UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

                  Annual Report Pursuant to Section 13 or 15(d)
                     of the Securities Exchange Act of 1934

                   For the fiscal year ended December 31, 2003
                        Commission File Number 000-27622

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

                  Virginia                                 54-1796693
        (State or Other Jurisdiction                    (I.R.S. Employer
     of Incorporation or Organization)                Identification No.)

            340 West Main Street
             Abingdon, Virginia                            24210-1128
  (Address of Principal Executive Offices)                 (Zip Code)

                                 (276) 628-9181
               Registrant's telephone number, including area code

           Securities registered pursuant to Section 12(b) of the Act:

                                                      Name of Each Exchange
     Title of Each Class                               on Which Registered
     -------------------                               -------------------

            None                                               n/a

           Securities registered pursuant to Section 12(g) of the Act:
                          Common Stock, $1.25 par value
                                (Title of Class)

         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  periods  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 Regulation 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 ]

         Indicate by check mark whether the  registrant  is an accelerated filer
(as defined in Exchange Act Rule 12b-2). Yes ___ No _X_


         State the aggregate  market value of the voting and  non-voting  common
equity held by  non-affiliates  computed by  reference to the price at which the
common  equity was last sold,  or the average bid and asked price of such common
equity as of the last business day of the registrant's  most recently  completed
second fiscal quarter. $52,141,329

         Indicate the number of shares  outstanding of each of the  registrant's
classes of common stock as of the latest practicable date. As of March 10, 2004,
there were 2,659,187 shares of Common Stock.

                       DOCUMENTS INCORPORATED BY REFERENCE
               Annual Report to Shareholders for the fiscal year
                        ended December 31, 2003--Part II
     Proxy Statement for the 2004 Annual Meeting of Shareholders--Part III
<PAGE>

<TABLE>
<CAPTION>


                                Table of Contents
                                                                                        Page Number
                                                                                        -----------
<S>               <C>                                                                   <C>
Part I

Item 1.           Business                                                                     3
Item 2.           Properties                                                                  28
Item 3.           Legal Proceedings                                                           30
Item 4.           Submission of Matters to a Vote of
                    Security Holders                                                          30

Part II

Item 5.           Market for Registrant's Common Equity
                    and Related Stockholder Matters                                           30
Item 6.           Selected Financial Data                                                     31
Item 7.           Management's Discussion and Analysis of
                    Financial Condition and Results of Operation                              32
Item 7A.          Quantitative and Qualitative Disclosures About
                    Market Risk                                                               32
Item 8.           Financial Statements and Supplementary Data                                 32
Item 9.           Changes in and Disagreements With Accountants With
                    Accountants on Accounting and Financial Disclosure                        33
Item 9A.          Controls and Procedures                                                     33

Part III

Item 10.          Directors and Executive Officers of the Registrant                          33
Item 11.          Executive Compensation                                                      34
Item 12.          Security Ownership of Certain Beneficial Owners and Management
                    and Related Stockholder Matters                                           34
Item 13.          Certain Relationships and Related Transactions                              34
Item 14.          Principal Accounting Fees and Services                                      34

Part IV

Item 15.          Exhibits, Financial Statement Schedules, and Reports on Form 8-K            34

</TABLE>

                                       2
<PAGE>


                           Forward-Looking Information

         This report  contains  forward-looking  statements  with respect to the
financial condition, results of operations and business of Highlands Bankshares,
Inc. (the  "Corporation").  These  forward-looking  statements involve risks and
uncertainties  and are based on the beliefs and assumptions of the management of
the Corporation, and on the information available to management at the time that
these disclosures were prepared. Factors that may cause actual results to differ
materially from those contemplated by such  forward-looking  statements include,
among others, the following possibilities:

             * competitive   pressures  among  depository  and  other  financial
               institutions may increase significantly;

             * changes in the interest rate environment may reduce margins;

             * general economic conditions, either nationally or regionally, may
               be less  favorable  than  expected,  resulting  in,  among  other
               things,  a  deterioration  in credit  quality  and / or a reduced
               demand for credit;

             * legislative   or  regulatory   changes,   including   changes  in
               accounting  standards,  may  adversely  affect the  businesses in
               which the Corporation and its subsidiaries are engaged;

             * competitors  may have  greater  financial  resources  and develop
               products   that  enable   such   competitors   to  compete   more
               successfully than the Corporation and its subsidiaries; and

             * adverse changes may occur in the securities markets.

Part I.

Item I.  Business

                                     General

         Highlands  Bankshares,  Inc. (the  "Corporation")  was  incorporated in
Virginia in 1995 to serve as the holding  company for Highlands Union Bank, (the
"Bank"). The shareholders of the Bank approved the Plan of Reorganization at the
Annual Meeting on December 13, 1995, and the  reorganization  was consummated on
December  29,  1995 with the Bank  becoming  a  wholly-owned  subsidiary  of the
Corporation.  The  Bank  is a state  charted  bank  with  principal  offices  in
Abingdon, Virginia. The Bank was incorporated in 1985.

         At December 31, 2003, the Corporation had total assets of $543,416,000,
deposits of $450,009,000 and net worth of $35,434,000.

         The Corporation's  principal business  activities,  which are conducted
through the Bank, are attracting  checking and savings deposits from the general
public through its retail banking  offices and  originating  and servicing loans
secured  by  first  mortgage  liens  on   single-family   dwellings,   including
condominium  units.  All of the retail banking  offices are located in Virginia,
North  Carolina  and  Tennessee.  The Bank also  lends  funds to retail  banking
customers  by  means  of home  equity  and  installment  loans,  and  originates
construction  loans and  loans  secured  by  commercial  property,  multi-family
dwellings and  manufactured  housing units.  The Bank opened an indirect lending
department in 1997. The majority of indirect lending  originates through new and
used car  dealerships.  The indirect lending  portfolio  comprises a significant
portion of the total consumer loan  portfolio.  The Bank invests in certain U.S.
Government and agency obligations and other investments  permitted by applicable
laws and  regulations.  The  operating

                                       3
<PAGE>


results of the  Corporation  are highly  dependent on net interest  income,  the
difference  between interest income earned on loans and investments and the cost
of checking and savings deposits and borrowed funds.

         The Bank is a  member  of the  Federal  Deposit  Insurance  Corporation
("FDIC"),  and its  deposit  accounts  are insured up to $100,000 as required by
FDIC  guidelines.  The Bank is also a member of the Federal Reserve  System,  as
such, the Bank and the  Corporation are subject to the  supervision,  regulation
and examination of the Federal Reserve.  As a Virginia state chartered bank, the
Bank is also subject to supervision,  regulation and examination by the Virginia
State Corporation Commission, Bureau of Financial Institutions.

         The  Corporation  has two direct  subsidiaries as of December 31, 2003:
the Bank,  which was formed in 1985, and Highlands  Capital Trust I, a statutory
business  trust  (the  "Trust")  which  was  formed in 1998.  The  Corporation's
material assets as of December 31, 2003 include:  cash in bank of  approximately
$1.23  million;   trust  preferred  securities  repurchased  of  $1.20  million;
building,  land,  and  equipment  with a net book value of  approximately  $1.43
million;  approximately $3.40 million in real estate secured loan participations
from the Bank;  approximately  $406 thousand in other assets; and its investment
in subsidiaries,  approximately  $35.44 million. The Corporation's only material
liability  is the note  payable  on the  trust  preferred  debentures  issued in
January of 1998, $7.5 million.

         The Bank has two wholly-owned  subsidiaries,  Highlands Union Insurance
Services, Inc., which was formed in 1999 and Highlands Union Financial Services,
Inc.  which was formed in 2001.  The Bank,  through  Highlands  Union  Insurance
Services, Inc., joined a consortium of approximately forty-seven other financial
institutions to form Bankers'  Insurance,  LLC. Bankers'  Insurance,  LLC, as of
December 31, 2003, had purchased  seven full service  insurance  agencies across
the state of Virginia.  Highlands Union Insurance Services, Inc. will be used to
sell insurance  services through the Bankers'  Insurance,  LLC.  Highlands Union
Financial  Services,  Inc. was formed in order for the Bank to continue to offer
third-party  mutual  funds,  annuities  and  other  financial  services  to  its
customers in all market areas served.

         Also during 2002, the Bank became an equity owner in the Virginia Title
Center,  LLC. This entity is owned by  approximately  16 member banks located in
Southwest  Virginia.  The  organization  is  involved  in the  underwriting  and
issuance of title  insurance on real estate  closings,  primarily as a result of
referrals from the member banks.

         As of December 31, 2003,  the Bank  operates ten  full-service  banking
facilities  throughout  Washington  County,   Virginia,  the  City  of  Bristol,
Virginia,  Marion,  Virginia, Glade Spring,  Virginia,  Rogersville,  Tennessee,
Blountville,  Tennessee  and Boone,  North  Carolina.  The Bank  closed its loan
production  office in  Kingsport,  Tennessee  in 2003 due to the  opening of its
Blountville  branch office. The Company felt that it would be able to adequately
service  those   Kingsport,   Tennessee   customers  from  its  Rogersville  and
Blountville,  Tennessee  branch offices.  The  Corporation  also operates thirty
off-site  ATM's  throughout  the service  areas  listed above as well as Russell
County,  Virginia, Wythe County,  Virginia,  Bristol,  Tennessee and Banner Elk,
North Carolina.

         The results of operations for the fiscal years ended December 31, 2003,
2002,  and 2001 ("fiscal year 2003",  "fiscal year 2002" and "fiscal year 2001",
respectively)  reflect the  Corporation's  strategies of expanding its community
banking operations. See "Management's Discussion and Analysis" of operations and
financial condition, included as part of the Annual Report to Shareholders,  for
a detailed discussion of certain aspects of the Corporation's business.

                                       4
<PAGE>

         During the second  quarter of 2002,  the Bank  purchased  approximately
$7.38 million in bank owned life  insurance.  The policies were issued to insure
the lives of a selected  number of officers and directors of the Bank.  The Bank
is the named  beneficiary,  and the premiums were allocated  among four separate
highly  rated  carriers.  The earnings  related to the policies  will be used to
offset future employee benefit costs.  The life insurance  purchased by the Bank
will remain a corporate asset even after the employer / employee relationship is
terminated. The Bank has also entered into a separate agreement with each of the
insureds to provide their named  beneficiary(s)  a separate death benefit.  This
amount  is  approximately  20% of the  proceeds  received  by the Bank  from the
various  carriers and requires that the named insureds are actively  employed or
still serving as a director upon death.  This death benefit amount will be fully
taxable to the recipient(s) and tax deductible to the Bank.

                               Lending Activities

Residential Mortgage Lending

         The  Bank's  lending  policy  is  generally  to  lend  up to 80% of the
appraised  value  of  residential  property.  The  Bank  lends  up to 95% of the
appraised value with the normal  requirement of insurance from private  mortgage
insurance  companies.  This insurance  normally  covers amounts in excess of 80%
loan to value up to 95%.

         The in-house  residential  mortgages  are  comprised of primarily  one,
three and five year  adjustable  rate mortgages and 15 year fixed rate mortgages
as well as three and five year balloon mortgages.  Adjustable rate mortgages are
indexed to 275 basis  points over the average  yield on United  States  Treasury
securities  adjusted  to a constant  maturity of one,  three or five  years.  An
adjustment  limitation (increase or decrease) of 2% per annum applies to the one
year adjustable  product. A 4% lifetime cap over the initial rate of the loan is
included in the one, three and five year adjustable rate mortgages.

         The Bank's existing loan contracts  generally  provide for repayment of
residential  mortgage loans over periods  ranging from 15 to 30 years.  However,
such loans normally have remained  outstanding  for much shorter periods of time
as borrowers refinance or prepay their loans through the sale of their homes.

         Most of the  Bank's  residential  mortgage  loans  have  "due on  sale"
clauses  which allows the creditor the right to declare a loan  immediately  due
and payable in the event the borrower  sells or  otherwise  disposes of the real
property. Most of the Bank's residential mortgage loans are not assumable.

         Aggregate  debt to any one  borrower  exceeding  $850,000 but less than
$2,000,000  must be approved by the loan  committee  of the Board of  Directors.
Loan requests in excess of the customer's  aggregate debt of $2,000,000  must be
approved by the Board of Directors.

         All of the Bank's  mortgage  lending  is  subject  to loan  origination
procedures  established by the Board of Directors.  Most originations  require a
property  valuation by state  licensed  appraisers,  for a fee,  approved by the
Board of Directors.  Loan  applications are obtained to determine the borrowers'
ability  to repay.  Significant  items are  verified  through  the use of credit
reports, financial statements, etc.

                                       5
<PAGE>

         It is generally the Bank's  policy to require title  insurance on first
mortgage loans in excess of $50,000 (lower where deemed  necessary).  It is also
the Bank's  general  policy to require an  attorney's  opinion  statement on all
first mortgage deeds of trust. Fire and casualty insurance  (extended  coverage)
is  required  on all  property  serving  as  security  for these  loans.  Hazard
insurance and flood insurance (where required) is provided by the customer prior
to  closing of the loan.  The  borrower  is  responsible  for  paying  insurance
premiums and real estate taxes.

