UNITED
STATES
 SECURITIES
AND EXCHANGE COMMISSION
 Washington,
D.C.  20549
 
 FORM
10-Q
 
 
 x
              QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
  SECURITIES
 EXCHANGE
ACT OF 1934
 
 For the
quarterly period ended September
30, 2009
 
 OR
 
 o
              TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
  SECURITIES
 EXCHANGE
ACT OF 1934
 
 For the
transition period from 
to
 
 Commission
File Number:   000-22283
 
 StellarOne
Corporation
 
 (Exact
name of registrant as specified in its charter)
 Virginia
              54-1829288(State
      or other jurisdiction of
              (I.R.S.
      Employerincorporation
      or organization)
              Identification
      No.)
 
 590 Peter Jefferson Parkway Charlottesville,
      Virginia
              22911(Address
      of principal executive offices)
              (Zip
      Code)
 (Registrant's
telephone number 434-964-2211,
including area code)
 
 (Former
name, former address and former fiscal year, if changed since last
report)
 
 Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such report(s), and (2) has been subject to such filing
requirements for the past 90 days.  Yes   x   No   o.
 
 Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T during the
preceding 12 months (or for shorter period that the registrant was required
to submit and post such files).  Yes   o    No   o.
 
 Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting company. See
definition of “large accelerated filer”, “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
 Large
accelerated filer   o
    Accelerated filer   x
    Non-accelerated filer   o   Smaller
reporting company   o
 
 Indicate
by check mark whether the registrant is a shell company (as defined in Rule 12b
– 2 of the Exchange Act). Yes   o     No   x
 
 As of
November 6, 2009 there were 22,733,118 shares of common stock, $1.00 par value
per share, issued and outstanding.
  Table of Contents
  STELLARONE
CORPORATION
 INDEX
 PART
I - FINANCIAL INFORMATION
 
 
 Page
      No.ITEM1
              Financial
      Statements:Consolidated Balance Sheets
              3Consolidated Statements of Income
              4-5Consolidated Statements of Changes in Stockholders’
      Equity
              6Consolidated Statements of Cash Flows
              7Notes to Consolidated Financial
    Statements
              8-21ITEM
      2
              Management’s Discussion and Analysis of Financial Condition
      and Results of Operations
              22-33ITEM
      3
              Quantitative and Qualitative Disclosures About Market
      Risk
              34ITEM
      4
              Controls and Procedures
              35PART
      II - OTHER INFORMATIONITEM
      1
              Legal Proceedings
              36ITEM
      1A
              Risk Factors
              36ITEM
      2
              Unregistered Sales of Equity Securities and Use of
      Proceeds
              36ITEM
      3
              Defaults Upon Senior Securities
              36ITEM
      4
              Submission of Matters to a Vote of Security
      Holders
              36ITEM
      5
              Other Information
              36ITEM
      6
              Exhibits
              37-38
 
 
  2
 Table of Contents
  PART I– FINANCIAL INFORMATION
 ITEM
1. Financial statements
 
 STELLARONE
      CORPORATION AND SUBSIDIARIESCONSOLIDATED
      BALANCE SHEETS(In
      thousands)SEPTEMBER
      30
              
              
              DECEMBER
      31,2009
              
              
              2008(unaudited)ASSETSCash and due from banks
              
              $
              39,323
              
              
              $
              66,239Federal funds sold
              
              
              82,244
              
              
              
              3,837Interest-bearing deposits in banks
              
              
              26,831
              
              
              
              45,453Cash
      and cash equivalents
              
              
              148,398
              
              
              
              115,529Investment securities (fair value: 2009, $345,784; 2008,
      $328,096)
              
              
              345,779
              
              
              
              328,093Mortgage loans held for sale
              
              
              45,739
              
              
              
              15,847Loans receivable, net of allowance for loan losses, 2009, $41,040; 2008,
      $30,464
              
              
              2,181,883
              
              
              
              2,234,122Premises and equipment, net
              
              
              84,834
              
              
              
              89,022Accrued interest receivable
              
              
              9,862
              
              
              
              10,230Core deposit intangibles, net
              
              
              8,961
              
              
              
              10,266Goodwill
              
              
              74,880
              
              
              
              74,582Bank owned life insurance
              
              
              29,866
              
              
              
              28,903Foreclosed assets
              
              
              5,437
              
              
              
              4,627Other assets
              
              
              46,625
              
              
              
              45,293Total
      assets
              
              $
              2,982,264
              
              
              $
              2,956,514LIABILITIESDeposits:Noninterest-bearing
              
              $
              312,217
              
              
              $
              307,621Interest-bearing
              
              
              2,092,204
              
              
              
              2,015,487Total
      deposits
              
              
              2,404,421
              
              
              
              2,323,108Short-term borrowings
              
              
              572
              
              
              
              699Federal Home Loan Bank advances
              
              
              145,000
              
              
              
              187,700Subordinated debt
              
              
              32,991
              
              
              
              32,991Accrued interest payable
              
              
              4,211
              
              
              
              5,476Deferred income tax liability
              
              
              -
              
              
              
              1,224Other liabilities
              
              
              10,142
              
              
              
              10,531Total
      liabilities
              
              
              2,597,337
              
              
              
              2,561,729STOCKHOLDERS’
      EQUITYPreferred stock; no par value;  5,000,000 shares authorized; no
      shares issued and outstanding;
              
              
              -
              
              
              
              -Preferred stock; $1,000 liquidation preference; 30,000 shares issued and
      outstanding;
              
              
              28,310
              
              
              
              28,121Common stock, $1 par value; 35,000,000 shares authorized; 2009: 22,661,007
      shares issued and outstanding; 2008: 22,605,063 shares issued and
      outstanding
              
              
              22,661
              
              
              
              22,605Additional paid-in capital
              
              
              230,080
              
              
              
              229,522Retained earnings
              
              
              97,776
              
              
              
              113,661Accumulated other comprehensive income, net
              
              
              6,100
              
              
              
              876Total
      stockholders’ equity
              
              
              384,927
              
              
              
              394,785Total
      liabilities and stockholders’ equity
              
              $
              2,982,264
              
              
              $
              2,956,514
 
 
 The
accompanying notes are an integral part of these consolidated financial
statements.
  3
 Table of Contents
  
 STELLARONE
      CORPORATION AND SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF INCOME(In
      thousands, except per share data)THREE
      MONTHS ENDEDSEPTEMBER
      30,2009
              
              
              2008(unaudited)
              
              
              (unaudited)Interest IncomeLoans, including fees
              
              $
              30,954
              
              
              $
              37,619Federal funds sold and deposits in other banks
              
              
              74
              
              
              
              291Investment securities:Taxable
              
              
              2,284
              
              
              
              2,829Tax exempt
              
              
              1,112
              
              
              
              888Dividends
              
              
              195
              
              
              
              311Total interest income
              
              
              34,619
              
              
              
              41,938Interest
      ExpenseDeposits
              
              
              10,857
              
              
              
              12,839Federal funds purchased and securities sold under agreements to
      repurchase
              
              
              4
              
              
              
              4Federal Home Loan Bank advances
              
              
              1,320
              
              
              
              1,795Subordinated debt
              
              
              287
              
              
              
              481Short-term borrowings
              
              
              5
              
              
              
              1Total interest expense
              
              
              12,473
              
              
              
              15,120Net interest income
              
              
              22,146
              
              
              
              26,818Provision
      for loan losses
              
              
              20,050
              
              
              
              6,000Net interest income after provision for loan losses
              
              
              2,096
              
              
              
              20,818Noninterest
      IncomeRetail banking fees
              
              
              4,329
              
              
              
              4,083Commissions and fees from fiduciary activities
              
              
              736
              
              
              
              984Brokerage fee income
              
              
              369
              
              
              
              316Mortgage banking-related fees
              
              
              1,783
              
              
              
              607Losses on sales / write-downs of foreclosed assets
              
              
              (177
              )
              
              
              (1,669
              )Losses on sale of premises and equipment
              
              
              (17
              )
              
              
              -Impairments of securities available for sale
              
              
              (1,870
              )
              
              
              (274
              )Gains (losses) on sales of securities available for sale
              
              
              32
              
              
              
              (59
              )Income from bank owned life insurance
              
              
              328
              
              
              
              359Other operating income
              
              
              201
              
              
              
              737Total noninterest income
              
              
              5,714
              
              
              
              5,084Noninterest
      ExpenseCompensation and employee benefits
              
              
              11,027
              
              
              
              11,251Net occupancy
              
              
              2,121
              
              
              
              2,040Supplies and equipment
              
              
              2,069
              
              
              
              2,202Amortization-intangible assets
              
              
              432
              
              
              
              438Marketing
              
              
              285
              
              
              
              565State franchise taxes
              
              
              574
              
              
              
              556FDIC insurance
              
              
              1,159
              
              
              
              661Data processing
              
              
              391
              
              
              
              726Professional fees
              
              
              609
              
              
              
              622Telecommunications
              
              
              452
              
              
              
              513Other operating expenses
              
              
              3,629
              
              
              
              3,585Total noninterest expense
              
              
              22,748
              
              
              
              23,159(Loss) income before income taxes
              
              
              (14,938
              )
              
              
              2,743Income
      tax (benefit) expense
              
              
              (6,043
              )
              
              
              714Net (loss) income
              
              
              (8,895
              )
              
