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## MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 

7.5% change or 5.0% change, respectively, in net interest income when compared to the base case, without Board approval and a strategy in place to reduce interest rate risk below the established maximum level. These policy guidelines were changed from simulating a 300 basis point (3.00%) rise and a 300 basis point (3.00%) decline from the base case which could not result in more than a 7.5% change in net interest income, either up or down because the probability of interest rates declining by 300 basis points over the next 12 months is not likely. The analysis at December 31, 2002 indicated that a 300 basis point (3.00%) increase in interest rates would increase net interest income 208 basis points (2.08%) above the base case scenario and a 100 basis point (1.00%) decline in interest rates would decrease net interest income by 276 basis points (2.76%) below the base case scenario, over the next twelve months, both within policy limits. 

The Corporation’s “Asset/Liability Management Committee” (“ALCO”) is responsible for the identification, assessment 

and management of interest rate risk exposure, liquidity, capital adequacy and investment portfolio position. The primary objective of the ALCO process is to ensure that the Corporation’s balance sheet structure maintains prudent levels of risk within the context of currently known and forecasted economic conditions and to establish strategies which provide the Corporation with appropriate compensation for the assumption of those risks. The ALCO attempts to mitigate interest rate risk through the use of strategies such as asset sales, asset and liability pricing and matched maturity funding. The ALCO strategies are established by the Corporation’s senior management. The ALCO continues to evaluate the use of derivative instruments to protect against the risk of adverse price or interest rate movements on the values of certain assets and liabilities, although none are being utilized currently. 

Final loan maturities and rate sensitivities of the loan portfolio excluding consumer installment and mortgage loans and before unearned income at December 31, 2002, were as follows (Dollar Amounts in Thousands): 

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## Credit Review 

Maintaining a high quality loan portfolio is of great importance to the Corporation. The Corporation manages the risk characteristics of the loan portfolio through the use of prudent lending policies and procedures and monitors risk through a periodic review process provided by internal auditors, regulatory authorities and our loan review staff. These reviews include the analysis of credit quality, diversification of industry, compliance to policies and procedures, and an analysis of current economic conditions. 

In the management of its credit portfolio, the Corporation emphasizes the importance of the collectibility of loans and leases as well as asset and earnings diversification. The Corporation immediately recognizes as a loss all credits judged to be uncollectible and has established an allowance for credit losses that may exist in the portfolio at a point in time, but have not been specifically identified. 

The Corporation’s written lending policy requires certain underwriting standards to be met prior to funding any loan, including requirements for credit analysis, collateral value coverage, documentation and terms. The principal factor 

used to determine potential borrowers’ creditworthiness is business cash flows or consumer income available to service debt payments. Secondary sources of repayment, including collateral or guarantees, are frequently obtained. 

The lending policy provides limits for individual and bank committees lending authorities. In addition to the bank loan approval process, requests for borrowing relationships which will exceed one million dollars must also be approved by the Corporation’s Credit Committee. This Committee consists of a minimum of three members of the Corporation’s Board of Directors. The Corporation has an additional level of approval for credit relationships between $500 thousand and $1.0 million. This procedure requires approval of those credits by a committee consisting of senior lenders of the Corporation. 

Commercial and industrial loans are generally granted to small and middle market customers for operating, expansion or asset acquisition purposes. Operating cash flows of the business enterprise are identified as the principal source of repayment, with business assets held as collateral. Collateral margins and loan terms are based upon the purpose and 