         Federal  regulations  allow the Bank to originate  loans on real estate
within its designated  market area, and within limits, to originate and purchase
loans or loan  participations  secured by real estate located in any part of the
United  States.  During  fiscal year 2003 the Bank's  primary  lending  area was
Washington  County,  Virginia,  the City of  Bristol,  Virginia,  Smyth  County,
Virginia,  Hawkins County,  Tennessee,  Sullivan  County,  Tennessee and Watauga
County, North Carolina.

         Residential  loan  originations  come from many sources.  Some of these
sources include existing customers,  walk-in  applications,  referrals from real
estate brokers and others.

         Federal  regulation limits loans to one borrower to a maximum of 15% of
unimpaired capital and unimpaired surplus of the Bank.

         The Bank receives fees in addition to interest in connection  with real
estate loan originations,  loan modifications,  late payments,  etc. Income from
these  activities  varies from period to period depending on the volume and type
of loan made.  Although not a  significant  portion of the Bank's  income,  late
charges are received when monthly payments are delinquent but are later paid.

         The Bank also offers  secondary  market fixed rate mortgages with terms
up to 30 years  and up to 95% loan to  value.  The Bank  also  offers a  special
secondary  market lending  program to first time home buyers that will fund 100%
loan to value.  These loans and servicing  rights are generally sold immediately
into the secondary market and fees received are booked into income.  These loans
must meet certain criteria generally set by the secondary market.

         Residential  mortgages,  including  equity  lines  of  credit,  made up
approximately 41.32% of the loan portfolio as of December 31, 2003.

Construction and Commercial Real Estate Lending

         The Bank generally makes  construction loans for periods up to one year
on residential and commercial real estate property  including vacant land. These
loans  are for  interim  financing  and are  either  paid  off or  converted  to
permanent   financing  when  completed.   At  December  31,  2003,   outstanding
construction,  commercial  real estate and vacant land loans (net of undisbursed
funds)  totaled  $12,482,000.  These loans are generally  made at 80% or less of
appraised  value at  completion.  Funds are advanced as the project is completed
after an inspection by a staff inspector or the appraiser as deemed appropriate.
These loans are made based on established corporate underwriting standards. Most
of these construction loans are one to four family dwellings. The Bank generally
charges  a 1%  origination  fee on  these  construction  loans  in  addition  to
applicable interest.

         Loans on commercial properties,  multi-family dwellings,  and apartment
buildings are typically made at 75% to 80% of the appraised  value.  These loans
totaled $99,911,000 or 26.45% of total loans held for investment at December 31,
2003.

                                       6
<PAGE>

         Commercial and construction loans, by nature, entail additional risk as
compared to residential  mortgage  lending.  They are generally more complex and
involve  larger  balances  than  typical  residential  mortgages.  Payments  are
typically  dependent upon successful  operation of a related real estate project
or business as compared to individual  earnings on most  residential  mortgages.
Therefore,  the market  risk is  somewhat  greater.  Construction  delays,  cost
overruns or the inability of the contractor to sell the finished  product add an
element of risk to such lending.

Consumer lending

         The  Bank  offers  other  types of loans  in  addition  to real  estate
mortgage and construction loans. Consumer loans of many types are offered by the
Bank. Some of these loans are loans to purchase automobiles, boats, recreational
vehicles  and  manufactured  housing,  as well as other  secured  and  unsecured
consumer loans,  including credit cards. The Bank further makes loans secured by
savings accounts at 5% above the rate of the savings  instrument.  The Bank also
makes loans secured by  certificates  of deposit  issued  internally.  The terms
generally do not exceed ten years for manufactured  housing loans and five years
on other consumer  loans.  Outstanding  consumer loans at December 31, 2003 were
$56,971,000.

         The Bank maintains a significant  portfolio of dealer paper  originated
through its indirect lending department.  As of December 31, 2003 this portfolio
had a balance of $23,734,000 included in the $57 million above.

Commercial and agriculture non-real estate loans

         The Bank also makes commercial (including  agriculture) non-real estate
loans.  These loans in general have higher risks  associated with them than real
estate loans.  They are  generally  secured by  inventory,  equipment,  accounts
receivable,  etc.,  or unsecured in some cases backed by  appropriate  financial
condition as per the underwriting  standards of the Bank.  Agriculture loans are
generally  secured  by  machinery,  equipment,  other  miscellaneous  assets  or
unsecured in keeping with the underwriting standards of the Bank. The timely pay
back is dependent  upon the  successful  operation of the business or farm.  The
outstanding  balance of non-real  estate  commercial  loans was  $39,180,000  at
December 31, 2003, and the outstanding  balance of non-real  estate  agriculture
loans was $4,918,000 at December 31, 2003.

                                   Investments

Investment Securities

         The Bank invests in mortgage-backed securities, agency notes and bonds,
collateralized  mortgage  obligations  (CMO's),  municipal bonds,  agency equity
securities,  asset-backed  securities,  equity  securities  and trust  preferred
securities.

         A  substantial  portion  of  the  mortgage-backed   security  portfolio
consists of securities  that are either insured or guaranteed by FHLMC,  FNMA or
GNMA.  Guaranteed  securities are more liquid than individual mortgage loans. At
December  31,  2003,  the  Bank's  mortgage-backed  securities  portfolio  had a
carrying value of  $53,474,000 or 9.84% of total assets  compared to $57,730,000
or  11.89%  of  total  assets  at  December  31,   2002.   Amortized   costs  of
mortgage-backed securities were $53,583,000 at December 31, 2003 and $57,052,000
for the  comparable  2002  period.  Due to  repayments  and  prepayments  of the
underlying  loans,  the actual  maturities  of  mortgage-backed  securities  are
expected to be substantially less than the scheduled maturities.

                                       7
<PAGE>

         The Bank held  investments  in CMO's for the years ended  December  31,
2003 and 2002.  At December 31, 2003 and 2002,  the Bank had  carrying  value of
CMO's of $45,000 and $2,305,000,  respectively.  These carrying values represent
0..08% and 0.47% of total assets for the respective year-ends. Amortized cost of
CMO's were $44,000 and $2,292,000 as of December 31, 2003 and 2002.

         The Bank invests in municipal securities that are bank-qualified. As of
December 31, 2003 and 2002, the  Corporation  had carrying values of $48,631,000
and $30,719,000,  respectively.  These investments  represent 8.95% and 6.33% of
total assets as of December 31, 2003 and 2002.

         The Bank also invests in agency equity  securities.  As of December 31,
2003 and  2002 the Bank had  carrying  values  of  $10,343,000  and  $8,278,000,
respectively.

         The Bank holds the following equity  investments:  Federal Reserve Bank
Stock of $295,000  for each of the periods  ending  December  31, 2003 and 2002,
respectively;  Federal Home Loan Bank Stock of $2,550,000 and $1,832,000 for the
same dates as above;  and  Community  Bankers' Bank Stock of $54,750 and $54,750
for the same dates as above.

         The Bank also holds  investments  in corporate  bonds of $4,965,000 and
$2,201,000  as of December 31, 2003 and 2002,  respectively.  These  investments
represented approximately 0.91% and 0.47% of total assets at those dates.

         The Bank  holds  investments  in SLMA  and SBA  issued  securities.  At
December 31, 2003 and 2002,  the Bank had  $1,344,000 and $1,413,000 in carrying
value in these investments, respectively.

         At  December  31,  2003,  the  Bank  had  investments  in  U.S.  Agency
securities with a carrying value of $3,262,000 and amortized cost of $3,247,000.

Investment Activities

         Under  Federal  Reserve  regulations,  the Bank is required to maintain
certain  liquidity  ratios and does so by investing in certain  obligations  and
other  securities that qualify as liquid assets.  See  "Regulation".  As a state
chartered bank, the Bank's investment  authority is limited by federal and state
law which permits  investment in, among other things,  certain  certificates  of
deposit issued by commercial banks,  banker's  acceptances,  loans to commercial
banks for Federal  Funds,  United States  government  and agency  obligations of
state governments, and corporate bonds.

         The Bank's internal investment committee,  made up of the CEO, Cashier,
CFO and V.P. of Accounting,  meets routinely to determine  portfolio  strategies
following  Federal Reserve  guidelines with respect to portfolio  investment and
accounting.  The Committee  performs  pre-purchase and pre-sale  analysis on all
individual  securities  and  presents  this  information  to the  full  board of
directors   monthly.   Such  Federal  Reserve   guidelines  state  that  insured
institutions  must  account  for  securities  held for  investment,  sale and/or
trading in accordance with generally accepted  accounting  principles.  The Bank
maintains  a  written  investment  policy  to  set  forth  investment  portfolio
composition and investment strategy. The investment portfolio composition policy
considers, among other factors, the financial condition of the institution,  the
types of securities,  amounts of investments in those  securities and safety and
soundness considerations

                                       8
<PAGE>


pertaining to the institution.  The investment strategy  considers,  among other
factors, interest rate risk, anticipated maturity of each type of investment and
the intent of the institution with respect to each investment.

                                Sources of Funds

General

         Deposit  accounts have  traditionally  been the principal source of the
Bank's  funds for use in lending and for other  general  business  purposes.  In
addition to deposits,  the Bank derives funds from loan  repayments,  repayments
from securities,  correspondent bank credit lines, Federal Home Loan Bank System
("FHLB")  advances,   the  national  certificate  of  deposit  market  and  loan
participation  sales.  Borrowings and the national certificate of deposit market
may be used on a short-term basis to compensate for seasonal or other reductions
in deposits or inflows at less than projected  levels, as well as on a long-term
basis to support expanded lending activities.

Deposit Activities

         The Bank, in its continuing effort to remain a competitive force in its
markets,  offers a wide  variety of deposit  services,  with varied  maturities,
minimum-balance  requirements  and  market-sensitive  interest  rates  that  are
attractive  to all types of  depositors.  The Bank's  deposit  products  include
checking  accounts,  statement savings accounts,  money market deposit accounts,
negotiable orders of withdrawal  accounts,  individual  retirement  accounts and
certificates  of deposit  accounts.  The Bank is able to offer a broad  array of
products that are consistent with current Federal Reserve regulations,  and as a
major result,  the Bank's deposit portfolio is, for the most part,  sensitive to
general market fluctuations.

         The following table sets forth the deposit  liabilities of the Bank for
the year ended December 31, 2003.
<TABLE>
<CAPTION>

                                   2003 Weighted                      Minimum          Amount
                                      Average                         Balance            in           % of
     Type of Account                    Rate           Term           Deposit         Thousands       Total
     ---------------                    ----           ----           -------         ---------       -----

<S>                                    <C>           <C>             <C>              <C>             <C>
     Checking Account                  0.00%           none          $ 100.00         $59,057         13.12%
     Interest Checking                 1.11            none            100.00          27,098         6.02
     Statement Savings                 1.55            none             25.00          80,764        17.95
     Money Market
       Deposit Accounts                1.64            none            500.00          36,950         8.21
     Christmas Club Accts.             2.25            none              5.00             116         0.03
     Individual Retirement
       Accounts                        4.62           various          500.00          49,271        10.95
     Certificates of Deposit
       Accounts                        3.11           various          500.00         196,753        43.72
                                                                                      -------        -----

     Totals                                                                          $450,009        100.00%
                                                                                     --------        -------
</TABLE>

         The variety of deposit accounts offered by the Bank and the competitive
rates paid on these deposit accounts have increased the Bank's ability to retain
deposits  and has  allowed it to be more  competitive  in  obtaining  new funds,
reducing  the threat of  disintermediation  (the flow of funds away from deposit
institutions  into direct  investment  vehicles such as government and corporate
securities). The Bank recognized several years ago that it would be necessary to
diversify  into new market  areas in order to continue the growth in its deposit
base.  The new markets in Western North  Carolina and Northeast  Tennessee  have
aided the Bank in  fulfilling  this growth.  As customers  have become more rate
conscious and willing to move funds to higher yielding accounts,  the ability of
the Bank to attract  and  maintain  deposits  and the Bank's  cost of funds have


                                       9
<PAGE>

been,  and  will  continue  to  be,  significantly   affected  by  money  market
conditions.

         The  following  table sets  forth  information  relating  to the Bank's
deposit flows during the years indicated.