              
              2,029Preferred stock dividends
              
              
              (378
              )
              
              
              -Accretion of preferred stock discount
              
              
              (86
              )
              
              
              -Net (loss) income available to common shareholders
              
              $
              (9,359
              )
              
              $
              2,029Basic net (loss) income per common share available to common
      shareholders
              
              $
              (0.41
              )
              
              $
              0.09Diluted net (loss) income per common share available to common
      shareholders
              
              $
              (0.41
              )
              
              $
              0.09
 
 
 The
accompanying notes are an integral part of these consolidated financial
statements.
  4
 Table of Contents
  
 STELLARONE
      CORPORATION AND SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF INCOME(In
      thousands, except per share data)NINE
      MONTHS ENDEDSEPTEMBER
      30,2009
              
              
              2008(unaudited)
              
              
              (unaudited)Interest IncomeLoans, including fees
              
              $
              95,140
              
              
              $
              104,088Federal funds sold and deposits in other banks
              
              
              158
              
              
              
              853Investment securities:Taxable
              
              
              7,293
              
              
              
              8,039Tax exempt
              
              
              2,932
              
              
              
              2,720Dividends
              
              
              568
              
              
              
              918Total interest income
              
              
              106,091
              
              
              
              116,618Interest
      ExpenseDeposits
              
              
              33,868
              
              
              
              35,501Federal funds purchased and securities sold under agreements to
      repurchase
              
              
              11
              
              
              
              64Federal Home Loan Bank advances
              
              
              4,441
              
              
              
              5,334Subordinated debt
              
              
              992
              
              
              
              1,411Short-term borrowings
              
              
              -
              
              
              
              642Total interest expense
              
              
              39,312
              
              
              
              42,952Net interest income
              
              
              66,779
              
              
              
              73,666Provision
      for loan losses
              
              
              34,300
              
              
              
              9,787Net interest income after provision for loan losses
              
              
              32,479
              
              
              
              63,879Noninterest
      IncomeRetail banking fees
              
              
              12,153
              
              
              
              10,546Commissions and fees from fiduciary activities
              
              
              2,238
              
              
              
              2,952Brokerage fee income
              
              
              867
              
              
              
              954Mortgage banking-related fees
              
              
              5,290
              
              
              
              2,836Losses on sales / write-downs of foreclosed assets
              
              
              (797
              )
              
              
              (2,428
              )Losses on sale of premises and equipment
              
              
              (107
              )
              
              
              (64
              )Impairments of securities available for sale
              
              
              (1,870
              )
              
              
              (274
              )Gains on salesof securities available for sale
              
              
              44
              
              
              
              179Income from bank owned life insurance
              
              
              962
              
              
              
              856Other operating income
              
              
              1,573
              
              
              
              2,338Total noninterest income
              
              
              20,353
              
              
              
              17,895Noninterest
      ExpenseCompensation and employee benefits
              
              
              32,390
              
              
              
              34,182Net occupancy
              
              
              6,375
              
              
              
              5,035Supplies and equipment
              
              
              6,475
              
              
              
              5,913Amortization-intangible assets
              
              
              1,305
              
              
              
              1,130Marketing
              
              
              914
              
              
              
              1,813State franchise taxes
              
              
              1,744
              
              
              
              1,535FDIC insurance
              
              
              4,352
              
              
              
              776Data processing
              
              
              1,893
              
              
              
              2,801Professional fees
              
              
              1,602
              
              
              
              1,836Telecommunications
              
              
              1,396
              
              
              
              1,260Other operating expenses
              
              
              10,583
              
              
              
              10,525Total noninterest expense
              
              
              69,029
              
              
              
              66,806(Loss) income before income taxes
              
              
              (16,197
              )
              
              
              14,968Income
      tax (benefit) expense
              
              
              (7,121
              )
              
              
              4,712Net (loss) income
              
              
              (9,076
              )
              
              
              10,256Preferred stock dividends
              
              
              (1,122
              )
              
              
              -Accretion of preferred stock discount
              
              
              (245
              )
              
              
              -Net (loss) income available to common shareholders
              
              $
              (10,443
              )
              
              $
              10,256Basic net (loss) income per common share available to common
      shareholders
              
              $
              (0.46
              )
              
              $
              0.51Diluted net (loss) income per common share available to common
      shareholders
              
              $
              (0.46
              )
              
              $
              0.51
 
 
 The
accompanying notes are an integral part of these consolidated financial
statements.
  5
 Table of Contents
  
 STELLARONE
      CORPORATION AND SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY AND OTHER COMPREHENSIVE
      INCOMEFOR
      THE NINE MONTHS ENDED SEPTEMBER 30, 2009 AND 2008(In
      thousands, except per share data)(unaudited)AccumulatedAdditional
              
              
              
              
              
              OtherPreferred
              
              
              Common
              
              
              Paid-In
              
              
              Retained
              
              
              Comprehensive
              
              
              ComprehensiveStock
              
              
              Stock
              
              
              Capital
              
              
              Earnings
              
              
              Income
      (Loss)
              
              
              Income
      (Loss)
              
              
              TotalBalance, January 1, 2008
              
              $
              -
              
              
              $
              10,796
              
              
              $
              34,488
              
              
              $
              117,009
              
              
              $
              475
              
              
              
              
              
              $
              162,768Comprehensive
      income:Net
      income
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              10,256
              
              
              
              -
              
              
              $
              10,256
              
              
              
              10,256Other
      comprehensive loss net of tax:Unrealized holding
      losses arising during the period
                (net of tax of
      $1,003)
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (1,863
              )
              
              
              -Reclassification
      adjustment (net of tax of $33)
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (62
              )
              
              
              -Change in funded
      status of pension plans
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              134Other comprehensive
      loss
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (1,791
              )
              
              
              (1,791
              )
              
              
              (1,791
              )Total comprehensive
      income
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              $
              8,465
              
              
              
              -Cash dividends ($.48 per
      share)
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (8,992
              )
              
              
              -
              
              
              
              
              
              
              
              (8,992
              )Common stock issued in
      Merger (11,746,272 shares)
              
              
              -
              
              
              
              11,746
              
              
              
              189,382
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              201,128Stock-based
      compensation expense associated with
                Merger (23,519
      shares)
              
              
              -
              
              
              
              24
              
              
              
              1,088
              
              
              
              -
              
              
              
              -
              
              
              
              
              
              
              
              1,112Stock-based
      compensation expense (7,018 shares)
              
              
              -
              
              
              
              7
              
              
              
              199
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              206Exercise of stock
      options (26,471 shares)
              
              
              -
              
              
              
              26
              
              
              
              254
              
              
              
              -
              
              
              
              -
              
              
              
              
              
              
              
              280Balance,
      September 30, 2008
              
              $
              -
              
              
              $
              22,599
              
              
              $
              225,411
              
              
              $
              118,273
              
              
              $
              (1,316
              )
              
              
              
              
              
              $
              364,967Balance,
      January 1, 2009
              
              $
              28,121
              
              
              $
              22,605
              
              
              $
              229,522
              
              
              $
              113,661
              
              
              $
              876
              
              
              
              
              
              
              $
              394,785Comprehensive
      loss:Net loss
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (9,076
              )
              
              
              -
              
              
              $
              (9,076
              )
              
              
              (9,076
              )Other comprehensive
      income, net of tax:Unrealized holding
      loss arising during the period
                (net of tax of
      $3,452)
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              6,411
              
              
              
              -Reclassification
      adjustment (net of tax of $639)
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (1,187
              )
              
              
              -Other comprehensive
      income
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              5,224
              
              
              
              5,224
              
              
              
              5,224Total comprehensive
      loss
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              $
              (3,852
              )
              
              
              -Cash dividends paid
      or accruedCommon
      ($.24 per share)
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (5,442
              )
              
              
              -
              
              
              
              
              
              
              
              (5,442
              )Preferred
      cummulative 5%
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (1,122
              )
              
              
              -
              
              
              
              
              
              
              
              (1,122
              )Accretion on
      preferred stock discount
              
              
              245
              
              
              
              -
              
              
              
              -
              
              
              
              (245
              )
              
              
              -
              
              
              
              
              
              
              
              -Preferred stock
      issuance costs
              
              
              (56
              )
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              
              
              
              
              (56
              )Stock-based compensation
      expense (20,029 shares)
              
              
              -
              
              
              
              20
              
              
              
              244
              
              
              
              -
              
              
              
              -
              
              
              
              
              
              
              
              264Exercise of stock options (35,915 shares)
              
              
              -
              
              
              
              36
              
              
              
              314
              
              
              
              -
              
              
              
              -
              
              
              
              
              
              
              
              350Balance,
      September 30, 2009
              
              $
              28,310
              
              
              $
              22,661
              
              
              $
              230,080
              
              
              $
              97,776
              
              
              $
              6,100
              
              
              
              
              
              
              $
              384,927
 
 The
accompanying notes are an integral part of these consolidated financial
statements.
  6
 Table of Contents
   STELLARONE
      CORPORATION AND SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF CASH FLOWS(In
      thousands)NINE
      MONTHS ENDEDSEPTEMBER
      30,2009
                
                
                2008(unaudited)
                
                
                (unaudited)Cash Flows from Operating ActivitiesNet
      (loss) income
                
                $
                (9,076
                )
                
