certain land and office space under noncancelable operating leases expiring in various years through 2027. Certain leases contain renewal options from five to ten years based on existing or escalated terms. Future minimum lease payments under these leases are as follows: 2001 $ 228,466 2002 207,564 2003 186,539 2004 128,219 2005 67,500 Later years 438,000 ---------- Total $1,256,288 ========== F-19 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 9 - LEASE COMMITMENTS (CONTINUED) Total rental expense for the years ended December 31, 2000, 1999 and 1998 was approximately $260,000, $242,000 and $161,000, respectively. NOTE 10 - COMMITMENTS AND CONTINGENCIES The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained if deemed necessary upon extension of credit is based on management's credit evaluation. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment, and income-producing commercial properties. The exposure to credit loss in the event of nonperformance by the other party to the commitments to extend credit is represented by the contractual amount. Unfunded loan commitments and letters of credit at December 31, 2000 were approximately $144,000,000 and $6,140,000, respectively. Management does not anticipate any losses as a result of these transactions. NOTE 11 - EARNINGS PER SHARE The following is a reconciliation of the numerators and the denominators of the basic and diluted earnings per share computations for net income:

F-20 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 12 - DISCLOSURE ABOUT THE FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used to estimate the fair value of each class of financial instruments, the results of applying such methods and assumptions to the financial instruments and limitations inherent in fair value estimates: Commitments to Extend Credit Generally, the Bank enters into commitments to extend credit at adjustable interest terms. Accordingly, the commitment amount is a reasonable estimate of fair value. Investment Securities For investment securities, excluding restricted equity securities, fair value is equal to the quoted market price, if available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities or bid quotations received from securities dealers. The carrying value of restricted equity securities approximate fair values. Securities available-for-sale had a carrying value and fair value of approximately $5,071,000 and $6,723,000 at December 31, 2000 and 1999, respectively. Loans Fair values of loans are estimated by discounting the future cash flows through the estimated maturity using the current rates at which similar loans would be made to borrowers with similar credit ratings. Fair value of mortgage loans held for sale are based on commitments on hand from investors or prevailing market prices. The carrying value of loans, net of the allowance for loan losses, was $324,805,431 and $257,722,815 at December 31, 2000 and 1999, respectively. The fair value of loans at those dates was approximately the same as carrying value. Deposits The fair value of demand deposits, both interest and noninterest bearing, and savings accounts is the amount payable on demand at the reporting date. The fair value of time deposits is estimated using the rates currently offered for deposits of similar remaining maturities. At December 31, 2000 and 1999, the carrying value of deposits was $283,847,927 and $251,967,653. The fair value of deposits at those dates was approximately the same as carrying value. Federal Funds Purchased and Other Borrowings The fair values of federal funds purchased and advances from the Federal Home Loan Bank are equal to the carrying values as such liabilities are deemed to be short-term borrowings. Other The carrying amounts of cash and short-term instruments and accrued interest approximate fair value. F-21 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 12 - DISCLOSURE ABOUT THE FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) Limitations Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company's entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates. NOTE 13 - RETIREMENT PLAN Effective January 1, 1999, the Company adopted a 401(k) Plan whereby substantially all employees participate in the Plan. Employees may contribute up to 15 percent of their compensation subject to certain limits based on federal tax laws. The Company makes matching contributions equal to 50 percent of the first 6 percent of an employee's compensation contributed to the Plan. Matching contributions vest to the employee equally over a five-year period. For the years ended December 31, 2000 and 1999, expense attributable to the Plan amounted to $116,000 and $63,000, respectively. NOTE 14 - REGULATORY MATTERS The Company and Bank are subject to various regulatory capital requirements administered by banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and Bank must meet specific capital guidelines that involve quantitative measures of the assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company's and Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Prompt corrective action provisions are not applicable to bank holding companies. Quantitative measures established by regulation to ensure capital adequacy require the Company and Bank to maintain minimum amounts and ratios (set forth in the table below) of Total and Tier I Capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I Capital to average assets (as defined). Management believes, as of December 31, 2000 that the Company and Bank meet all capital adequacy requirements to which they are subject. F-22 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 14 - REGULATORY MATTERS (CONTINUED) As of December 31, 2000, the most recent notification from the Bank's regulator categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier I risk-based and Tier I leverage ratios as set forth in the following table. There are no conditions or events since that notification that management believes have changed the Bank's category. The Company's and Bank's actual capital amounts and ratios are presented in the following table:

There are certain regulatory guidelines on the amount of dividends that can be paid by the Bank to the Company. These guidelines do not currently have a significant effect on the amount of dividends paid by the Bank. The Bank is also required to maintain certain daily reserve balances on hand in accordance with requirements of the Board of Governors of the Federal Reserve System. For the years ended December 31, 2000 and 1999, the Bank maintained average cash and due from bank balances of approximately $3,448,000 and $5,582,000, respectively, in order to satisfy such requirements. F-23 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 15 - PARENT COMPANY FINANCIAL INFORMATION The condensed balance sheets, statements of earnings and cash flows for Tejas Bancshares, Inc. (parent only) follow: Condensed Balance Sheets 2000 1999 ---- ---- Assets Cash on deposit with Bank $ 729,688 $ 680,227 Investment in Bank 49,437,347 44,551,610 Current tax receivable 56,535 86,291 Deferred tax benefit 35,904 42,636 ----------- ----------- TOTAL ASSETS $50,259,474 $45,360,764 =========== =========== STOCKHOLDERS' EQUITY $50,259,474 $45,360,764 =========== =========== Condensed Statements of Earnings 2000 1999 1998 ---- ---- ---- EXPENSES Other $ 96,677 $ 106,948 $ 143,332 EQUITY IN UNDISTRIBUTED INCOME OF BANK 4,872,955 4,199,673 3,447,625 ---------- ---------- ---------- NET EARNINGS $4,776,278 $4,092,725 $3,304,303 ========== ========== ========== F-24 TEJAS BANCSHARES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000, 1999 and 1998 NOTE 15 - PARENT COMPANY FINANCIAL INFORMATION (CONTINUED) Condensed Statements of Cash Flows

This information is an integral part of the accompanying consolidated financial statements. F-25

TEJAS BANCSHARES INC 10-K