                                                    Years Ended December 31,
       (In Thousands)                              2003       2002       2001
       --------------                              ----       ----       ----

       Increase (decrease) in deposits before
         interest credited back to accounts      $ 29,588   $  5,452   $ 28,516
       Interest credited back to accounts          10,120     12,756     17,262
                                                 --------   --------   --------

       Net increase in deposits                    39,708     18,208     45,778
                                                 --------   --------   --------

       Total deposits at year end                $450,009   $410,301   $392,093
                                                 --------   --------   --------

Borrowings

         The Bank may obtain  advances  from the FHLB upon the  security  of the
capital  stock it owns in the  bank and  certain  of its  home  mortgage  loans,
provided  certain  standards  related to  creditworthiness  have been met.  Such
advances may be made pursuant to several different credit programs.  Each credit
program  has its own  interest  rate  and  range  of  maturities,  and the  FHLB
prescribes  the acceptable  uses to which the advances  pursuant to each program
may be used, as well as limitations  on the size of such advances.  Depending on
the program,  such  limitations  are based either on a fixed  percentage  of the
Bank's net worth or on the FHLB's assessment of the Bank's creditworthiness. The
FHLB is required to review its credit  limitations  and  standards at least once
every six months.  FHLB advances  have from time to time been  available to meet
seasonal and other withdrawals of savings accounts and to expand lending.

         The Bank also has established  credit  arrangements with several of its
correspondent   banks.  At  December  31,  2003,  the  Bank  had   approximately
$91,567,000 of unused lines of credit, including FHLB unused lines of credit, to
fund any necessary cash requirements.

         The  following  table sets forth certain  information  as to the Bank's
advances and other borrowings at the dates indicated. See Notes 9, 10, and 11 to
the Consolidated Financial Statements,  included as part of the Annual Report to
Shareholders,  for  information as to rates,  maturities,  average  balances and
maximum amounts outstanding.

                                                  Years Ended December 31,
       (In Thousands)                            2003       2002       2001
       --------------                            ----       ----       ----

       Advances from FHLB                      $  49,000  $  33,072  $  23,214
       Guaranteed preferred beneficial
         interests in corporation's junior
         subordinated debt securities              6,300      7,500      7,500


       Other borrowings                              429        222        269
                                               ---------  ---------  ---------

            Total Borrowings                   $  55,729  $  40,794  $  30,983



         In January 1998, the Corporation  issued $7,500,000 of  trust-preferred
securities  through its subsidiary  Highlands Capital Trust I. The proceeds from
this issue are  included  in the

                                       10
<PAGE>

Corporations'  Tier 1 and Tier 2 capital up to  specified  levels  according  to
federal regulations. The subordinated notes were issued with a final maturity of
30 years and a ten-year call option at the  discretion of the  Corporation.  The
issuance of these  trust-preferred  securities  has enabled the  Corporation  to
continue  expansion while maintaining a  well-capitalized  position according to
regulatory standards.

         Highlands  Bankshares,  Inc.  repurchased  48,000  shares of  Highlands
Capital Trust I on April 18, 2003, on the open market,  at $26.15 per share. The
price paid per share  corresponds  to the January  2008 call price.  The premium
paid of $55 will be expensed when the  securities  are called or at the maturity
date of the capital securities.


                                   Competition

         The Bank  encounters  competition  for both  deposits  and  loans.  For
deposits,  competition  comes  from other  commercial  banks,  savings  and loan
associations  and/or savings banks, mutual money market funds, credit unions and
various other corporate and financial institutions.  Competition also comes from
interest  paying  obligations  issued by various levels of government and from a
variety of securities paying dividends or interest.  Competition for loans comes
primarily from other  commercial  banks,  savings and loan  associations  and/or
savings  banks,  insurance  companies,  mortgage  companies  and  other  lending
institutions.

        The Bank's primary  market areas include:  Washington  County, Virginia;
Smyth County, Virginia; City of Bristol, Virginia; Hawkins County, Tennessee and
Watauga County,  North Carolina.  As of June 30, 2003 the Bank had the following
deposit  market  share in its primary  market areas based on the FDIC Summary of
Deposits:  Washington  County,  Virginia  market share of 34.64%;  Smyth County,
Virginia  market  share of 8.19%;  City of  Bristol,  Virginia  market  share of
23.23%;  Hawkins County,  Tennessee  market share of 2.77%,  and Watauga County,
North Carolina market share of 1.46%.

                                    Employees

         The  Corporation  and its  subsudiaries,  at December 31, 2003, had 230
full time  employees.  None of these  employees are  represented by a collective
agent, and the Corporation believes its employee relations are excellent.

                            Bank Owned Life Insurance

         During 2002, the Bank  purchased  insurance on the lives of certain key
directors and officers.  As  beneficiary,  the Bank receives the cash  surrender
value if the policy is terminated,  and upon death of the insured,  receives all
benefits  payable.  The current  value of the  policies at December  31, 2003 is
$7,929,000.

                                  Subsidiaries

         The  Corporation  was  incorporated in Virginia in 1995 to serve as the
holding  company  for the  Bank.  The Bank is a state  chartered  bank  with its
principal offices in Abingdon, Virginia. The Bank was incorporated in 1985 under
the laws of the  Commonwealth of Virginia.  The  Corporation  formed a statutory
business  trust,  Highlands  Capital  Trust I, in  January  1998 to issue  trust
preferred securities in order to raise additional capital.

         The Bank formed a wholly-owned  subsidiary,  Highlands  Union Insurance
Services,  Inc., in 1999 for the purpose of selling  insurance  services through
Bankers'  Insurance,  LLC. The Bank, through Highlands Union Insurance Services,
Inc.  joined  a  consortium  of   approximately   forty-seven   other  financial
institutions  to form Bankers'  Insurance,  LLC.  Bankers'  Insurance LLC, as of
December 31, 2003, had purchased  seven full service  insurance  agencies across
the state of Virginia.

                                       11
<PAGE>

         The  Bank  also  formed  a  wholly-owned  subsidiary,  Highlands  Union
Financial  Services,  Inc.,  in 2001  for the  purpose  of  selling  non-banking
financial products through Independent  Community Bankers' Association Financial
Services.


                          Federal Home Loan Bank System

         The Bank is a member of the FHLB,  which  consists of 12 regional  FHLB
banks. The FHLB is regulated by the Federal Housing Finance Board ("FHFB").  The
FHFB is composed of five  members,  including the Secretary of Housing and Urban
Development and four private citizens appointed by the President with the advice
and consent of the Senate for terms of seven years.  At least one director  must
be chosen from  organizations  with more than a two-year history of representing
consumer or community  interests on banking services,  credit needs,  housing or
financial consumer protections.

         The Bank,  as a member of the FHLB of Atlanta,  is required to purchase
and  maintain  stock in its bank in an amount as if 30 percent  of the  member's
assets were home mortgage loans.

         The FHFB is required to adopt  regulations  establishing  standards  of
community  investment  or service  for  members of the FHLB as a  condition  for
continued  access to  advances.  The  regulations  are to take into  account the
record of performance of the institution under the Community Reinvestment Act of
1977 and its record of lending to first time homebuyers.

         In  addition,  new  collateral  requirements  for  advances  are  to be
established which will be designed to insure credit quality and marketability of
the collateral.


                                   Regulation
General

         The Corporation and its  subsidiaries  are subject to the  supervision,
regulation and  examination of the Federal  Reserve Board,  the Federal  Deposit
Insurance  Corporation and the state  regulators of the Commonwealth of Virginia
which has  jurisdiction  over financial  institutions.  The  Corporation and its
subsidiaries have obtained regulatory approval for its various activities to the
extent required.

Federal and State Laws and Regulations

         Bank  holding  companies  and banks  are  extensively  regulated  under
federal and state law. To the extent that the  following  information  describes
statutory  and  regulatory  provisions,  it is  qualified  in  its  entirety  by
reference to such  statutes and  regulations.  Any change in  applicable  law or
regulation may have a material effect on the business of the Corporation and its
subsidiaries.

Bank Holding Company Regulation

         The  Corporation  is registered  as a "bank  holding  company" with the
Board of Governors of the Federal  Reserve System  ("Federal  Reserve"),  and is
subject to supervision by the Federal Reserve under the Bank Holding Corporation
Act of 1956 ("BHC Act").  The  Corporation  is required to file with the Federal
Reserve periodic reports and such additional  information as the


                                       12
<PAGE>

Federal  Reserve  may  require  pursuant  to the BHC Act.  The  Federal  Reserve
examines the Corporation and the Bank.

         The BHC Act requires  prior Federal  Reserve  approval for, among other
things,  the  acquisition  by a bank  holding  company  of  direct  or  indirect
ownership or control of more than 5% of the voting shares or  substantially  all
of the assets of any bank,  or for a merger or  consolidation  of a bank holding
company with another bank holding company. With certain exceptions,  the BHC Act
prohibits a bank holding company from acquiring direct or indirect  ownership or
control of the voting  shares of any company which is not a bank or bank holding
company and from  engaging  directly or  indirectly  in any activity  other than
banking  or  managing  or  controlling  banks or  performing  services  for it's
authorized  subsidiaries.  A bank  holding  company may,  however,  engage in or
acquire an interest in a company  that engages in  activities  which the Federal
Reserve  has  determined  by  regulation  or order to be so  closely  related to
banking or managing or controlling banks as to be a proper incident thereto.

Bank Regulation

         The Bank,  as a state  chartered  member  of the  Federal  Reserve,  is
subject  to  regulation  and  examination  by  the  Virginia  State  Corporation
Commission and the Federal  Reserve Board.  In addition,  the Bank is subject to
the rules and regulations of the Federal Deposit  Insurance  Corporation,  which
currently  insures the deposits of each member bank to a maximum of $100,000 per
depositor.

         The commercial  banking  business is affected by the monetary  policies
adopted by the Federal  Reserve  Board.  Changes in the discount  rate on member
bank borrowings, availability of borrowing at the "discount window", open market
operations, the imposition of any changes in reserve requirements against member
banks' deposits and certain  borrowings by banks and their  affiliates,  and the
limitation of interest rates which member banks may pay on deposits, are some of
the instruments of monetary policy available to the Federal Reserve Board. Taken
together,  these controls give the Federal Reserve Board a significant influence
over the growth and profitability of all banks. Management of the Bank is unable
to predict how the Federal  Reserve  Board's  monetary  policies  (or the fiscal
policies  or economic  controls  imposed by Federal or state  governments)  will
affect the business and earnings of the Bank or the  Corporation,  or what those
policies or controls will be.

         The references in this section to various  aspects of  supervision  and
regulation are brief summaries which do not purport to be complete and which are
qualified  in  their  entirety  by  reference  to  applicable  laws,  rules  and
regulations.

Federal Deposit Insurance Corporation Improvement Act of 1991

         The  difficulties  encountered  nationwide  by  financial  institutions
during 1990 and 1991 prompted federal legislation designed to reform the banking
industry  and to  promote  the  viability  of the  industry  and of the  deposit
insurance system. The Federal Deposit Insurance  Corporation  Improvement Act of
1991  ("FDICIA"),  which became  effective  on December  19, 1991,  bolsters the
deposit insurance fund,  tightens bank and thrift regulation and trims the scope
of federal deposit insurance as summarized below.

         FDICIA requires each federal banking regulatory agency to prescribe, by
regulation,  standards for all insured  depository  institutions  and depository
institution  holding companies  relating to (i) internal  controls,  information
systems and audit systems;  (ii) loan documentation;

                                       13
<PAGE>

(iii) credit underwriting;  (iv) interest rate exposure;  (v) asset growth; (vi)
compensation, fees and benefits; and (vii) such other operational and managerial
standards as the agency determines to be appropriate. The compensation standards
would prohibit employment contracts, compensation or benefit arrangements, stock
option plans, fee arrangements or other  compensatory  arrangements that provide
excessive  compensation,  fees or benefits  or could lead to material  financial
loss. In addition,  each federal  banking  regulatory  agency must  prescribe by
regulation  standards  specifying  (i) a maximum ratio of  classified  assets to
capital;  (ii) minimum  earnings  sufficient to absorb losses without  impairing
capital;  (iii) to the extent feasible,  a minimum ratio of market value to book
value for publicly  traded  shares of  depository  institutions  and  depository
institution  holding companies;  and (iv) such other standards relating to asset
quality,  earnings and valuation as the agency determines to be appropriate.  If
an  insured  institution  fails  to meet  any of the  standards  promulgated  by
regulation,  then  such  institution  will be  required  to submit a plan to its
federal  regulatory  agency  specifying  the steps it will take to  correct  the
deficiency.

         Prompt  corrective  action measures  adopted in FDICIA and which became
effective  on  December  19,1992,   impose   significant  new  restrictions  and
requirements on depository  institutions that fail to meet their minimum capital
requirements. Under Section 38 of the Federal Deposit Insurance Act ("FDI Act"),
the federal banking regulatory  agencies have developed a classification  system
pursuant  to which  all  depository  institutions  are  placed  into one of five
categories based on their capital levels and other  supervisory  criteria:  well
capitalized,    adequately    capitalized;    undercapitalized;    significantly
undercapitalized; and critically undercapitalized.

         The Bank met the  requirements at December 31, 2003 to be classified as
"well capitalized." This classification is determined solely for the purposes of
applying the prompt  corrective  action  regulations  and may not  constitute an
accurate representation of the Corporation's overall financial condition.