                $
                10,256Adjustments
      to reconcile net income to net cash used in operating
      activities:Depreciation
                
                
                4,735
                
                
                
                3,552Amortization of intangible assets
                
                
                1,305
                
                
                
                1,130Provision for loan losses
                
                
                34,300
                
                
                
                9,787Deferred tax (benefit) expense
                
                
                (3,836
                )
                
                
                791Employee benefit plan expense
                
                
                -
                
                
                
                157Stock-based compensation expense
                
                
                264
                
                
                
                1,318Losses / write-downs on foreclosed assets
                
                
                797
                
                
                
                2,428Losses on sale of premises and equipment
                
                
                107
                
                
                
                64Losses (gains) on sale of securities available for sale
                
                
                44
                
                
                
                (179
                )Impairments of securities available for sale
                
                
                1,870
                
                
                
                274Mortgage banking-related fees
                
                
                (4,094
                )
                
                
                (2,836
                )Proceeds from sale of mortgage loans
                
                
                429,033
                
                
                
                118,101Origination of mortgage loans for sale
                
                
                (454,831
                )
                
                
                (104,975
                )Amortization of securities premiums and accretion of discounts,
      net
                
                
                (1,264
                )
                
                
                (6,402
                )Income on bank owned life insurance
                
                
                (962
                )
                
                
                (856
                )Changes in assets and liabilities:Decrease in accrued interest receivable
                
                
                368
                
                
                
                2,619(Increase) decrease in other assets
                
                
                (407
                )
                
                
                2,287Decrease in accrued interest payable
                
                
                (1,265
                )
                
                
                (1,590
                )Decrease in other liabilities
                
                
                (557
                )
                
                
                (22,402
                )Net cash (used) provided by operating activities
                
                $
                (3,469
                )
                
                $
                13,524Cash
      Flows from Investing ActivitiesProceeds
      from maturities and principal payments of securities available for
      sale
                
                $
                71,304
                
                
                $
                127,317Proceeds
      from sales and calls of securities available for sale
                
                
                30,320
                
                
                
                19,115Purchase
      of securities available for sale
                
                
                (113,703
                )
                
                
                (93,146
                )Net
      decrease in loans
                
                
                16,600
                
                
                
                19,006Proceeds
      from sale of premises and equipment
                
                
                637
                
                
                
                1,273Purchase
      of premises and equipment
                
                
                (3,254
                )
                
                
                (7,355
                )Proceeds
      from sale of foreclosed assets
                
                
                1,949
                
                
                
                2,857Cash
      acquired in merger
                
                
                -
                
                
                
                45,146Net cash provided by investing activities
                
                $
                3,853
                
                
                $
                114,213Cash
      Flows from Financing ActivitiesNet
      increase in demand, money market and savings deposits
                
                $
                112,357
                
                
                $
                63,837Net
      decrease in certificates of deposit
                
                
                (30,914
                )
                
                
                (67,678
                )Net
      decrease in federal funds purchased and securities sold under agreements
      to repurchase
                
                
                (127
                )
                
                
                (21,055
                )Proceeds
      from Federal Home Loan Bank advances
                
                
                -
                
                
                
                119,600Principal
      payments on Federal Home Loan Bank advances
                
                
                (42,700
                )
                
                
                (105,038
                )Net
      decrease in commercial paper
                
                
                -
                
                
                
                (68,745
                )Net
      decrease in short-term borrowings
                
                
                -
                
                
                
                (892
                )Proceeds
      from exercise of stock options
                
                
                350
                
                
                
                280Payment
      of preferred stock issuance costs
                
                
                (56
                )
                
                
                -Cash
      dividends paid
                
                
                (6,425
                )
                
                
                (8,992
                )Net cash provided (used) by financing activities
                
                $
                32,485
                
                
                $
                (88,683
                )Increase
      in cash and cash equivalents
                
                $
                32,869
                
                
                $
                39,054Cash
      and Cash EquivalentsBeginning
                
                
                115,529
                
                
                
                41,793Ending
                
                $
                148,398
                
                
                $
                80,847Supplemental
      Schedule of Noncash ActivitiesForeclosed
      assets acquired in settlement of loans
                
                $
                3,556
                
                
                $
                5,102Common
      stock issued in merger
                
                $
                -
                
                
                $
                201,128
 The
accompanying notes are an integral part of these consolidated financial
statements.
  7
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 1.
              Organization
 
 StellarOne
Corporation (the “Company”) is a Virginia bank holding company headquartered in
Charlottesville, Virginia.  The Company’s sole banking affiliate is
StellarOne Bank headquartered in Christiansburg, Virginia.  Additional
subsidiaries of the Company include VFG Limited Liability Trust and FNB (VA)
Statutory Trust II both of which are associated with the Company’s subordinated
debt issues and are not subject to consolidation.  On
February 28, 2008, Virginia Financial Group, Inc (“VFG”) and FNB
Corporation (“FNB”) merged and changed the surviving corporation’s name to
StellarOne Corporation.  The Company collapsed all of its previous
affiliates into StellarOne Bank on May 27, 2008.  The consolidated
statements include the accounts of the Company and its wholly-owned banking
subsidiary. All significant intercompany accounts have been
eliminated.  In the opinion of management, the accompanying
consolidated financial statements contain all adjustments necessary to present
fairly the financial position as of September 30, 2009 and December 31, 2008,
the results of operations for the three and nine months ended September 30, 2009
and 2008 and cash flows for the nine months ended September 30, 2009 and
2008.  The statements should be read in conjunction with the Notes to
Financial Statements included in the Company’s Annual Report on Form 10-K for
the year ended December 31, 2008.  The results of operations for the
nine month period ended September 30, 2009 and 2008 are not necessarily
indicative of the results to be expected for the full year.  The
Company has evaluated subsequent events for possible recognition and / or
disclosure through November 9, 2009, the date the consolidated financial
statements included in this Quarterly Report on Form 10Q were
issued.
 
 As
reported previously, on September 28, 2009, StellarOne Corporation announced
that its subsidiary, StellarOne Bank, signed a purchase and assumption agreement
to sell a financial service center located in Farmville, Virginia to The Farmers
Bank of Appomattox, with principal offices located in Appomattox,
Virginia.  The branch sale, which is subject to regulatory approval,
includes all deposit accounts, fixed assets, and real estate. Branch deposits
amount to approximately $14.5 million. The proposed transaction is expected to
close in the first quarter of 2010.
 
 2.       Participation
in U.S. Treasury Capital Purchase Program “CPP”
 
 On
December 19, 2008, the Company issued 30,000 shares of preferred stock to
the U.S. Treasury for $30 million pursuant to the CPP. Additionally, the
Company issued 302,623 common stock warrants to the U.S. Treasury as a condition
to its participation in the CPP. The warrants are immediately exercisable,
expire 10 years from the date of issuance and have an exercise price of
$14.87 per share.  Proceeds from this sale of preferred stock have
been used to support general lending activities and provide liquidity for
mortgage modification and builder loan programs.  The CPP preferred
stock is non-voting, other than having class voting rights on certain matters,
and pays cumulative dividends quarterly at a rate of 5% per annum for the first
five years and 9% thereafter. The Company may redeem the preferred shares with
the approval of the Federal Reserve at par value plus accrued and unpaid
dividends.
 
 As noted
$1.9 million was assigned to the common stock warrants based on their
relative fair value, accordingly, $28.1 million has been assigned to the
Series A preferred stock and will be accreted up to the redemption amount
of $30 million over the next five years.
  8
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 3.
              Investment
      Securities
 
 A summary
of the amortized cost and estimated fair value of securities with gross
unrealized gains and losses is presented below.
  September
      30, 2009
                  
                  
                  December
      31, 2008Gross
                  
                  
                  Gross
                  
                  
                  Estimated
                  
                  
                  
                  
                  
                  Gross
                  
                  
                  Gross
                  
                  
                  EstimatedAmortized
                  
                  
                  Unrealized
                  
                  
                  Unrealized
                  
                  
                  Fair
                  
                  
                  Amortized
                  
                  
                  Unrealized
                  
                  
                  Unrealized
                  
                  
                  FairCost
                  
                  
                  Gains
                  
                  
                  (Losses)
                  
                  
                  Value
                  
                  
                  Cost
                  
                  
                  Gains
                  
                  
                  (Losses)
                  
                  
                  ValueSecurities
      Held to Maturity:State
      and municipal
                  
                  $
                  426
                  
                  
                  $
                  5
                  
                  
                  $
                  -
                  
                  
                  $
                  431
                  
                  
                  $
                  894
                  
                  
                  $
                  3
                  
                  
                  $
                  -
                  
                  
                  $
                  897Mortgage
      backed securities
                  
                  
                  22
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  22
                  
                  
                  
                  26
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  26Total
                  
                  $
                  448
                  
                  
                  $
                  5
                  
                  
                  $
                  -
                  
                  
                  $
                  453
                  
                  
                  $
                  920
                  
                  
                  $
                  3
                  
                  
                  $
                  -
                  
                  
                  $
                  923Securities
      Available for Sale:U.
      S. Treasuries
                  
                  $
                  20,227
                  
                  
                  $
                  42
                  
                  
                  $
                  -
                  
                  
                  $
                  20,269
                  
                  
                  $
                  -
                  
                  
                  $
                  -
                  
                  
                  $
                  -
                  
                  
                  $
                  -U.
      S. Government agencies
                  
                  
                  65,789
                  
                  
                  