         An  undercapitalized  depository  institution  is  required to submit a
capital restoration plan to its principal federal regulator. The federal banking
agencies may not accept a capital plan without determining,  among other things,
that the plan is based on  realistic  assumptions  and is likely to  succeed  in
restoring the depository  institution's  capital and is guaranteed by the parent
holding company. If a depository institution fails to submit an acceptable plan,
it will be treated as if it were significantly undercapitalized.

         Unless its principal  federal  regulator has accepted its capital plan,
an  undercapitalized  bank may not  increase  its  average  total  assets in any
calendar quarter.  If an  undercapitalized  institution's  capital plan has been
accepted, asset growth will be permissible only if the growth is consistent with
the plan and the  institution's  ratio of  tangible  equity to assets  increases
during the quarter at a rate  sufficient  to enable the  institutions  to become
adequately capitalized within a reasonable time.

         An institution that is undercapitalized  depository institution may not
solicit  deposits by offering  rates of interest that are  significantly  higher
than the prevailing rates on insured deposits in the institution's normal market
areas or in the market area in which the deposits would otherwise be accepted.

         An undercapitalized  depository  institution may not branch, acquire an
interest  in another  business  or  institution  or enter a new line of business
unless its capital plan has been  accepted and its principal  federal  regulator
approves the proposed action.

                                       14
<PAGE>

         An insured  depository  institution  may not pay management fees to any
person having control of the institution  nor may an  institution,  except under
certain  circumstances  and with prior  regulatory  approval,  make any  capital
distribution  if,  after making such payment or  distribution,  the  institution
would be undercapitalized.

         Significantly  undercapitalized  depository institutions may be subject
to  a  number  of  requirements  and  restrictions,  including  orders  to  sell
sufficient voting stock to become adequately capitalized, requirements to reduce
total assets and  cessation  of receipt of deposits  from  correspondent  banks.
Critically  undercapitalized  institutions  are  subject  to  appointment  of  a
receiver or conservator.

         If its  principal  federal  regulator  determines  that  an  adequately
capitalized  institution is in an unsafe or unsound  condition or is engaging in
an unsafe or  unsound  practice,  it may  require  the  institution  to submit a
corrective action plan,  restrict its asset growth and prohibit  branching,  new
acquisitions  and new lines of  business.  An  institution's  principal  federal
regulator  may deem it to be  engaging  in unsafe  or  unsound  practices  if it
receives a less than satisfactory rating for asset quality, management, earnings
or liquidity in its most recent examination.

         In addition, regulators were required to draft a new set of non-capital
measures  of bank  safety,  such  as loan  underwriting  standards  and  minimum
earnings  levels,  effective  December 1, 1993.  The  legislation  also requires
regulators to perform  annual  on-site bank  examinations,  place limits on real
estate lending by banks and tightens auditing requirements.

         Section 36 of FDICIA significantly affects financial  institutions with
more then $500 million in total assets. Highlands Union Bank will come under the
following provisions beginning in January of 2004.

         Key FDICIA requirements include the following:

               *  Audit  committees  must be  comprised of  independent  outside
                  directors--regardless of bank size.

               *  Institutions  must have an adequate system of internal control
                  according to some generally accepted framework.

               *  Section I  agreed-upon-procedures  testing of compliance  with
                  laws and  regulations  must be  performed  by either  internal
                  audit or the entity's independent public accountants.

               *  Section II  agreed-upon-procedure  testing of compliance  with
                  laws  and  regulations  must  be  performed  by  the  entity's
                  independent  public  accountant if management  elected to have
                  internal auditors perform Section I agreed-upon procedures.

               *  Management  must perform its own  investigation  and review of
                  the  effectiveness  of internal  controls and compliance  with
                  laws.

               *  A management  report must be submitted and signed by the chief
                  executive  officer and chief  accountant  (or chief  financial
                  officer),  which states  management's  responsibility  for the
                  internal control system, an assessment of the


                                       15
<PAGE>

                  effectiveness  of  the  system  at  fiscal  year-end,  and  an
                  assessment of compliance with laws and regulations during  the
                  fiscal year.

               *  An  independent  public  accountant's  report that  attests to
                  management's assertions concerning the bank's internal control
                  and procedure for financial reporting is required.

                           Federal and State Taxation

General

         The following  discussion  of federal  taxation is a summary of certain
pertinent  federal income tax matters as they pertain to the  Corporation.  With
some  exceptions,  including  particularly  the reserve for bad debts  discussed
below,  the  Corporation  is subject to  federal  income tax under the  Internal
Revenue  Code  of  1986  (the  "Code")  in the  same  general  manner  as  other
corporations.

Bad Debt Reserves

         Commercial  banks  such as the Bank,  which meet  certain  definitional
tests primarily relating to their assets and the nature of their businesses, are
permitted to  establish a reserve for bad debts and to make annual  additions to
the reserve.  These additions,  may within specified formula limits, be deducted
in  arriving  at the Bank's  taxable  income.  For  purposes  of  computing  the
deductible  addition to its bad debt reserve,  the Bank utilizes the  experience
method.

         Under the  experience  method,  the deductible  annual  addition is the
amount  necessary  to  increase  the  balance of the reserve at the close of the
taxable  year to the  greater  of (1) the amount  which  bears the same ratio to
loans  outstanding  at the close of the taxable  year as the total net bad debts
sustained  during the current and five preceding  taxable years bears to the sum
of the loans outstanding at the close of those six years or (2) the lower of (a)
the balance in the reserve  account at the close of the last  taxable year prior
to the most recent adoption of the experience  method (the base year is the last
taxable year beginning  before 1988), or (b) if the amount of loans  outstanding
at the close of the taxable year is less than the amount of loans outstanding at
the close of the base  year,  the  amount  which  bears the same  ratio to loans
outstanding  at the close of the  taxable  year as the balance of the reserve at
the close of the base year bears to the amount of loans outstanding at the close
of the base year.

         The Bank has become subject to the direct  charge-off method of writing
off bad debts since it has reached  $500 million in total  assets.  The Bank has
elected to remove  equal  amounts  of its tax  reserve  over a four year  period
beginning with year end 2003.

Other

         For federal income tax purposes, the Corporation reports its income and
expenses  on the  accrual  basis  method of  accounting  and uses a year  ending
December 31 for filing its income tax returns.  The  Corporation  may carry back
net  operating  losses to the  preceding  two  taxable  years and forward to the
succeeding twenty taxable years.

         The  Commonwealth  of  Virginia  imposes an income tax on  corporations
domiciled  in the state.  The  Virginia  taxable  income is based on the federal
taxable  income with certain  adjustments  for  interest and dividend  income on
obligations  of securities of the United States and

                                       16
<PAGE>

states  other  than  Virginia.  The tax  rate  is 6% of  taxable  income  of the
Corporation,  exclusive of the Bank and its subsidiaries.  The State of Virginia
assesses a Bank Franchise Tax for Banks located in the Commonwealth. The rate is
1% of capital subject to certain  deductions and additions.  The majority of the
tax is paid back to the  Virginia  localities  in which the Bank  operates.  The
State of North Carolina  imposes a state income tax while  Tennessee  assesses a
combined Franchise / Excise Tax.

         See Note 7 to the Consolidated  Financial Statements,  included as part
of the Annual Report to Shareholders,  for additional  information regarding the
income taxes of the Company.


                                       17
<PAGE>


Distribution of Assets, Liabilities and Shareholders' Equity; Interest Rates and
Interest Differential
<TABLE>
<CAPTION>

                                                      Year Ended December 31,
                                    2003                        2002                        2001
                                                       (Dollars in Thousands)
                                  Interest                     Interest                   Interest
                         Average  Income/   Yield/   Average   Income/   Yield/  Average  Income/  Yield/
                         Balance  Expense    Rate    Balance   Expense    Rate   Balance  Expense   Rate
                         -------  -------    ----    -------   -------    ----   -------  -------   ----

<S>                      <C>      <C>       <C>      <C>       <C>       <C>     <C>      <C>       <C>
ASSETS
Interest earning assets
  (taxable-equivalent basis)

Loans (net of unearned
  discount (2)           $359,187 $ 24,893  6.93%    $335,823  $ 26,095  7.77%   $309,753 $ 27,574  8.90%
Securities (1)(3)         115,313    4,495  4.87       99,768     4,758  5.52      87,254    5,107  6.40
Federal funds sold          7,757       75  0.97        5,544        91  1.64       9,133      317  3.47
                         --------  -------  ----     --------   -------  ----    -------- --------  ----
Total interest-earning
  assets                 $482,257  $29,463  6.34%    $441,134   $30,944  7.18%   $406,140 $ 32,998  8.24%
                         --------  -------  ----     --------   -------  ----    -------- --------  ----

LIABILITIES
Interest bearing
  liabilities

Interest bearing dep.    $380,229 $ 10,335  2.72%    $343,900  $ 11,768  3.42%   $322,847 $ 16,740  5.19%
Other interest bearing
  liabilities             41,119     2,542  6.18       38,783     2,498  6.44      31,117    2,146  6.90
                         --------  -------  ----     --------   -------  ----    -------- --------  ----
Total interest-bearing
  liabilities            $421,348  $12,877  3.06%    $382,683   $14,266  3.73%   $353,964 $ 18,886  5.34%
                         --------  -------  ----     --------   -------  ----    -------- --------  ----
Net interest income.               $16,586                      $16,678                   $ 14,112
Net margin on interest
  earning assets on a
  tax equivalent basis                      3.67%                        3.95%                      3.59%


Average interest spread                     3.29%                        3.45%                      2.90%
</TABLE>

(1)  Tax equivalent  adjustments (using 34% federal tax rates) have been made in
     calculating yields on tax-free investments.  Virginia banks are exempt from
     state income tax.
(2)  For the purposes of these computations,  non-accruing loans are included in
     the daily average loan amounts outstanding.
(3)  The yield on securities  classified as available for sale is computed based
     on the average balance of the historical amortized cost balance without the
     effects of the fair value adjustment required by FAS 115.

                                       18
<PAGE>


         As the largest component of income,  net interest income represents the
amount  that  interest  and fees  earned on loans  and  investments  exceed  the
interest  costs of funds used to support  these  earning  assets.  Net  interest
income is determined by the relative levels, rates and mix of earning assets and
interest-bearing  liabilities.  The following  table  attributes  changes in net
interest  income  either to changes in average  volume or to changes in interest
rates.  Dollar  changes  have been  allocated  to  volume  and rate  changes  in
proportion to the  relationship  of the absolute dollar amounts of the change in
each.

Increase/(Decrease) Due to Volume and Rate
<TABLE>
<CAPTION>

                                          2003 Compared to 2002                     2002 Compared to 2001

                                  Increase     Increase                      Increase        Increase
                             (decrease) due  (decrease) due               (decrease) due  (decrease) due
                                to change in   to change in  Net increase  to change in    to change in    Net increase
Increase (Decrease) in             volume        rate         (decrease)      volume           rate          (decrease)
----------------------             ------        ----         ----------      ------           ----          ----------

                                                               (Dollars in Thousands)

<S>                            <C>             <C>              <C>            <C>           <C>              <C>
INTEREST INCOME
Securities                     $   483         $  (756)         $  (263)       $   800       $(1,149)         $  (349)
Federal funds sold                  21             (37)             (16)          (125)         (101)            (226)

Loans                            1,619          (2,821)          (1,202)         2,000        (3,479)           1,479)
                               -------         -------          -------        -------       -------          -------



Total Income Change            $ 2,123         $(3,604)         $(1,481)       $ 2,675       $(4,729)         $(2,054)
                               -------         -------          -------        -------       -------          -------

INTEREST EXPENSE
Savings and time deposits      $   988         $(2,420)         $(1,433)       $ 1,091       $(6,063)         $(4,972)

Other interest-bearing
  liabilities                      144            (101)              43            528          (177)             351
                               -------         -------          -------        -------       -------          -------

Total Expense Change           $ 1,132         $(2,521)         $(1,390)       $ 1,619       $(6,240)         $(4,621)
                               -------         -------          -------        -------       -------          -------


Increase (Decrease) in
  Net Interest Income          $   991         $(1,083)         $   (92)       $ 1,056       $ 1,511          $ 2,567
                               -------         -------          -------        -------       -------          -------
</TABLE>

Investment Portfolio

The Corporation  categorizes  investments into three groups and further provides
for the accounting  and reporting  treatment of each group.  Investments  may be
classified as held-to-maturity,  available-for-sale  or trading. The Corporation
does not purchase or hold any  investment  securities for the purpose of trading
such investments.  At December 31, 2003 the entire  investment  portfolio of the
Corporation was classified as available-for-sale. The following table sets forth
the book values and carrying  values of the investment  portfolio as of December
31:

<TABLE>
<CAPTION>
                                                   2003                   2002                  2001
                                              Book      Carrying    Book     Carrying     Book     Carrying
                                              Value      Value      Value      Value      Value      Value
                                           ---------------------   -------------------   -------------------
<S>                                          <C>        <C>        <C>        <C>        <C>        <C>
     Available-for-sale securities:

U.S Government agencies and corporations     $  3,247   $  3,262   $      -   $      -   $    501   $    502

State and political subdivisions               48,275     48,631     29,824     30,719     24,378     24,305

Mortgage-backed securities                     53,583     53,474     57,052     57,730     62,309     62,767

Other Securities                               17,231     16,697     14,335     14,294     10,775     10,725
                                           ----------- ---------- ---------- ---------- ---------- ----------

                                             $122,336   $122,064   $101,211   $102,743   $ 97,963   $ 98,299
                                           =========== ========== ========== ========== ========== ==========
</TABLE>
                                       19
<PAGE>
         The following table presents the maturity  distribution,  market value,
amortized  cost and  approximate  tax equivalent  yield  (assuming a 34% federal
income tax rate) of the investment portfolio at December 31, 2003.

<TABLE>
<CAPTION>
                                                                      (Dollars in Thousands)
                                                     One Year   Five Years
                                         Within One  Through     Through    After Ten             Market   Amortized
                                            Year    Five Years  Ten Years     Years     Yield     Value       Cost
                                         ---------- ----------  ---------   ---------   -----     ------   ---------
<S>                                       <C>        <C>        <C>        <C>           <C>    <C>        <C>
 Mtg.-backed Sec - fixed rate             $     55   $     78   $  5,546   $  2,709      4.51%  $  8,388   $  8,307
 Mtg.-backed   Sec  -  variable rate           -          -          -       45,086      3.13     45,086     45,277
 State & Muni's -  tax exempt                  -          -        1,002     46,618      6.76     47,620     47,289
 State & Muni's -  taxable                   1,010        -          -          -        7.37      1,010        986
 U.S. Agencies - fixed rate                    -          756      1,002      1,002      4.03      2,760      2,750
 U.S. Agencies - variable rate                 -          -          -          503      7.64        503        497
 Agency Preferred - fixed rate                 -          -          -        1,385      4.98      1,385      1,505
 Agency  Preferred  -  variable rate           870        -          -        8,088      3.27      8,958      9,403
 Corporate bonds - fixed rate                  -          -          -        1,067      8.92      1,067      1,000
 Corporate   bonds  -  variable rate           -          -          -        3,898      3.25      3,898      3,932
 Asset-backed - variable rate                  -          -          988        -        2.10        988        988
 SBA bonds - variable rate                     -          -          -          356      1.48        356        358
 CMO's - variable rate                         -          -          -           45      3.36         45         44
                                          --------   --------   --------   --------   -------   --------   --------
 TOTAL                                    $  1,935   $    834   $  8,538   $110,757      4.65   $122,064   $122,336
                                          ========   ========   ========   ========   =======   ========   ========
</TABLE>

Loan Portfolio

         The table below classifies gross loans by major category and percentage
distribution at December 31, 2003 for each of the past five years:

<TABLE>
<CAPTION>

                                                               December 31,
                                                          (Dollars in thousands)

                                    2003              2002                 2001                   2000                 1999
                             Amount  Percentage  Amount  Percentage   Amount   Percentage    Amount  Percentage  Amount   Percentage
                             ------  ----------  ------  ----------   ------   ----------    ------  ----------  ------   ----------
<S>                        <C>          <C>     <C>         <C>      <C>       <C>        <C>        <C>         <C>       <C>
Real Estate Secured:
  Residential 1-4 family   $141,693     37.49%  $ 128,462   37.82%   $114,556    35.18%     $102,631    35.14%   $ 94,356    36.04%
  Multi-family                2,651      0.70       3,383    1.00       3,011     0.92         3,909     1.34       3,072     1.17
  Commercial, Construction
      and Land Development  113,146     29.93      85,468   25.16      80,673    24.77        61,666    21.11      53,893    20.58
  Second Mortgages            6,976      1.85      11,676    3.43       7,737     2.38         5,342     1.83       4,199     1.60
  Equity Line of Credit       7,430      1.96       5,253    1.54       4,166     1.28         3,455     1.18       3,536     1.35
  Farmland                    4,483      1.28       5,589    1.65       5,055     1.56         4,928     1.69       4,403     1.68
                          ---------    ------   ---------  ------    --------   ------      --------   ------    --------   ------
                          $ 276,739     73.21%  $ 239,831   70.60%   $215,208     66.09%    $181,931    62.29%   $163,459
                                                                                                                             62.42%

Secured, Other:
  Personal                 $ 48,637     12.87%   $ 49,483   14.57%    $60,532    18.59%      $63,137    21.62%    $60,492    23.10%
  Commercial                 27,247      7.21      26,043    7.67      26,002     7.98        26,463     9.05      18,226     6.97
  Agricultural                4,506      1.19       4,209    1.23       3,274     1.01         2,498     0.86       2,408     0.92
                          ---------    ------   ---------  ------    --------   ------      --------   ------    --------   ------
                           $ 80,390     21.27%   $ 79,735   23.47%    $89,808    27.58%      $92,098    31.53%    $81,126    30.99%

Unsecured:                 $ 20,868      5.52%   $ 20,135    5.93%    $20,614     6.33%      $18,059     6.18%    $17,258     6.59%
                          ---------    ------   ---------  ------    --------   ------      --------   ------    --------   ------

Loans, gross              $ 377,997    100.00%  $ 339,701  100.00%   $325,630   100.00%     $292,088   100.00%   $261,843   100.00%
                          ---------    ------   ---------  ------    --------   ------      --------   ------    --------   ------
</TABLE>


                                       20
<PAGE>


The  following  table shows the  maturity  of loans  outstanding,  inclusive  of
contractual amortization as of December 31, 2003.
<TABLE>
<CAPTION>

                                                               December 31, 2003
                                                             (Dollars in Thousands)

                                            Within One            After One But            After Five
                                               Year             Within Five Years            Years
                                               ----             -----------------            -----

                                        Fixed      Floating     Fixed      Floating     Fixed    Floating
                                         Rate        Rate        Rate        Rate       Rate       Rate       Total
                                         ----        ----        ----        ----       ----       ----       -----
<S>                                    <C>         <C>         <C>        <C>          <C>        <C>       <C>
Real Estate Secured:
  Residential 1-4 family               $ 6,533     $ 4,279     $22,692    $ 10,667     $23,161    $74,361   $ 141,693
  Multi-family                             160           0       1,867           0         624          0       2,651
  Commercial, Construction &
    Land Development                    14,074      16,481      58,147       3,677      13,730      7,037     113,146
  Second Mortgages                       1,345         600       2,433         110       1,750        738       6,976
  Equity Line of Credit                      0         588           0       2,667           0      4,175       7,430
  Farmland                                 740         649       2,837          74         514         29       4,843

Secured, Other:
  Personal                              14,953         139      31,609           0       2,694          0      49,395
  Commercial                             7,169       6,464      11,148       1,298         408          0      26,487
  Agricultural                             661       2,674       1,056          74          43          0       4,508

Unsecured                                7,370      10,190       2,278         942          88          0      20,868
                                      --------    --------    --------    --------    --------   --------    --------

Loans, Gross                          $ 53,005    $ 42,064    $134,067    $ 19,509    $ 43,012   $ 86,340    $377,997
                                      --------    --------    --------    --------    --------   --------    --------
</TABLE>


Non-performing loans

         The loan portfolio of the Bank is reviewed regularly by senior officers
to evaluate loan  performance.  The frequency of the review is based on a rating
of credit  worthiness  of the  borrower  utilizing  various  factors such as net
worth, credit history,  customer  relationship,  etc. The evaluations  emphasize
different factors depending upon the type of loan involved.  Commercial and real
estate loans are reviewed on the basis of estimated net realizable value through
an  evaluation  of  collateral  and  the  financial  strength  of the  borrower.
Installment loans are evaluated largely on the basis of delinquency data because
of the large number of such loans and relatively  small size of each  individual
loan.

         Management's  review  of  commercial  and other  loans may  result in a
determination  that a loan should be placed on a non-accrual of interest  basis.
It is the policy of the Bank to discontinue  the accrual of interest on any loan
on which  full  collectability  of  principal  and / or  interest  is  doubtful.
Subsequent  collection  of interest is recognized as income on a cash basis upon
receipt.  Placing  a loan on  non-accrual  status  for  the  purpose  of  income
recognition  is not in  itself  a  reliable  indication  of  potential  loss  of
principal.  Other factors, such as the value of the collateral securing the loan
and the financial condition of the borrower,  serve as more reliable indications
of potential loss of principal.

         The policy of the Bank is that  non-performing  loans  consist of loans
accounted for on a non-accrual basis and loans which are contractually  past due
90 days or more in regards to interest  and/ or  principal  payments.  As of the
five periods ended December 31, 2003, 2002,  2001, 2000 and 1999  non-performing
loans amounted to $4,521,000 $2,606,000,  $2,063,000, $1,502,000 and $1,641,000,
respectively.  As of the five periods ended December 31, 2003,  2002, 2001, 2000
and 1999  non-accrual  loans  amounted to  $3,723,000,  $1,728,000,  $1,159,000,
$586,000 and $559,000,  respectively.  As of the five periods ended December 31,
2003,  2002,  2001,  2000 and 1999 loans  past-due 90 days and more  amounted to
$802,000,  $891,000, $950,000, $916,000 and $1,082,000,  respectively.  Interest
income lost

                                       21
<PAGE>

on non-accruing loans was approximately $234,731,  $104,000,  $73,000,  $121,000
and $136,000 for the years ended December 31, 2003,  2002,  2001, 2000 and 1999,
respectively.  Interest  income  realized on loans past-due 90 days and more and
still accruing was approximately $15,000,  $18,000, $15,000, $17,000 and $10,000
for the years ended December 31, 2003, 2002, 2001, 2000 and 1999, respectively.

Summary of Loan Loss Experience

         The  allowance  for loan losses is increased by the  provision for loan
losses and reduced by loans  charged off net of  recoveries.  The  allowance for
loan losses is established  and maintained at a level judged by management to be
adequate to cover any  anticipated  loan losses to be incurred in the collection
of outstanding  loans.  In  determining  the adequate level of the allowance for
loan  losses,   management  considers  the  following  factors:  (a)  loan  loss
experience;  (b) problem  loans,  including  loans  judged to exhibit  potential
charge-off characteristics,  loans on which interest is no longer being accrued,
loans which are past due and loans which have been classified in the most recent
regulatory  examination;   and  (c)  anticipated  economic  conditions  and  the
potential  impact these  conditions  may have on individual  classifications  of
borrowers.

         The following table presents the Corporation's loan loss experience for
the past five years:
<TABLE>
<CAPTION>

                                                                        Years Ended December 31,
                                                                         (Dollars in Thousands)

                                                           2003         2002          2001         2000         1999
                                                           ----         ----          ----         ----         ----

<S>                                                        <C>          <C>           <C>         <C>           <C>
Allowance for loan losses at
  beginning of year                                        $  3,877     $  3,418      $  2,950    $   2,494     $  2,008

Loans charged off:
    Commercial                                                  299          389           107           69          357
    Real Estate - mortgage                                      270           94            10            0           27
    Consumer                                                  1,211        1,043         1,087          925          710
    Other                                                         0            0             0            0            0
                                                           --------     --------      --------    ---------     --------

    Total                                                  $  1,780     $  1,526      $  1,204    $     994     $  1,094
                                                           --------     --------      --------    ---------     --------

Recoveries of loans previously charged off:
    Commercial                                             $      8     $      5      $      3    $       6     $     97
    Real Estate - mortgage                                        0            0             0            0            0
    Consumer                                                    116          155           221          167           65
    Other                                                         0            0             0            0            0
                                                           --------     --------      --------    ---------     --------

    Total                                                  $    124     $    160      $    224    $     173     $    162
                                                           --------     --------      --------    ---------     --------

Net loans charged off                                      $  1,656     $  1,366      $    980    $     821     $    932
                                                           --------     --------      --------    ---------     --------

Provision for loan losses                                     2,053        1,825         1,448        1,277        1,418
                                                           --------     --------      --------    ---------     --------

Allowance for loan losses end of year                      $  4,274     $  3,877      $  3,418    $   2,950     $  2,494
                                                           --------     --------      --------    ---------     --------

Average total loans (net of unearned income)               $359,187     $335,823      $309,753    $ 277,115     $246,687

Total loans (net of unearned income) at year-end           $377,808     $339,521      $325,460    $ 291,897     $261,678

Ratio of net charge-offs to average loans                    0.461%       0.407%        0.316%       0.296%       0.378%

Ratio of provision for loan losses to average loan           0.572%       0.543%        0.467%       0.461%       0.575%

Ratio of provision for loan losses to net charge-off       123.973%     133.602%      147.755%     155.542%     152.146%