                  1,072
                  
                  
                  
                  (9
                  )
                  
                  
                  66,852
                  
                  
                  
                  68,477
                  
                  
                  
                  1,107
                  
                  
                  
                  (36
                  )
                  
                  
                  69,548State
      and municipals
                  
                  
                  112,658
                  
                  
                  
                  5,079
                  
                  
                  
                  (74
                  )
                  
                  
                  117,663
                  
                  
                  
                  86,021
                  
                  
                  
                  1,031
                  
                  
                  
                  (287
                  )
                  
                  
                  86,765Corporate
      bonds
                  
                  
                  6,568
                  
                  
                  
                  342
                  
                  
                  
                  -
                  
                  
                  
                  6,910
                  
                  
                  
                  7,603
                  
                  
                  
                  48
                  
                  
                  
                  (189
                  )
                  
                  
                  7,462Collateralized
      mortgage obligations
                  
                  
                  8,954
                  
                  
                  
                  124
                  
                  
                  
                  (378
                  )
                  
                  
                  8,700
                  
                  
                  
                  12,375
                  
                  
                  
                  7
                  
                  
                  
                  (604
                  )
                  
                  
                  11,778Mortgage
      backed securities
                  
                  
                  117,612
                  
                  
                  
                  4,717
                  
                  
                  
                  -
                  
                  
                  
                  122,329
                  
                  
                  
                  145,321
                  
                  
                  
                  3,587
                  
                  
                  
                  (59
                  )
                  
                  
                  148,849Certificates
      of deposit
                  
                  
                  677
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  677
                  
                  
                  
                  747
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  747Equity
      securities
                  
                  
                  2,112
                  
                  
                  
                  -
                  
                  
                  
                  (192
                  )
                  
                  
                  1,920
                  
                  
                  
                  3,933
                  
                  
                  
                  2
                  
                  
                  
                  (1,920
                  )
                  
                  
                  2,015Other
                  
                  
                  11
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  11
                  
                  
                  
                  9
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  9Total
                  
                  $
                  334,608
                  
                  
                  $
                  11,376
                  
                  
                  $
                  (653
                  )
                  
                  $
                  345,331
                  
                  
                  $
                  324,486
                  
                  
                  $
                  5,782
                  
                  
                  $
                  (3,095
                  )
                  
                  $
                  327,173
 The book
value of securities pledged to secure deposits and for other purposes amounted
to $156.9 million and $120.0 million at September 30, 2009 and December 31,
2008, respectively.
 
 Sales of
securities available for sale were as follows:
  Three
      Months Ended
                
                
                Nine
      Months EndedSeptember
      30,
                
                
                September
      30,2009
                
                
                2008
                
                
                2009
                
                
                2008Proceeds
      from sales
                
                $
                11,015
                
                
                $
                1,741
                
                
                $
                30,320
                
                
                $
                90,084Gross
      realized gains
                
                
                36
                
                
                
                1
                
                
                
                50
                
                
                
                650Gross
      realized losses
                
                
                (5
                )
                
                
                (60
                )
                
                
                (5
                )
                
                
                (470
                )Impairment
      losses
                
                
                (1,870
                )
                
                
                (274
                )
                
                
                (1,870
                )
                
                
                (274
                )
 As of
September 30, 2009, securities with unrealized losses segregated by length of
impairment were as follows:
  Less
      than 12 months
                  
                  
                  12
      months or more
                  
                  
                  TotalDescription
      of Securities
                  
                  Estimated
                  
                  
                  Unrealized
                  
                  
                  Estimated
                  
                  
                  Unrealized
                  
                  
                  Estimated
                  
                  
                  UnrealizedFair
      Value
                  
                  
                  Losses
                  
                  
                  Fair
      Value
                  
                  
                  Losses
                  
                  
                  Fair
      Value
                  
                  
                  LossesAvailable
      for SaleU.
      S. Government Agencies
                  
                  $
                  4,006
                  
                  
                  $
                  9
                  
                  
                  $
                  -
                  
                  
                  $
                  -
                  
                  
                  $
                  4,006
                  
                  
                  $
                  9Mortgage
      backed securities
                  
                  
                  49
                  
                  
                  
                  -
                  
                  
                  
                  9
                  
                  
                  
                  -
                  
                  
                  
                  58
                  
                  
                  
                  -State
      and municipals
                  
                  
                  3,281
                  
                  
                  
                  60
                  
                  
                  
                  472
                  
                  
                  
                  14
                  
                  
                  
                  3,753
                  
                  
                  
                  74Collateralized
      mortgage obligations
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  3,108
                  
                  
                  
                  378
                  
                  
                  
                  3,108
                  
                  
                  
                  378Subtotal
      debt securities
                  
                  
                  7,336
                  
                  
                  
                  69
                  
                  
                  
                  3,589
                  
                  
                  
                  392
                  
                  
                  
                  10,925
                  
                  
                  
                  461Equity
      securities
                  
                  
                  51
                  
                  
                  
                  11
                  
                  
                  
                  808
                  
                  
                  
                  181
                  
                  
                  
                  859
                  
                  
                  
                  192Total
                  
                  $
                  7,387
                  
                  
                  $
                  80
                  
                  
                  $
                  4,397
                  
                  
                  $
                  573
                  
                  
                  $
                  11,784
                  
                  
                  $
                  653
 9
 Table of Contents
 
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 Declines
in the fair value of held-to-maturity and available-for-sale securities below
their cost that are deemed to be other than temporary are reflected in earnings
as realized losses to the extent the impairment is related to credit losses. The
amount of the impairment related to other factors is recognized in other
comprehensive income. In estimating other-than-temporary impairment losses,
management considers, among other things, (i) the length of time and the
extent to which the fair value has been less than cost, (ii) the financial
condition and near-term prospects of the issuer, and (iii) the intent and
ability of the Company to retain its investment in the issuer for a period of
time sufficient to allow for any anticipated recovery in cost.
 
 As of
September 30, 2009, management does not have the intent to sell any of the
securities classified as available for sale in the table above and believes that
it is more likely than not that the Company will not have to sell any such
securities before a recovery of cost. The unrealized losses are largely due to
increases in market interest rates over the yields available at the time the
underlying securities were purchased. The fair value is expected to recover as
the bonds approach their maturity date or repricing date or if market yields for
such investments decline. Management does not believe such securities are
other-than-temporarily impaired due to reasons of credit quality. Accordingly,
as of September 30, 2009, management believes the impairments detailed in
the table above are temporary and no impairment loss has been realized in the
Company’s consolidated income statement, other than the other-than-temporary
impairment loss related to our bank equity securities..
 
 The
amortized cost and estimated fair value of securities at September 30, 2009
are presented below by contractual maturity. Expected maturities may differ from
contractual maturities because issuers may have the right to call or prepay
obligations. Equity securities are shown separately since they are not due at a
single maturity date.
  Held
      to Maturity
                    
                    
                    Available
      for SaleAmortized
      Cost
                    
                    
                    Fair
      Value
                    
                    
                    Amortized
      Cost
                    
                    
                    Fair
      ValueDue
      in one year or less
                    
                    $
                    426
                    
                    
                    $
                    431
                    
                    
                    $
                    34,475
                    
                    
                    $
                    34,783Due
      after one year through five years
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    103,502
                    
                    
                    
                    106,390Due
      after five years through ten years
                    
                    
                    22
                    
                    
                    
                    22
                    
                    
                    
                    66,071
                    
                    
                    
                    68,647Due
      after ten years
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    128,437
                    
                    
                    
                    133,580Equity
      securities
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    2,112
                    
                    
                    
                    1,920Other
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    11
                    
                    
                    
                    11Total
                    
                    $
                    448
                    
                    
                    $
                    453
                    
                    
                    $
                    334,608
                    
                    
                    $
                    345,331
 4.
              Impairment
      of Investment Securities
 
 During
the quarter ended September 30, 2009, management revised its methodology and
related policy for the evaluation of equity securities impairment in order to
comply with related guidance under US Generally Accepted Accounting Principles
(GAAP).  Management has determined that other-than-temporary
impairment exists and should be recorded if the fair value of an equity security
represents (1) less than 70% of the book value of a security regardless of loss
period or (2) if the loss period has been more than 18 months regardless of the
fair value’s relationship to carrying value.  If either of these
conditions do not exist, but management becomes aware of possible impairment
outside of this scope, management will conduct additional research to determine
if market price recoveries can reasonably be expected to occur within an
acceptable forecast period.  For purposes of this analysis, a near
term recovery period has been defined as 3-6 months.
  10
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 This
change has been necessitated based on management’s interpretations of SAB Topic
5M and related authoritative accounting
guidance and discussions with the U.S. Securities and Exchange Commission
(“SEC”) regarding the consideration of impairment on equity securities. After
revising the policy to conform with GAAP in October 2009, management applied the
revised criteria to the Company’s bank equities investments at September 30,
2009 and determined that it was appropriate to record an other-than-temporary
impairment charge to the consolidated income statement of $1.9 million on a
pre-tax basis during the third quarter of 2009 which is reflected in these
consolidated financial statements.  Misstatements in previously filed
financial statements noted through applying our previous non-GAAP compliant
policy compared to our revised policy were deemed to be immaterial.
  5.
                Loans
      Receivable
 