Allowance for loan losses to year-end loans                  1.131%       1.142%        1.050%       1.011%       0.953%
</TABLE>

                                       22
<PAGE>

Allocation of the allowance for loan losses

         The  following  table  provides an allocation of the allowance for loan
losses as of December 31, 2003, 2002, 2001, 2000 and 1999.
<TABLE>
<CAPTION>


                                                                            Year Ended December 31,
                                                                       Percent of Loans on each Category

                                                                             (Dollars in Thousands)

                                   2003                                            2002

               Allowance for  Percentage of    Percentage of     Allowance for  Percentage of    Percentage of
                 Loan Loss   Total Loan Loss    Total Loans        Loan Loss   Total Loan Loss    Total Loans
                 ---------   ---------------    -----------        ---------   ---------------    -----------


<S>                <C>             <C>             <C>             <C>              <C>              <C>
Commercial         $  830          19.42%          10.37%          $   972          25.06%           10.87%
Real Estate           224           5.24           73.25               228           5.89            70.60
Consumer            3,220          75.34           15.08             2,672          68.93            17.05
Other                   0           0.00            1.30                 5           0.12             1.48
                  -------         ------          ------           -------         ------           ------

Total             $ 4,274         100.00%         100.00%          $ 3,877         100.00%          100.00%
                  -------         ------          ------           -------         ------           ------

</TABLE>

<TABLE>
<CAPTION>
                                    2001

                Allowance for  Percentage of    Percentage of
                  Loan Loss   Total Loan Loss    Total Loans
                  ---------   ---------------    -----------

<S>                <C>              <C>              <C>
Commercial         $   857          25.06%           7.98%
Real Estate            201           5.89           66.09
Consumer             2,356          68.93           24.92
Other                    4           0.12            1.01
                   -------         ------          ------

Total              $ 3,418         100.00%         100.00%
                   -------         ------          ------

</TABLE>
<TABLE>
<CAPTION>

                                       2000                                               1999

                    Allowance for  Percentage of    Percentage of      Allowance for  Percentage of    Percentage of
                      Loan Loss   Total Loan Loss    Total Loans         Loan Loss   Total Loan Loss    Total Loans
                      ---------   ---------------    -----------         ---------   ---------------    -----------

<S>                    <C>             <C>               <C>              <C>             <C>               <C>
Commercial             $  739          25.06%            12.52%           $  625          25.06%            10.34%
Real Estate               174           5.89             62.29               147           5.89             62.42
Consumer                2,033          68.93             24.09             1,719          68.93             26.01
Other                       4           0.12              1.10                 3           0.12              1.23
                       ------         ------            ------            ------          -----             -----

Total                 $ 2,950        100.00%           100.00%                 0              0                 0
                       ------         ------            ------            ------          -----             -----
</TABLE>

                                       23
<PAGE>

Deposits

         The following table provides a breakdown of deposits at December 31 for
the years indicated:

<TABLE>
<CAPTION>

                                                                     December 31,
                                                                (Dollars in Thousands)

                                                        2003            2002             2001
                                                        ----            ----             ----
<S>                                                   <C>              <C>             <C>
              Non-interest bearing demand deposits    $ 59,057         $ 55,597        $ 50,248
              Interest bearing demand deposits          64,048           49,519          37,464
              Savings deposits                          80,764           70,258          60,166
              Time deposits                            246,140          234,927         244,215
                                                      --------         --------        --------

              Total Deposits                          $450,009         $410,301        $392,093
                                                      ========         ========        ========
</TABLE>

           The average  daily amount of deposits and rates paid on such deposits
is summarized for the periods indicated in the following table:

<TABLE>
<CAPTION>

                                                   Year Ended December 31,
                                                    (Dollars in Thousands)

                                   2003                     2002                     2001
                                   ----                     ----                     ----

                           Amount         Rate      Amount         Rate       Amount         Rate
                           ------         ----      ------         ----       ------         ----

<S>                       <C>              <C>      <C>              <C>      <C>            <C>
Non-interest bearing
  demand deposits         $ 59,110         0.00%    $54,979          0.00%    $47,271        0.00%
Interest-bearing demand
  deposits                  58,764         1.40      43,537          1.76      29,003        2.80
Savings deposits            77,470         1.55      65,790          2.07      52,655        3.38
Time deposits              243,995         3.41     234,573          4.11     241,190        5.85
                          --------                ---------                 ---------

Total                     $439,339                $ 398,879                 $ 370,119
                          --------                ---------                 ---------
</TABLE>

         The  remaining  maturities  of time  deposits  greater than $100,000 at
December 31, 2003 are as follows (in thousands) :

         Maturity

         3 months or less....................................$  12,599
         3 months through 6 months...........................   13,204
         Over 3 through 12 months............................   16,092
         Over 12 months......................................   27,909
                                                                ------

              Total                                          $  69,804
                                                                ------

Interest Rate Sensitivity Analysis

         Interest rate risk refers to the exposure of the Corporation's earnings
and market value of equity ("MVE") to changes in interest  rates.  The amount of
change in net interest income and MVE resulting from shifts in interest rates is
determined by contractual maturity of fixed rate instruments, the repricing date
for variable rate instruments, competition and customer reactions.


                                       24
<PAGE>

         The Corporation runs simulation  models through a range of positive and
negative  interest  rate  movements  to  determine  the effect  these  shifts in
interest rates would have on the market value of the Corporation's  equity.  The
market  value is  determined  by  applying a discount  rate to the  Corporations
interest-earning assets and interest-bearing  liabilities,  that are not carried
at market  value,  based on current rate levels at the time the model is run and
calculating the present value of future cash flows.

         There are several  common  sources of  interest  rate risk that must be
effectively managed to maintain minimal impact on the Corporation's earnings and
capital.  Repricing risk comes largely from timing differences in the pricing of
interest-earning  assets and  interest-bearing  liabilities.  Reinvestment  risk
refers to the  reinvestment  of cash flows from interest and principal  payments
and maturing  assets at lower or higher rates.  Basis risk arises when different
yield curves or pricing  indices do not change at  precisely  the same moment in
time or magnitude so that earning assets and  interest-bearing  liabilities with
the same maturity are not affected  equally.  Yield curve risk refers to unequal
movements in short-term and long-term interest rates.

         The following  table provides the maturities of investment  securities,
loans,  and  deposits as of December 31,  2003,  and measures the interest  rate
sensitivity  gap for each range of maturity  indicated:  The amounts  below also
reflect various prepayment assumptions.


<TABLE>
<CAPTION>
                                                                    December 31, 2003
                                                                  (Dollars in Thousands)
                                                                         Maturing


                                          Within One        After One But         After Five
                                             Year         Within Five Years         Years               Total
                                             ----         -----------------         -----               -----
<S>                                        <C>                  <C>                <C>                 <C>
     ASSETS
     Interest-bearing
         Investment Securities             $ 50,761             $ 7,044            $ 67,159            $124,964
         Fed Funds Sold                         389                   0                   0                 389
         Loans                              195,074             160,682              22,052             377,808
         Other interest-bearing assets            0                   0               7,929               7,929
     Noninterest-bearing
         Other Assets                             0                   0              32,326              32,326
                                           --------            --------            --------            --------

     Total Assets                          $246,224            $167,726            $129,466            $543,416
                                           --------            --------            --------            --------


     LIABILITIES AND SHARE-
       HOLDERS' EQUITY
     Interest-bearing
     (1) All Interest-bearing Deposits     $290,154            $ 94,611            $  6,187            $390,952
           Other Interest-bearing Liab.      16,035              39,459                 235              55,729
     Noninterest-bearing
           Demand Deposit Non-Interest            0                   0              59,057              59,057
           Other Liabilities                  2,244                   0                   0               2,244
           Shareholders' Equity                   0                   0              35,434              35,434
                                           --------            --------            --------            --------

     Total Liabilities and
     Shareholders'                         $308,433            $134,070           $ 100,913            $543,416
                                           --------            --------            --------            --------
           Equity

     Interest Rate Sensitivity GAP        $(62,209)            $ 33,656            $ 28,552              $    0
</TABLE>

         (1) For purposes of this schedule, the Corporation includes 100% of its
statement savings, NOW and MMDA's in the one year column.

                                       25
<PAGE>

Asset Liability Management

         The Corporation's primary objectives for asset and liability management
are to establish  internal  controls and procedures that will result in managing
interest rate risk, liquidity management, capital planning, asset mix and volume
control,  and loan and deposit pricing. The Asset and Liability Committee (ALCO)
is headed by the CEO and includes management  personnel from the different areas
of the Bank. The Committee meets on a monthly basis.

          Interest  rate  risk  refers  to the  exposure  of  the  Corporation's
earnings to changes in  interest  rates.  There are several  sources of interest
rate risk that must be  effectively  managed if there is to be minimal impact on
the Corporation's earnings and capital.

         Repricing  risk arises  from timing  differences  in the  repricing  of
assets  and  liabilities.  Reinvestment  risk  refers  to the  ability,  or lack
thereof, to reinvest cash flows of maturing assets at lower or higher rates.

         In determining  the  appropriate  level of interest rate risk, the ALCO
reviews the changes in projected net interest  income subject to various changes
in interest  rates.  To help  effectively  measure  interest rate risk, the ALCO
utilizes rate sensitivity and simulation analysis to determine the impact on net
interest  income  as  well as the  changes  in the  Economic  Value  of  Equity.
Simulation  analysis  is used to subject or "shock" the  current  repricing  and
maturing amounts to rising and falling interest rates. Rate change increments of
1% and 2% up and down  are used in the  monthly  simulation  analysis.  Loan and
investment security prepayments are estimated using current market information.

      The following table shows the estimated  cumulative impact on net interest
income for the next 12 months as of December 31, 2003,  subject to the specified
interest rate  changes.  For purposes of this  schedule the  Corporation  used a
parallel  rate  shock  on its  interest  earning  assets  and  interest  bearing
liabilities.  A parallel rate shock means that a 100 basis point increase in the
rate index (prime rate) would result in an immediate 100 basis point increase on
interest earning assets and interest bearing liabilities subject to the interest
rate  reset  date.  The  Corporation  uses  a  50  basis  point  slope  for  its
computation. The slope is the number of basis points per month that an index can
increase or decrease until it reaches the target rate.


      Rate change increment   % change in net interest income   $ change in net
                                                                interest income

      Up 1%                    -3.59%                           $     -686,000

      Up 2%                    -6.57%                           $   -1,255,000

      Down 1%                   3.98%                           $      761,000

      Down 2%                   1.59%                           $      304,000


Liquidity

         Liquidity is the measure of the Bank's  ability to generate  sufficient
funds in order to meet customers' demands for withdrawal of deposit balances and
for the  funding  of  loan  requests.  The  Bank

                                       26
<PAGE>

maintains cash reserves, in accordance with Federal Reserve Bank guidelines, and
has sufficient flow of funds from investment  security  payments as well as loan
payments to meet current liquidity needs.

         Management  of the Bank  continuously  monitors  and plans  the  Bank's
liquidity position for the future.  Liquidity is provided from cash and due from
banks, federal funds sold, loan and investment security payments, core deposits,
the national  certificate of deposit market,  lines of credit with correspondent
banks and lines of credit with the Federal Home Loan Bank,  Management  believes
that these  sources of funds  provide  sufficient  and timely  liquidity for the
foreseeable future.

         The Bank's  major  source of funding and  liquidity is derived from its
deposit base. The mix of the deposit base (demand deposits,  statement  savings,
certificates  of deposit,  money  market and interest  checking)  is  constantly
subject to change. During 2003, as reflected in the Consolidated Balance Sheets,
the deposit mix changed with an increase in non-interest bearing demand deposits
of $3.5 million, an increase in  interest-bearing  NOW and Money Market deposits
of $14.5 million, an increase in statement savings deposits of $10.5 million and
a increase in total time deposits of $11.2  million.  During 2003 total deposits
increased $39.7 million.

         The Bank had approximately  $122.1 million in investment  securities at
December 31, 2003.  The Bank  utilizes its  investment  portfolio as a secondary
form of liquidity.  Management has  designated  $122.1 million of the investment
portfolio as available for sale under the  requirements  of FAS 115.  Under this
designation,  the Bank has the ability to sell any of these  available  for sale
securities to meet extraordinary  liquidity needs without negative impact to the
financial  position  or results of  operations.  The Bank has $113.1  million of
unencumbered securities available as a secondary source of liquidity.

         The  Consolidated  Statements of Cash Flows  appearing in the financial
statements  of  the  Corporation  reflects  a net  decrease  in  cash  and  cash
equivalents of $3.6 million over the comparable  2002 period.  This decrease was
greatly due to the bank's increase in loans and investment securities.

         Liquidity  strategies are implemented and monitored on a daily basis by
the  Corporation's  Asset Liability  Committee.  The Committee uses a simulation
model to assess  future  liquidity  needs of the  Corporation  and to manage the
investment of funds. The Committee meets formally on a monthly basis.

Contractual Obligations

         Listed below are the  contractual  obligation  of the  Corporation  and
Subsidiaries at December 31, 2003 aggregated by type and due date. Optional call
date provisions are reflected in the table below.
<TABLE>
<CAPTION>

                                                  Less than    One to Three   Three to Five     More Than
                                      Total       one year         Years          Years         Five Years


<S>                              <C>             <C>             <C>             <C>             <C>
Long-term debt obligations       $16,429         $    44         $    98         $16,111         $   176
Operating lease obligations                           57              42             -               -
Purchase obligations                 224             224             -               -               -
Other long-term liabilities
reflected on the Company's
balance sheet                      6,300             -               -             6,300             -
</TABLE>

         The  Corporation  does not  have  any  capital  lease  obligations,  as
classified under applicable FASB statements.


                                       27
<PAGE>

Return on Equity and Assets

         The  following  table   highlights   certain  ratios  for  the  periods
indicated:

                                                    Year Ended December 31,
                                                          (Percentage)

                                               2003          2002           2001
                                               ----          ----           ----
Net income to:
  Average total assets                         0.87           0.87          0.77
  Average shareholders' equity                13.27          13.82         12.78

Divided payout ratio (dividends declared per
  share divided by net income per share)       5.87           5.81          6.39

Average shareholders' equity to average total
  assets ratio                                 6.59           6.32          6.00


Item 2. Properties

         The  Corporation's  and the Bank's  main  offices are located at 340 W.
Main Street, Abingdon, Virginia. The main office is a two-story brick and stucco
structure  owned by the Bank.  The Bank  utilizes the entire  structure  for its
day-to-day  operations.  Attached to the main  office is a four-lane  drive thru
facility constructed in 1998. The new drive thru replaced an older unit that was
detached from the main office's structure. The main office opened for operations
in  1985.  In  addition,  the Bank  has  three  other  branch  locations  within
Washington County, Virginia.

         The East Abingdon branch is a one story brick facility located at 24412
Maringo Road that  operates as a full service  branch.  The branch was completed
and opened for operation in 1993.

         The West  Abingdon  location was expanded  during 2003 from an "express
facility",  containing  four drive thru  lanes and a walk-up  window,  to a full
service  branch.  The West Abingdon  Express branch was completed and opened for
operations in 1994 and is located at Exit 14, I-81,  Jonesboro  Road,  Abingdon,
Virginia.

           During 1998, the Bank  constructed  and placed in service a two-story
brick building located at 506 Maple Avenue,  Glade Spring,  Virginia.  The Glade
Spring Office is a full service location with four drive thru lanes.

           The Bank also has two full service branch  locations  within the City
of  Bristol,  Virginia.  The East  Bristol  office is located at 999 Old Airport
Road,  Bristol,  Virginia.  This is a two story  brick  building  with  interior
customer  loan and  deposit  areas as well as a four lane drive  thru unit.  The
office was completed and opened for operations in 1988.

         The Commonwealth office is located at 821 Commonwealth Avenue, Bristol,
Virginia.  This is a two story block building with full service customer service
areas and a four lane drive thru  facility.  The Bank also  operates  its dealer
finance division out of the Commonwealth  office.  This office was completed and
opened for operations in 1995.

         The Bank also has a full  service  branch at 1425  North  Main  Street,
Marion,  Virginia. The branch was placed in service in December of 1997. It is a
two story brick  building  and  operates as a full  service  branch.  The Marion
office has four drive thru lanes and a drive-up ATM. The Bank also owns a vacant

                                       28
<PAGE>

lot, located  approximately 1/2 mile from the branch on North Main Street,  that
originally  had a drive-up ATM on location.  The ATM was relocated to the Marion
branch during 2001. This property is free of all liens.

         All of the Bank's branch  locations have an on-premises ATM. All branch
properties, except for the Boone, North Carolina branch office, are owned by the
Bank and are free of liens.  In September  1998,  the Bank acquired the adjacent
building to its Commonwealth  office to facilitate future  expansion.  This is a
one story brick  structure,  located at 801-805  Commonwealth  Avenue,  Bristol,
Virginia and is currently leased. A note payable to the sellers was executed and
is secured by a first deed of trust. The note was paid in full in 2003.

         Also during 1998, the Bank initiated an off premises ATM program.  This
program  has  continued  to expand to  include  28 offsite  ATMs  purchased  and
installed  throughout  the  Bank's  market  areas.  Six  machines  are placed in
Bristol, Virginia; one is installed in Bristol,  Tennessee; ten are installed in
Washington  County,  Virginia;  two in Russell  County,  Virginia;  six in Smyth
County,  Virginia,  one in Wythe  County,  Virginia,  one in Banner  Elk,  North
Carolina and one in Boone, North Carolina. All machines are free of liens.

         During 1999 the Bank purchased a building,  across from the Main Office
in Abingdon, to provide for expansion of the Bank's operations.  The building is
a brick and frame  structure  that is being used to house the  Bank's  Financial
Services Department,  the Collections Department,  the Bank's credit card, Human
Resources  department,  Customer Call Center, Check Card and ATM Card Operations
department,  Security  and  Facilities  department  as well as the Bank's  Check
Printing  Department.  The office space not currently  being used by the Bank is
being leased to one other business. This property is free of any liens.

         On  September  23,  2000,  the Bank closed on the  purchase of a branch
office of a bank in Rogersville, Tennessee. This purchase included approximately
$3.9  million of deposit  accounts,  $54,000 of overdraft  protection  accounts,
$7,000 of specified  furniture and equipment and approximately  $639,000 for the
building and real estate.  The branch office is a one-story masonry and concrete
structure  constructed in 1985. The branch is located at 410 Highway 66 South in
Rogersville,  Tennessee.  This building is being used as a Highlands  Union Bank
full service facility with two drive-thru lanes and a drive-up ATM.

         The Bank also  purchased a tract of land  located off of Highway 11W in
Bristol, Tennessee, known as Bristol West Development, for future expansion. The
land is  approximately  1/2 acre and is currently zoned for commercial use. This
property is free of any liens.

         During 2000 the Bank began  construction  of a two-story brick building
in Boone,  North  Carolina  that opened as a full service  branch of the Bank in
January of 2001. The Seller of this property originally financed $250,000 of the
purchase price of the land. The balance of this note as of December 31, 2003 was
approximately $179,000.

         The  Corporation  acquired a  commercial  building  during 1997 that is
located at 266 West Plumb Alley, Abingdon, Virginia. The building is a two story
concrete structure that was originally constructed by another bank for use as an
operations  center.   During  1997,  the  Corporation  entered  into  a  leasing
arrangement  with its  subsidiary  to lease the  first  floor to be used for its
operations  center.  This lease was  expanded to include the second floor of the
building that was renovated during 2001. During 2001, the Corporation  renovated
the second floor of this building and it currently houses the Bank's  electronic
data  processing  operations,   bookkeeping  operations,  proof  operations  and
electronic banking  operations.  The West Plumb Alley property is free of liens.
During 1998, the Corporation  purchased the adjacent  property to the operations
center.  The property  purchased is a one story brick  structure  that currently

                                       29
<PAGE>

houses the Corporation's technology department.  It is management's intention to
utilize the property as growth  continues.  The property is owned free and clear
of all liens.

         During 2003 the Bank completed  construction  and opened a full service
branch office located on Highway 394 in Blountville, Tennessee. This Branch is a
two story brick building and operates as a full service branch office. There are
three drive thru lanes and a drive-up ATM. This property is free of all liens.

          During  2003,  the Bank  purchased  a piece of property in Banner Elk,
North Carolina and began  construction of a full-service  one story branch bank.
The purchase  price of the  property  was $520,000 of which  $250,000 was a note
financed by the seller. The branch is expected to open in February 2004.

          All of the Corporation's  properties  are in good  operating condition
and are adequate for the Corporation's present and anticipated future needs.

Item 3. Legal Proceedings

         The Corporation is not involved in any pending legal proceedings, other
than  non-material  legal  proceedings  undertaken  in the  ordinary  course  of
business.


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

         There were no matters  submitted to a vote of security  holders  during
the quarter ended December 31, 2003.


Part II.

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters

         There is no  established  trading  market  for the  stock of  Highlands
Bankshares,  Inc. At March 10, 2004, the  Corporation  had  approximately  1,275
shareholders  of  record.  The  Corporation  acts  as its own  registered  Stock
Transfer Agent,  without  charging a transfer fee,  ensuring that all applicable
federal guidelines relating to stock transfers are enforced.

         The  Corporation  maintains a list of individuals who are interested in
purchasing its common stock and connects these people with  shareholders who are
interested in selling their stock.  These parties  negotiate the per share price
independent of the  Corporation.  The stock  transfer  agent of the  Corporation
attempts  to keep a record of what the stock  sales are trading at by asking the
parties  about  the trade  price  per  share.  Please  refer to the table  below
entitled  Common  Stock  Performance  for a breakdown of the trades for the four
quarters  of 2003 and 2002.  It is the  opinion  of  management  that this range
accurately  reflects the market value of the Corporation's  common stock for the
periods presented.

                   Common Stock Performance-December 31, 2003


                           High            Low          Quarterly Average
                           ----            ---          -----------------

First Quarter            $26.00            $26.00                $26.00

Second Quarter           $26.00            $26.00                $26.00

Third Quarter            $27.00            $26.00                $26.07

Fourth Quarter           $28.00            $27.00                $27.99

                                       30
<PAGE>
                    Common Stock Performance-December 31 2002

                           High            Low          Quarterly Average
                           ----            ---          -----------------

First Quarter            $25.50            $25.00                $25.47

Second Quarter           $26.00            $24.00                $25.26

Third Quarter            $26.00            $25.50                $25.93

Fourth Quarter           $26.00            $26.00                $26.00

         The  Corporation's  Board of  Directors  determines  whether to declare
dividends and the amount of any dividends  declared.  Such determinations by the
Board  take into  account  the  Corporation's  financial  condition,  results of
operations,  and other relevant factors.  The declaration,  amount and timing of
future  dividends will be determined by the Board of Directors after a review of
the  Corporation's  operations and will be dependent upon,  among other factors,
the Corporation's income, operating costs, overall financial condition,  capital
requirements and upon general business conditions.  The Corporation declared and
paid  annual  cash  dividends  of  $265,000  or $0.10 per share  during 2003 and
$238,000 in cash  dividends or $0.09 per share during  2002.  The  Corporation's
principal  asset is its  investment  in the Bank,  a wholly  owned  consolidated
subsidiary.  The primary source of income for the Corporation  historically  has
been dividends from the Bank. Regulatory agencies limit the amount of funds that
may be  transferred  from the Bank to the  Corporation in the form of dividends,
loans or advances. The Bank paid $1.2 million in dividends to the Corporation in
2003.

         Under applicable laws and without prior regulatory approval,  the total
dividend  payments of the Bank in any calendar  year are  restricted  to the net
profits of that year, as defined, combined with the retained net profits for the
two preceding  years.  The total  dividends that may be declared in 2003 without
regulatory approval totals $9.8 million plus year-to-date 2004 net profits as of
the declaration date.


Item 6. Selected Financial Data

         The following table sets forth certain selected consolidated  financial
data for the past five years.

                                       31
<PAGE>

<TABLE>
<CAPTION>
                                                                        Years Ended December 31,
                                                             (Dollars in thousands, except per share data)

                                                       2003         2002          2001         2000         1999
                                                       ----         ----          ----         ----         ----
<S>                                                <C>          <C>           <C>          <C>          <C>
Income Statement Amounts:

   Gross interest income                            $ 29,463     $ 30,944      $ 32,998     $ 30,418     $ 25,671
   Gross interest expense                             12,877       14,266        18,887       17,700       14,167
   Net interest income                                16,586       16,678        14,111       12,718       11,504
   Provision for possible loan losses                  2,053        1,825         1,448        1,277        1,418
   Net interest income after provision                14,533       14,853        12,663       11,441       10,086
   Other operating income                              4,652        3,646         3,364        2,480        1,353
   Other operating expense                            13,470       13,046        11,619        9,713        8,187
   Income before income taxes
       and other items                                 5,715        5,453         4,408        4,208        3,252
   Income taxes                                        1,195        1,349         1,107        1,229        1,121
   Income before cumulative effect of
       change in accounting principles                 4,520        4,104         3,301        2,979        2,131
   Cumulative effect of change in
       accounting principles                               0            0             0            0            0
   Net income                                       $  4,520     $  4,104      $  3,301     $  2,979     $  2,131

Per Share Data(1):

   Net income per share                              $  1.70      $  1.55       $  1.25      $  1.13      $  0.85
   Cash dividends per share                             0.10         0.09          0.08         0.07         0.06
   Book value (at year end)                            13.33        12.16         10.38         9.17         7.77

Balance Sheet Amounts (at year-end):

   Total assets                                    $ 543,416    $ 485,603     $ 453,745    $ 405,212    $ 358,348
   Total loans (net of unearned income)              377,808      339,521       325,460      291,895      261,678
   Total deposits                                    450,009      410,301       392,093      346,315      306,193
   Long-term debt                                     16,429       14,200        10,483       18,669       10,599
   Capital Securities                                  6,300        7,500         7,500        7,500        7,500
   Total equity                                       35,434       32,199        27,452       24,183       20,408

(1) Adjusted for 1999 two-for-one stock split.