 The
Company’s loan portfolio is composed of the following (In
thousands):
  September
      30,
                
                
                December
      31,2009
                
                
                2008(unaudited)Real
      estate loans:Construction
      and land development
                
                $
                319,067
                
                
                $
                380,833Secured
      by 1-4 family residential
                
                
                726,788
                
                
                
                706,727Commercial
      and multifamily
                
                
                914,986
                
                
                
                876,649Commercial,
      financial and agricultural loans
                
                
                207,346
                
                
                
                225,637Consumer
      loans
                
                
                46,908
                
                
                
                60,042All
      other loans
                
                
                6,819
                
                
                
                13,403Total
      loans
                
                
                2,221,914
                
                
                
                2,263,291Deferred
      loan costs
                
                
                1,009
                
                
                
                1,295Allowance
      for loan losses
                
                
                (41,040
                )
                
                
                (30,464
                )Net
      loans
                
                $
                2,181,883
                
                
                $
                2,234,122
 6.
                Allowance
      for Loan Losses
 
 Activity
in the allowance for loan losses is as follows (In
thousands):
  September
      30,
              
              
              December
      31,
              
              
              September
      30,2009
              
              
              2008
              
              
              2008(unaudited)
              
              
              
              
              
              (unaudited)Balance,
      beginning
              
              $
              30,464
              
              
              $
              15,082
              
              
              $
              15,082Provisions
      for loan losses
              
              
              34,300
              
              
              
              20,787
              
              
              
              9,787Loans
      charged off
              
              
              (25,796
              )
              
              
              (18,191
              )
              
              
              (5,212
              )Recoveries
              
              
              2,072
              
              
              
              1,247
              
              
              
              905Net
      charge-offs
              
              
              (23,724
              )
              
              
              (16,944
              )
              
              
              (4,307
              )Allowance
      assumed via acquisition
              
              
              -
              
              
              
              11,539
              
              
              
              11,539Balance,
      ending
              
              $
              41,040
              
              
              $
              30,464
              
              
              $
              32,101
 11
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 Information about impaired loans as of
the periods indicated is as follows (In thousands):
  September
      30,
                
                
                December
      31,2009
                
                
                2008(unaudited)Impaired
      loans for which an allowance has been provided
                
                $
                40,508
                
                
                $
                34,055Impaired
      loans for which an allowance has not been provided
                
                
                16,045
                
                
                
                24,650Total
      impaired loans
                
                $
                56,553
                
                
                $
                58,705Allowance
      provided for impaired loans, included in the allowance for loan
      losses
                
                $
                6,271
                
                
                $
                5,503
 7.   (Loss)
Earnings Per Share
 
 The
following shows the weighted average number of shares used in computing (loss)
earnings per share and the effect on weighted average number of shares of
diluted potential common stock for the three month periods ended September 30,
2009 and 2008.  Potential dilutive stock had no effect on (loss)
income available to common stockholders for the three month period.
  September
      30,
                
                
                September
      30,(In
      thousands, except per share amounts)
                
                2009
                
                
                2008(unaudited)
                
                
                (unaudited)Net
      (loss) income
                
                $
                (8,895
                )
                
                $
                2,029Less:Preferred
      stock dividends
                
                
                (378
                )
                
                
                -Accretion
      of preferred stock discount
                
                
                (86
                )
                
                
                -Net
      (loss) income available to common shareholders (numerator)
                
                $
                (9,359
                )
                
                $
                2,029(Loss)
      earnings per common shareWeighted
      average common shares outstanding (denominator)
                
                
                22,657,474
                
                
                
                22,599,189(Loss)
      earnings per common share
                
                $
                (0.41
                )
                
                $
                0.09Diluted
      (loss) earnings per common shareWeighted
      average common shares issued and outstanding
                
                
                22,657,474
                
                
                
                22,599,189Add:Restricted
      stock
                
                
                -
                
                
                
                20,516Incentive
      stock options
                
                
                -
                
                
                
                6,278Stock
      options
                
                
                -
                
                
                
                43,401Diluted
      weighted average common shares outstanding (denominator)
                
                
                22,657,474
                
                
                
                22,669,384Diluted
      (loss) earnings per common share
                
                $
                (0.41
                )
                
                $
                0.09
 12
 Table of Contents
 
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 The
following shows the weighted average number of shares used in computing (loss)
earnings per share and the effect on weighted average number of shares of
diluted potential common stock for the nine month periods ended September 30,
2009 and 2008.  Potential dilutive stock had no effect on (loss)
income available to common stockholders for the nine month period.
  September
      30,
                  
                  
                  September
      30,(In
      thousands, except per share amounts)
                  
                  2009
                  
                  
                  2008(unaudited)
                  
                  
                  (unaudited)Net
      (loss) income
                  
                  $
                  (9,076
                  )
                  
                  $
                  10,256Less:Preferred
      stock dividends
                  
                  
                  (1,122
                  )
                  
                  
                  -Accretion
      of preferred stock discount
                  
                  
                  (245
                  )
                  
                  
                  -Net
      (loss) income available to common shareholders (numerator)
                  
                  $
                  (10,443
                  )
                  
                  $
                  10,256(Loss)
      earnings per common shareWeighted
      average common shares outstanding (denominator)
                  
                  
                  22,639,473
                  
                  
                  
                  20,095,261(Loss)
      earnings per common share
                  
                  $
                  (0.46
                  )
                  
                  $
                  0.51Diluted
      (loss) earnings per common shareWeighted
      average common shares issued and outstanding
                  
                  
                  22,639,473
                  
                  
                  
                  20,095,261Add:Restricted
      stock
                  
                  
                  -
                  
                  
                  
                  16,213Incentive
      stock options
                  
                  
                  -
                  
                  
                  
                  7,816Stock
      options
                  
                  
                  -
                  
                  
                  
                  45,600Diluted
      weighted average common shares outstanding (denominator)
                  
                  
                  22,639,473
                  
                  
                  
                  20,164,890Diluted
      (loss) earnings per common share
                  
                  $
                  (0.46
                  )
                  
                  $
                  0.51
 Due to
the loss available to common shareholders during the three and nine month
periods in 2009 all unvested restricted stock and stock options would have been
anti-dilutive and were not included in the three or nine month calculations for
2009.  In 2008, stock options representing 368,652and 348,316shares were not included
in the three and nine month calculations of earnings per share, respectively, as
their effect would have been anti-dilutive.
  13
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 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 8.    
Stock-Based Compensation
 
 Stock-based
compensation expense included within compensation and employee benefits expense totaled$113 thousand and $371 thousand during the three
and the nine months ended September 30, 2009 and $151 thousand and $1.7 million
during the three and nine months ended September 30, 2008.  An
acceleration adjustment of $1.3 million related to the merger is included in
compensation and employee benefit expense for the nine month period ended
September 30, 2008.
 
 Stock
option compensation expense is the estimated fair value of options granted
amortized on a straight-line basis over the requisite service period for each
separately vesting portion of the award.  Fair value was estimated
using the Black-Scholes option pricing model with the following assumptions for:
option term until exercise of approximately 4.5 to 6.5 years, volatility ranging
from 24.3 to 28.6%, risk-free interest rate of 1.90% to 2.68% and an expected
dividend yield of 3.7% to 4.3%.
 
 A summary
of the stock option plan at September 30, 2009 and 2008 and changes during the
periods ended on those dates are as follows:
  2009
              
              
              2008Weighted
              
              
              
              
              
              WeightedNumber
              
              
              Average
              
              
              Number
              
              
              Averageof
              
              
              Exercise
              
              
              of
              
              
              ExerciseShares
              
              
              Price
              
              
              Shares
              
              
              PriceOutstanding,
      January 1
              
              
              614,198
              
              
              $
              18.58
              
              
              
              239,671
              
              
              $
              23.37Acquired
      via merger
              
              
              -
              
              
              
              -
              
              
              
              311,606
              
              
              
              14.02Granted
              
              
              17,392
              
              
              
              12.78
              
              
              
              123,061
              
              
              
              18.27Forfeited
              
              
              (5,672
              )
              
              
              -
              
              
              
              (4,093
              )
              
              
              21.16Expired
              
              
              -
              
              
              
              -
              
              
              
              (19,329
              )
              
              
              14.60Exercised
              
              
              (35,915
              )
              
              
              9.77
              
              
              
              (27,311
              )
              
              
              10.60Outstanding,
      September 30,
              
              
              590,003
              
              
              $
              18.93
              
              
              
              623,605
              
              
              $
              18.53Exercisable,
      September 30,
              
              
              475,075
              
              
              
              
              
              
              
              501,944
  The
aggregate intrinsic value of the options outstanding as of September 30, 2009
was $584 thousand.  The aggregate intrinsic value represents the total
pre-tax intrinsic value (the difference between the Company’s closing stock
price on the last trading day of the quarter ended September 30, 2009 and the
exercise price, multiplied by the number of options outstanding).  The
aggregate intrinsic value of the options currently exercisable as of September
30, 2009 was $550 thousand.  The weighted average remaining
contractual life is 4.0 years for exercisable options at September 30,
2009.
  14
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 The
following table summarizes nonvested restricted shares outstanding as of
September 30, 2009 and the related activity during the period:
  Nonvested
      Shares
              
              Number
      of Shares
              
              
              Weighted-Average Grant-Date Fair
      Value
              
              
              (In
      thousands)
                Total
      Intrinsic
                ValueNonvested
      at January 1, 2009
              
              
              35,401
              
              
              $
              16.31
              
              
              $
              598Granted
              
              
              56,821
              
              
              
              13.09Vested
      & Exercised
              
              
              (20,029
              )
              
              
              16.26
              
              
              $
              (253
              )Forfeited
              
              
              (200
              )
              
              
              15.65Nonvested
      at September 30, 2009
              
              
              71,993
              
              
              $
              13.78
              
              
              $
              1,062
  The
estimated unamortized compensation expense, net of estimated forfeitures,
related to nonvested stock and stock options issued and outstanding as of
September 30, 2009 that will be recognized in future periods is as follows (in
thousands):
  Stock
      Options
              
              
              Nonvested
                Restricted
      Stock
              
              
              TotalFor
      the remaining three months of 2009
              
              $
              17
              
              
              $
              107
              
              
              $
              124For
      year ended December 31,  2010
              
              
              70
              
              
              
              277
              
              
              
              347For
      year ended December 31,  2011
              
              
              70
              
              
              
              159
              
              
              
              229For
      year ended December 31,  2012
              
              
              71
              
              
              
              109
              
              
              
              180For
      year ended December 31,  2013
              
              
              24
              
              
              
              93
              
              
              
              117For
      year ended December 31,  2014
              
              
              1
              
              
              
              36
              
              
              
              37Total
              
              $
              253
              
              
              $
              781
              
              
              $
              1,034
  15
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 9.Fair
Value Measurements
 
 The fair
value of an asset or liability is the price that would be received to sell that
asset or paid to transfer that liability in an orderly transaction occurring in
the principal market (or most advantageous market in the absence of a principal
market) for such asset or liability. In estimating fair value, the Company
utilizes valuation techniques that are consistent with the market approach, the
income approach and/or the cost approach. Such valuation techniques are
consistently applied. Inputs to valuation techniques include the assumptions
that market participants would use in pricing an asset or liability. FASB ASC
Topic 820 establishes a fair value hierarchy for valuation inputs that gives the
highest priority to quoted prices in active markets for identical assets or
liabilities and the lowest priority to unobservable inputs. The fair value
hierarchy is as follows:
 
 Under the
guidance in ASC Topic 820, the Company groups assets and liabilities at fair
value in three levels, based on the markets in which the assets and liabilities
are traded and the reliability of the assumptions used to determine fair value.
An adjustment to the pricing method used within either Level 1 or Level 2 inputs
could generate a fair value measurement that effectively falls in a lower level
in the hierarchy. These levels are:
 
 Level 1:
Quoted prices (unadjusted) for identical assets or liabilities in active markets
that the entity has the ability to access as of the measurement
date.
 
 Level 2:
Significant other observable inputs other than Level 1 prices, such as quoted
prices for similar assets or liabilities, quoted prices in markets that are not
active, and other inputs that are observable or can be corroborated by
observable market data.
 
 Level 3:
Valuations for assets and liabilities that are derived from other valuation
methodologies, including option pricing models, discounted cash flow models and
similar techniques, and not based on market exchange, dealer, or broker traded
transactions. Level 3 valuations incorporate certain assumptions and projections
in determining the fair value assigned to such assets or
liabilities.
 
 The
following is a description of valuation methodologies used for assets and
liabilities recorded at fair value. The determination of where an asset or
liability falls in the hierarchy requires significant judgment. The Company
evaluates its hierarchy disclosures each quarter and based on various factors,
it is possible that an asset or liability may be classified differently from
quarter to quarter. However, the Company expects changes in classifications
between levels will be rare.
 
 Securities:
Investment securities are recorded at fair value on a recurring basis. Fair
value measurement is based upon quoted prices, if available. If quoted prices
are not available, fair values are measured using matrix pricing, which is a
mathematical technique used widely in the industry to value debt securities
without relying exclusively on quoted prices for the specific securities but
rather by relaying on the securities’ relationship to other benchmark quoted
securities. Level 1 securities include those traded on nationally recognized
securities exchanges, U.S. Treasury securities, and money market funds. Level 2
securities include U.S. Agency securities, mortgage-backed securities issued by
government sponsored entities, municipal bonds and corporate debt securities.
Securities classified as Level 3 include asset-backed securities in less liquid
markets.
 
 Loans
held for sale: The fair value of loans held for sale is determined, when
possible, using quoted secondary-market prices. If no such quoted price exists,
the fair value of a loan is determined using quoted prices for a similar asset
or assets, adjusted for the specific attributes of that loan. As such, the
Company classifies loans subjected to nonrecurring fair value adjustments as
Level 2.
  16
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 Loans:
The Company does not record loans at fair value on a recurring basis. However,
from time to time, a loan is considered impaired and an allowance for loan
losses is established. Loans for which it is probable that payment of interest
and principal will not be made in accordance with the contractual terms of the
loan agreement are considered impaired. Once a loan is identified as
individually impaired, management measures impairment in accordance with
authoritative accounting guidance under FASB ASC Topic 310, “Accounting by
Creditors for Impairment of a Loan”.  The fair value of impaired loans
is estimated using one of several methods, including collateral value, market
value of similar debt, enterprise value, liquidation value and discounted cash
flows. Those impaired loans not requiring an allowance represent loans for which
the fair value of the expected repayments or collateral exceed the recorded
investments in such loans. At September 30, 2009, substantially all of the total
impaired loans were evaluated based on the fair value of the collateral. In
accordance with guidance under FASB ASC Topic 310, impaired loans where an
allowance is established based on the fair value of collateral require
classification in the fair value hierarchy. When the fair value of the
collateral is based on an observable market price or a current appraised value,
the Company records the impaired loan as nonrecurring Level 2. When an appraised
value is not available or management determines the fair value of the collateral
is further impaired below the appraised value and there is no observable market
price, the Company records the impaired loan as nonrecurring Level
3.
 
 Foreclosed
assets: Foreclosed assets are adjusted to fair value upon transfer of the loans
to foreclosed assets. Subsequently, foreclosed assets are carried at net
realizable value. Fair value is based upon independent market prices, appraised
values of the collateral or management’s estimation of the value of the
collateral. When the fair value of the collateral is based on an observable
market price or a current appraised value, the Company records the foreclosed
asset as nonrecurring Level 2. When an appraised value is not available or
management determines the fair value of the collateral is further impaired below
the appraised value and there is no observable market price, the Company records
the foreclosed asset as nonrecurring Level 3.
 
 Deferred
compensation plans: Liabilities associated with deferred compensation plans are
recorded at fair value on a recurring basis as Level 1 based on the fair value
of the underlying securities. Fair value measurement is based upon the fair
value of the securities as described above.
 Assets
and Liabilities Measured on a Recurring Basis
 
 Assets
and liabilities measured at fair value on a recurring basis as of September 30,
2009 are summarized below (In thousands).
  Level
      1
              
              
              Level
      2
              
              
              Level
      3(unaudited)
              
              Total
              
              
              (Quoted
      Prices)
              
              
              (Significant
      Other Observable Inputs)
              
              
              (Significant
      Unobservable Inputs)Investment
      securities available-for-sale
              
              $
              345,331
              
              
              $
              22,200
              
              
              $
              323,131
              
              
              $
              -Total
      assets at fair value
              
              $
              345,331
              
              
              $
              22,200
              
              
              $
              323,131
              
              
              $
              -Other
      liabilities (1)
              
              $
              2,926
              
              
              $
              2,926
              
              
              $
              -
              
              
              $
              -Total
      liabilities at fair value
              
              $
              2,926
              
              
              $
              2,926
              
              
              $
              -
              
              
              $
              -(1)
      Includes liabilities associated with deferred compensation
      plans
  17
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 Assets
and Liabilities Measured on a Nonrecurring Basis
  The
Company may be required, from time to time, to measure certain assets at fair
value on a nonrecurring basis in accordance with U.S. generally accepted
accounting principles. These include assets that are measured at the lower of
cost or market whose fair value was recognized to be below cost at the end of
the period. Assets measured at fair value on a nonrecurring basis as of
September 30, 2009 are included in the table below (In thousands).
  Level
      1
              
              
              Level
      2
              
              
              Level
      3(unaudited)
              
              Total
              
              
              (Quoted
      Prices)
              
              
              (Significant
      Other Observable Inputs)
              
              
              (Significant
      Unobservable Inputs)Loans
      - impaired loans
              
              $
              56,553
              
              
              $
              -
              
              
              $
              32,423
              
              
              $
              24,130Loans
      held for sale - mortgage
              
              
              45,739
              
              
              
              -
              
              
              
              45,739
              
              
              
              -Foreclosed
      assets
              
              
              5,437
              
              
              
              -
              
              
              
              3,257
              
              
              
              2,180Total
      assets at fair value
              
              $
              107,729
              
              
              $
              -
              
              
              $
              81,419
              
              
              $
              26,310Total
      liabilities at fair value
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -
 
 FASB ASC
Topic 825, “Disclosures about Fair Value of Financial Instruments,” requires
disclosure of the fair value of financial assets and financial liabilities,
including those financial assets and financial liabilities that are not measured
and reported at fair value on a recurring basis or non-recurring basis. A
detailed description of the valuation methodologies used in estimating the fair
value of financial instruments is set forth in the 2008 Form 10-K.
 