</TABLE>


Item 7. Management's  Discussion and Analysis of Financial Condition and Results
        of Operations

         The  information  required herein is incorporated by reference from the
Annual Report to Shareholders for the fiscal year ended December 31, 2003.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk.

         The  information  required herein is incorporated by reference to pages
24-26 above on Interest Rate Sensitivity Analysis,  Asset Liability Analysis and
Liquidity.

Item 8. Financial Statements and Supplementary Data

         The following  financial  statements are incorporated by reference from
the Annual Report to Shareholders for the fiscal year ended December 31, 2003:

                  Independent Auditor's Report;

                                       32
<PAGE>

                  Consolidated  Statements of Financial Condition as of December
                  31, 2003, 2002 and 2001;
                  Consolidated Statements of Operations for each of the years in
                  the three year period ended December 31, 2003;
                  Consolidated  Statements  of Stockholder's  Equity for each of
                  the years in the three year period ended  December 31,
                  2003;
                  Consolidated  Statements  of Cash Flows  for each of the years
                  in the three year period ended  December  31, 2003;  and
                  Notes to  Consolidated  Financial  Statements for December 31,
                  2003, 2002 and 2001.

Item 9. Changes in Accountants and Disagreements with Accountants on Accounting
        and Financial Disclosure

         None.

Item 9A. Controls and Procedures

         On an  on-going  basis,  senior  management  monitors  and  reviews the
internal controls  established for the various  operating  segments of the Bank.
Additionally,  the Company has created a Disclosure  Review  Committee to review
not only  internal  controls but the  information  used by  Company's  financial
officers to prepare the  Corporation's  periodic  SEC filings and  corresponding
financial  statements.  The Committee is comprised of the Senior Management Team
of the Bank and  meets at least  quarterly.  Internal  audits  conducted  by the
Company's  internal  audit  department  are also reviewed by senior  officers to
assist  them  in  assessing  the  adequacy  of the  Company's  internal  control
structure.  These audits are also  discussed in detail with the Company's  Audit
Committee.

         We have  carried  out an  evaluation,  under  the  supervision  and the
participation  of our  management,  including our Executive  Vice  President and
Chief  Executive  Officer,  our Executive  Vice  President and Chief  Operations
Officer,  our Chief Financial  Officer and our Vice President of Accounting,  of
the  effectiveness  of the design and operation of our  disclosure  controls and
procedures  (as defined in Rule  13a-15(e)  and 15d-15(e)  under the  Securities
Exchange  Act of 1934, as amended  (the "Act") as of the end of the fiscal  year
covered by this report.  Based upon that  evaluation,  our CEO,  COO, CFO and VP
Accounting  concluded that our disclosure  controls and procedures are effective
in  providing  reasonable  assurance  that (a) the  information  required  to be
disclosed by us in the reports that we file or submit under the Act is recorded,
processed,  summarized  and reported  within the time  periods  specified in the
Securities and Exchange  Commission's  rules and forms, and (b) such information
is accumulated and  communicated to our management,  including our CEO, COO, CFO
and VP Accounting,  as appropriate to allow timely decisions  regarding required
disclosure.

         Management  asserts  that  there  have not  been  any  changes  in  the
Corporation's  internal  controls  over  financial  reporting  during the fourth
fiscal  quarter of the fiscal year  covered by this report that have  materially
affected,  or are reasonably likely to materially  affect,  our internal control
over financial reporting.


Part III.

Item 10.  Directors and Executive Officers of the Registrant

         Pursuant  to General  Instruction  G(3) of Form 10-K,  the  information
contained  under the headings "The  Nominees,"  "Executive  Officers Who Are Not
Directors," "Section 16(a) Beneficial

                                       33
<PAGE>

Ownership   Reporting   Compliance,"   "The   Board   of   Directors   and   its
Committees -- Audit  Committee" (with  respect  to the  designation  of an audit
committee  financial  expert)  and  "Code  of  Ethics"  in the  Company's  Proxy
Statement for the 2004 Annual Meeting of Shareholders is incorporated  herein by
reference.

Item 11. Executive Compensation

         Pursuant  to General  Instruction  G(3) of Form 10-K,  the  information
contained  under  the  headings  "Director  Compensation,"   "Executive  Officer
Compensation,"  "Stock  Options"  and "Option  Exercises  and  Holdings"  in the
Company's  Proxy  Statement  for the 2004  Annual  Meeting  of  Shareholders  is
incorporated herein by reference.

Item 12. Security Ownership of Certain Beneficial Owners and Management

         Pursuant  to General  Instruction  G(3) of Form 10-K,  the  information
contained  under the  headings  "Security  Ownership of  Management  and Certain
Beneficial  Owners"  and  "Equity  Compensation  Plans" in the  Company's  Proxy
Statement for the 2004 Annual Meeting of Shareholders is incorporated  herein by
reference.

Item 13. Certain Relationships and Related Transactions

         Pursuant  to General  Instruction  G(3) of Form 10-K,  the  information
contained  under the  heading  "Certain  Transactions"  in the  Company's  Proxy
Statement for the 2004 Annual Meeting of Shareholders is incorporated  herein by
reference.

Item 14. Principal Accounting Fees and Services

         Pursuant  to General  Instruction  G(3) of Form 10-K,  the  information
contained under the headings  "Services and Fees during 2003" and  "Pre-Approved
Services"  in the  Company's  Proxy  Statement  for the 2004  Annual  Meeting of
Shareholders is incorporated herein by reference.


Part IV.

Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K

         (a) (1)  The response  to this  portion  of Item 15 is  submitted  as a
                  separate section of this report.

              (2) All  applicable  financial  statement  schedules  required  by
                  Regulation   S-X  are  included  in  the  Notes  to  the  2003
                  Consolidated Financial Statements.

              (3) Exhibits:

              3.1     Articles of  Incorporation of Highlands  Bankshares,  Inc.
                      (restated in electronic  format),  filed as Exhibit 4.1 to
                      the Registration  Statement on Form S-3,  Registration No.
                      333-83618,  filed  with the  Commission  on March 1, 2002,
                      incorporated herein by reference.

              3.2     Bylaws of Highlands  Bankshares, Inc. attached  as Exhibit
                      3.2  to the Registration Statement   on Form 8-A, File No.
                      000-27622, filed  with the Commission on January 24, 1996,
                      incorporated herein by reference.

                                       34
<PAGE>

              10.1    Highlands  Union Bank 1995 Stock Option Plan,  attached as
                      Exhibit  10.1 to the  Annual  Report  on Form 10-K for the
                      fiscal year ended December 31, 2002,  File No.  000-27622,
                      incorporated herein by reference.

              11      Statement  regarding  computation  of per  share  earnings
                      (included as Note 1 of the Notes to Consolidated Financial
                      Statements in the 2003 Annual Report to  Shareholders  and
                      incorporated herein by reference).

              13.1    Annual Report to Shareholders.

              21      Subsidiaries  of the  Corporation.

              23.1    Consent of Brown, Edwards & Company, L.L.P.

              31.1    Section 302 Certification of Chief Executive Officer.

              31.2    Section 302 Certification of Chief Operations Officer.

              31.3    Section 302 Certification  of  Chief Financial  Officer of
                      the Corporation.

              31.4    Section 302 Certification  of  Chief Financial  Officer of
                      the Bank.

              32.1    Statement of Chief Executive Officer Pursuant to 18 U.S.C.
                      ss.1350.

              32.2    Statement  of Chief  Operations  Officer  Pursuant  to  18
                      U.S.C.ss.1350.

              32.3    Statement  of Chief  Financial  Officer of the Corporation
                      Pursuant to 18 U.S.C.ss.1350.

              32.4    Statement of Chief Financial  Officer of the Bank Pursuant
                      to 18 U.S.C.ss.1350.

         (b) Reports on Form 8-K.

                      No  reports  on Form 8-K  were filed by the Company during
                      the last quarter of the period covered by this report.

         (c) Exhibits.

                      The response to this portion of Item 15 as listed in  Item
                      15(a)(3) above is submitted as a separate  section of this
                      report.

         (d) Financial Statement Schedules.

                      The response to this  portion of Item 15 is submitted as a
                      separate section of this   report.


                                       35
<PAGE>

                                   SIGNATURES

         Pursuant to the  requirements  of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

                                        HIGHLANDS BANKSHARES, INC.

Date:  March 26, 2004                   BY: /s/ Samuel. Neese
                                           -------------------------------------
                                              Samuel L. Neese
                                              Executive Vice President and
                                              Chief Executive Officer

         Pursuant to the  requirements  of the Securities  Exchange Act of 1934,
this  report has been  signed  below by the  following  persons on behalf of the
registrant and in the capacities indicated on March 26, 2004.
<TABLE>
<CAPTION>


                 Signature                                      Title                                Date
                 ---------                                      -----                                ----

<S>                                         <C>                                                    <C>

          /s/ James D. Morefield                 Chairman of the Board, and Director               March 26, 2004
-----------------------------------------
             James D. Morefield


        /s/ Dr. James D. Moore, Jr.                           President                            March 26, 2004
-----------------------------------------
           Dr. James D. Moore, Jr.


           /s/ J. Carter Lambert                            Vice Chairman                          March 26, 2004
-----------------------------------------
             J. Carter Lambert


            /s/ Samuel L. Neese                  Executive Vice President, and Chief               March 26, 2004
-----------------------------------------                 Executive Officer
              Samuel L. Neese



            /s/ James T. Riffe                  Executive Vice President and Cashier               March 26, 2004
-----------------------------------------
               James T. Riffe


          /s/ William E. Chaffin                              Director                             March 26, 2004
-----------------------------------------
             William E. Chaffin



           /s/ E. Craig Kendrick                              Director                             March 26, 2004
-----------------------------------------
             E. Craig Kendrick

                                       36
<PAGE>

            /s/ Clydes B. Kiser                               Director                             March 26, 2004
-----------------------------------------
              Clydes B. Kiser


          /s/ Charles P. Olinger                              Director                             March 26, 2004
-----------------------------------------
             Charles P. Olinger


         /s/ William J. Singleton                             Director                             March 26, 2004
-----------------------------------------
            William J. Singleton


       /s/ Dr. H. Ramsey White, Jr.                           Director                             March 26, 2004
-----------------------------------------
          Dr. H. Ramsey White, Jr.

</TABLE>

                                       37
<PAGE>
                                  EXHIBIT INDEX

Exhibit No.                                 Description
-----------                                 -----------

    3.1               Articles of  Incorporation of Highlands  Bankshares,  Inc.
                      (restated in electronic  format),  filed as Exhibit 4.1 to
                      the Registration  Statement on Form S-3,  Registration No.
                      333-83618,  filed  with the  Commission  on March 1, 2002,
                      incorporated herein by reference.

    3.2               Bylaws of Highlands  Bankshares, Inc. attached  as Exhibit
                      3.2  to the Registration Statement   on Form 8-A, File No.
                      000-27622, filed  with the Commission on January 24, 1996,
                      incorporated herein by reference.

    10.1              Highlands  Union Bank 1995 Stock Option Plan,  attached as
                      Exhibit  10.1 to the  Annual  Report  on Form 10-K for the
                      fiscal year ended December 31, 2002,  File No.  000-27622,
                      incorporated herein by reference.

    11                Statement  regarding  computation  of per  share  earnings
                      (included as Note 1 of the Notes to Consolidated Financial
                      Statements in the 2003 Annual Report to  Shareholders  and
                      incorporated herein by reference).

    13.1              Annual Report to Shareholders.

    21                Subsidiaries  of the  Corporation.

    23.1              Consent of Brown, Edwards & Company, L.L.P.

    31.1              Section 302 Certification of Chief Executive Officer.

    31.2              Section 302 Certification of Chief Operations Officer.

    31.3              Section 302 Certification  of  Chief Financial  Officer of
                      the Corporation.

    31.4              Section 302 Certification  of  Chief Financial  Officer of
                      the Bank.

    32.1              Statement of Chief Executive Officer Pursuant to 18 U.S.C.
                      ss.1350.

    32.2              Statement  of Chief  Operations  Officer  Pursuant  to  18
                      U.S.C.ss.1350.

    32.3              Statement  of Chief  Financial  Officer of the Corporation
                      Pursuant to 18 U.S.C.ss.1350.

    32.4              Statement of Chief Financial  Officer of the Bank Pursuant
                      to 18 U.S.C.ss.1350.