 The
estimated fair values of financial instruments were as follows:
  September
      30, 2009
                  
                  
                  December
      31, 2008Carrying
                  
                  
                  Estimated
      Fair
                  
                  
                  Carrying
                  
                  
                  Estimated
      FairAmount
                  
                  
                  Value
                  
                  
                  Amount
                  
                  
                  ValueFinancial
      assets:Cash
      and cash equivalents
                  
                  $
                  148,398
                  
                  
                  $
                  148,398
                  
                  
                  $
                  115,529
                  
                  
                  $
                  115,529Investment
      securities
                  
                  
                  345,779
                  
                  
                  
                  345,784
                  
                  
                  
                  328,093
                  
                  
                  
                  328,096Mortgage
      loans held for sale
                  
                  
                  45,739
                  
                  
                  
                  45,739
                  
                  
                  
                  15,847
                  
                  
                  
                  15,847Loans,
      net
                  
                  
                  2,181,883
                  
                  
                  
                  2,198,654
                  
                  
                  
                  2,234,122
                  
                  
                  
                  2,248,579Accrued
      interest receivable
                  
                  
                  9,862
                  
                  
                  
                  9,862
                  
                  
                  
                  10,230
                  
                  
                  
                  10,230Financial
      liabilities:Deposits
                  
                  $
                  2,404,421
                  
                  
                  $
                  2,418,756
                  
                  
                  $
                  2,323,108
                  
                  
                  $
                  2,340,791Federal
      funds purchased and securities sold under agreements to
      repurchase
                  
                  
                  572
                  
                  
                  
                  572
                  
                  
                  
                  699
                  
                  
                  
                  699Federal
      Home Loan Bank advances
                  
                  
                  145,000
                  
                  
                  
                  150,610
                  
                  
                  
                  187,700
                  
                  
                  
                  195,955Subordinated
      debt
                  
                  
                  32,991
                  
                  
                  
                  32,992
                  
                  
                  
                  32,991
                  
                  
                  
                  33,086Accrued
      interest payable
                  
                  
                  4,211
                  
                  
                  
                  4,211
                  
                  
                  
                  5,476
                  
                  
                  
                  5,476
 18
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 10.
              Restricted
      Investment in Bank Stock
 
 Restricted
stock, which represents a required investment in the common stock of a
correspondent bank, is carried at cost and, as of September 30, 2009 and
December 31, 2008, consisted of the common stock of the Federal Home Loan Bank
(“FHLB”) of Atlanta.
 
 Management
evaluates the restricted stock for impairment in accordance with authoritative
accounting guidance under ASC Topic 320, “Accounting by Certain Entities
(Including Entities With Trade Receivables) That Lend to or Finance the
Activities of Others.”  Management’s determination of whether these
investments are impaired is based on their assessment of the ultimate
recoverability of their cost rather than by recognizing temporary declines in
value.  The determination of whether a decline affects the ultimate
recoverability of the cost of an investment is influenced by criteria such as
(1) the significance of the decline in net assets of the issuing bank as
compared to the capital stock amount for that bank and the length of time this
situation has persisted, (2) commitments by the issuing bank to make payments
required by law or regulation and the level of such payments in relation to the
operating performance of that bank, and (3) the impact of legislative and
regulatory changes on institutions and, accordingly, on the customer base of the
issuing bank.
 
 The FHLB
of Atlanta announced that it would no longer provide dividend guidance prior to
the end of each quarter.  The FHLB of Atlanta also announced that it
will no longer conduct repurchases of excess activity-based stock on a daily
basis, but will make such determinations quarterly.  The FHLB of
Atlanta announced on October 30, 2009 that is has approved a dividend at the
rate of 0.41% for the third quarter of 2009.  Additionally, they also
announced that it will not repurchase activity-based excess capital stock
outstanding as of the end of the third quarter 2009.
 
 Based on
evaluation of criteria under ASC Topic 320, management believes that no
impairment charge in respect of the restricted stock is necessary as of
September 30, 2009.
 
 11.
              New
      Authoritative Accounting Guidance
 
 Accounting Standards
Codification — The Financial Accounting Standards Board’s (FASB)
Accounting Standards Codification (ASC) became effective on July 1, 2009.
At that date, the ASC became FASB’s officially recognized source of
authoritative GAAP applicable to all public and non-public non-governmental
entities, superseding existing FASB, American Institute of Certified Public
Accountants (AICPA), Emerging Issues Task Force (EITF) and related literature.
Rules and interpretive releases of the SEC under the authority of federal
securities laws are also sources of authoritative GAAP for SEC registrants. All
other accounting literature is considered non-authoritative. The switch to the
ASC affects the way companies refer to U.S. GAAP in financial statements and
accounting policies. Citing particular content in the ASC involves specifying
the unique numeric path to the content through the Topic, Subtopic, Section and
Paragraph structure.  The adoption ofFASBASC had
no impact on the Company’s consolidated financial
statements.
  19
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 FASB ASC Topic 320, “Investments —
Debt and Equity Securities,” — New authoritative accounting guidance
under ASC Topic 320, amends current other-than-temporary impairment guidance in
GAAP for debt securities to make the guidance more operational and to improve
the presentation and disclosure of other-than-temporary impairments on debt and
equity securities in the financial statements.  The new guidance under
ASC Topic 320 does not amend existing recognition and measurement guidance
related to other-than-temporary impairments of equity securities, however, it
requires an entity to recognize the credit component of an other-than-temporary
impairment of a debt security in earnings and any remaining portion in the other
comprehensive income category of stockholders’ equity, if the entity does not
intend to sell the security and it is more likely than not that the entity will
not have to sell the security before recovery of its cost basis.  The
Company adopted the new guidance under ASC Topic 320 during the period ended
June 30, 2009.  There was no impact from the adoption of new
guidance under ASC Topic 320 on the Company’s
consolidated financial statements.
 
 FASB ASC Topic 820 “Fair Value
Measurement” — In April 2009, the FASB issued new authoritative
accounting guidance under ASC Topic 820 that provides additional guidance for
estimating fair value when the volume and level of activity for the asset or
liability have decreased significantly and also includes guidance on identifying
circumstances that indicate a transaction is not orderly. The new guidance under
ASC Topic 820 emphasizes that even if there has been a significant decrease in
the volume and level of activity for the asset or liability and regardless of
the valuation technique used, the objective of a fair value measurement remains
the same.  Fair value is defined as the price that would be received
to sell an asset or paid to transfer a liability in an orderly transaction that
is, between market participants at the measurement date under current market
conditions with the assumption that the sale is not a forced liquidation or
distressed sale.. The new guidance under ASC Topic 820 was effective for fiscal
years and interim periods ending after June 15, 2009 with early adoption
permitted for periods ending after March 15, 2009. There was no impact on
the Company’s consolidated financial statements as a result of adopting new
guidance under ASC Topic 820.
 
 FASB ASC Topic 825,”Financial
Instruments”— In April 2009, the FASB issued new authoritative accounting
guidance under ASC topic 825, ”Financial Instruments” which requires disclosures
about the fair value of financial instruments for public entities on an interim
basis that previously were required only in annual financial
statements.  The provisions of ASC Topic 825 were effective for fiscal years
and interim periods ending after June 15, 2009 with early adoption
permitted for periods ending after March 15, 2009.  As the
guidance amends only the disclosure requirements about fair value of financial
instruments in interim periods, the adoption of new authoritative
accounting guidance under ASC Topic 825 had no impact on the Company’s
consolidated financial statements.
 
 FASB ASC Topic 855, “Subsequent
Events” — The Company adopted the new authoritative
accounting guidance under ASC Topic 855, during the period ended
June 30, 2009.  ASC Topic 855 requires entities to recognize in
the financial statements the effect of all events or transactions that provide
additional evidence of conditions that existed at the balance sheet date,
including the estimates inherent in the financial preparation
process.  However, events or transactions that provide evidence about
conditions that did not exist at the balance sheet date but arose after that
date shall not be recognized.  The adoption of the guidance under ASC
Topic 855 did not impact the Company’s consolidated financial statements. We
evaluated all events or transactions that occurred after September 30,
2009, through November 9, 2009, the date we issued these consolidated financial
statements. Please see Note 12 “Subsequent Event” for a subsequent event
disclosure included in the September 30, 2009 consolidated financial
statements.
  20
 Table of Contents
  
 STELLARONE
CORPORATION AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
 FASB ASC Topic 860, “Transfers and
Servicing.” — New authoritative accounting guidance under ASC Topic 860,
“Transfers and Servicing,” amends prior accounting guidance to enhance reporting
about transfers of financial assets, including securitizations, and where
companies have continuing exposure to the risks related to transferred financial
assets. The new authoritative accounting guidance eliminates the concept of a
“qualifying special-purpose entity” and changes the requirements for
derecognizing financial assets. The new authoritative accounting guidance also
requires additional disclosures about all continuing involvements with
transferred financial assets including information about gains and losses
resulting from transfers during the period. The new authoritative accounting
guidance under ASC Topic 860 will be effective January 1, 2010 and is not
expected to have a significant impact on the Company’s consolidated financial
statements.
 
 12.   Subsequent
Event
 
 On
November 6, 2009, StellarOne Corporation’s subsidiary, StellarOne Bank,
completed the sale of a financial service center located in Woodstock, Virginia
to First Bank, with principal offices located in Strasburg,
Virginia.  First Bank assumed the deposits and fixed assets and paid
the Company a premium on the outstanding deposits.  StellarOne Bank
retained the outstanding loans while total deposits transferred to First Bank
totaled approximately $14.3 million. Management anticipates recognizing a
pre-tax gain of approximately $200 thousand in connection with this
transaction.
  21
 Table of Contents
  
 STELLARONE
CORPORATION
 ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
 
 The
following discussion provides management’s analysis of the consolidated
financial results of operations, financial condition, liquidity and capital
resources of StellarOne Corporation (“StellarOne,” or the “Company”) and its
affiliates.  This discussion and analysis should be read in
conjunction with the financial statements and footnotes appearing elsewhere in
this report.
 
 OVERVIEW
 
 StellarOne
Corporation is a bank holding company incorporated under the laws of the
Commonwealth of Virginia. Currently, StellarOne is one of the largest
independent commercial bank holding companies headquartered in the Commonwealth
of Virginia. The Company’s sole banking affiliate is StellarOne Bank
headquartered in Christiansburg, Virginia.  Additional affiliates of
the Company include VFG Limited Liability Trust and FNB (VA) Statutory Trust II
both of which are associated with the Company’s subordinated debt issues and are
not subject to consolidation.  The Company collapsed all of its
previous affiliates into StellarOne Bank on May 27, 2008.  The
organization has a network of fifty-seven full-service financial centers, one
loan production office, and sixty-six ATMs stretching from the New River Valley,
Roanoke Valley, Shenandoah Valley and Central and North Central
Virginia.
 
 Critical
Accounting Policies
 
 General
 
 The
Company’s financial statements are prepared in accordance with accounting
principles generally accepted in the United States (“GAAP”).  The
financial information contained within our statements is, to a significant
extent, financial information that is based on measures of the financial effects
of transactions and events that have already occurred.  A variety of
factors could affect the ultimate value that is obtained either when earning
income, recognizing an expense, recovering an asset or relieving a
liability.  We use historical loss factors as one factor in
determining inherent losses in our loan portfolio.  Actual losses
could differ significantly from the historical factors that we use.
 
 Investment
Securities
 
 Debt
securities that management has the positive intent and ability to hold to
maturity are classified as “held to maturity” and recorded at amortized
cost.  Securities not classified as held to maturity, including equity
securities with readily determinable fair values, are classified as “available
for sale” and recorded at fair value, with unrealized gains and losses excluded
from earnings and reported in other comprehensive income.  The initial
classification of securities is determined at the date of purchase.
 
 During
the quarter ended September 30, 2009, management revised its methodology and
related policy for the evaluation of equity securities impairment in order to
comply with related guidance under US Generally Accepted Accounting Principles
(GAAP).  Management has determined that other-than-temporary
impairment exists and should be recorded if the fair value of an equity security
represents (1) less than 70% of the book value of a security regardless of loss
period or (2) if the loss period has been more than 18 months regardless of the
fair value’s relationship to carrying value.  If either of these
conditions do not exist, but management becomes aware of possible impairment
outside of this scope, management will conduct additional research to determine
if market price recoveries can reasonably be expected to occur within an
acceptable forecast period.  For purposes of this analysis, a near
term recovery period has been defined as 3-6 months.
  22
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 This
change has been necessitated based on management’s interpretations of SAB Topic
5M and related authoritative accounting guidance and discussions with the U.S.
Securities and Exchange Commission (“SEC”) regarding the consideration of
impairment on equity securities. After revising the policy to conform with GAAP
in October 2009, management applied the revised criteria to the Company’s bank
equities investments at September 30, 2009 and determined that it was
appropriate to record an other-than-temporary impairment charge to the
consolidated income statement of $1.9 million on a pre-tax basis during the
third quarter of 2009 which is reflected in these consolidated financial
statements.  Misstatements in previously filed financial statements
noted through applying our previous non-GAAP compliant policy compared to our
revised policy were deemed to be immaterial.
 
 Purchase
premiums and discounts are recognized in interest income using the interest
method over the terms of the securities.  Declines in the fair value
of held to maturity and available for sale securities below their cost that are
deemed to be other than temporary are reflected in earnings as realized
losses.  In estimating other-than-temporary impairment losses,
management considers (1) the length of time and the extent to which the fair
value has been less than cost, (2) the financial condition and near term
prospects of the issuer, and (3) the intent and ability of the Company to retain
its investment in the issuer for a period of time sufficient to allow for any
anticipated increase in fair value.  Gains and losses on the sale of
securities are recorded on the trade date and are determined using the specific
identification method. There are a total of eleven (11) securities that had
unrealized losses for 12 months or more as of September 30, 2009 totaling $573
thousand.  StellarOne has the ability and intent to hold these
securities for the time thought to be necessary to recover its cost, and does
not consider them to be other-than-temporarily impaired at September 30,
2009.
 
 Allowance
for Loan Losses
 
 The
allowance for loan losses is established as losses are estimated to have been
incurred, but not realized through a provision for loan losses charged to
earnings.  Loan losses are charged against the allowance when
management believes the uncollectibility of a loan balance is
confirmed.  Subsequent recoveries, if any, are credited to the
allowance.
 
 The
Company’s banking subsidiary conducts an analysis of the loan portfolio on a
regular basis.  This analysis is used in assessing the sufficiency of
the allowance for loan losses and in the determination of the necessary
provision for loan losses.  The review process generally begins with
lenders identifying problem loans to be reviewed on an individual basis for
impairment.  When a loan has been identified as impaired, a specific
reserve may be established based on management’s calculation of the loss
embedded in the individual loan.  Loans meeting the criteria for
impairment are segregated for analysis from performing loans within the
portfolio.  In addition to impairment testing, the banking subsidiary
has a ten point grading system for each non-homogeneous loan in the
portfolio.  Loans are then grouped by loan type and, in the case of
commercial and construction loans, by risk rating.  Each loan type is
assigned an allowance factor based on historical loss experience, economic
conditions, overall portfolio quality including delinquency rates and commercial
real estate loan concentrations. The total of specific reserves required for
impaired classified loans and the calculated reserves by loan category are then
used to compute an estimated range of losses which is then compared to the
recorded allowance for loan losses.  This is the methodology used to
determine the sufficiency of the allowance for loan losses and the amount of the
provision for loan losses.  This evaluation is inherently subjective
as it requires estimates that are susceptible to significant revision as more
information becomes available.
  23
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 A loan is considered impaired when,
based on current information and events, it is probable that the Company will be
unable to collect the scheduled payments of principal or interest when due
according to the contractual terms of the loan agreement.  Factors
considered by management in determining impairment include payment status,
collateral value, and the probability of collecting scheduled principal and
interest payments when due.  Loans that experience insignificant
payment delays and payment shortfalls generally are not classified as
impaired.  Management determines the significance of payment delays
and payment shortfalls on a case-by-case basis, taking into consideration all of
the circumstances surrounding the loan and the borrower, including the length of
the delay, the reasons for the delay, the borrower’s prior payment record, and
the amount of the shortfall in relation to the principal and interest
owed.  Impairment is measured on a loan-by-loan basis for commercial
and construction loans by either the present value of expected future cash flows
discounted at theloan’s effective interest rate, the loan’s obtainable
market price, or the fair value of the collateral if the loan is collateral
dependent.Larger
groups of smaller balance homogeneous loans are collectively evaluated for
impairment.
 
  Goodwill
  Goodwill
and intangible assets that have indefinite useful lives are evaluated for
impairment annually and are evaluated for impairment more frequently if events
and circumstances indicate that the asset might be impaired. That annual
assessment date is September 30. An impairment loss is recognized to the
extent that the carrying amount exceeds the asset’s fair
value.  Additionally, acquired intangible assets (such as core deposit
intangibles) are separately recognized if the benefit of the asset can be sold,
transferred, licensed, rented, or exchanged, and amortized over their useful
life.   The cost of purchased deposit relationships and other
intangible assets, based on independent valuation, are being amortized over
their estimated lives not to exceed fifteen years.  Amortization
expense charged to operations was $1.3 million and $1.1 million for the nine
months ended September 30, 2009 and 2008, respectively.
 
 Income
Taxes
 
 Deferred
income tax assets and liabilities are determined using the liability (or balance
sheet) method.  Under this method, the net deferred tax asset or
liability is determined based on the tax effects of the temporary differences
between the book and tax bases of the various balance sheet assets and
liabilities and gives current recognition to changes in tax rates and
laws.  Deferred taxes are reduced by a valuation allowance when, in
the opinion of management, it is more likely than not that some portion or all
of the deferred tax assets will not be realized.
 
 Stock-Based
Compensation
 
 The
Company has a stock-based employee compensation plan under which nonqualified
stock options may be granted periodically to certain employees.  The
Company’s stock options typically have an exercise price equal to at least the
fair value of the stock on the date of grant, and vest based on continued
service with the Company for a specified period, generally five years. The
Company recognizes the associated compensation cost relating to share-based
payment transactions in the consolidated financial statements. The cost is
measured based on the fair value of the equity or liability instruments
issued.
 
 New
awards to employees eligible for retirement prior to the award becoming fully
vested are recognized as compensation cost over the period through the date that
the employee first becomes eligible to retire and is no longer required to
provide service to earn the award.
  24
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 Non-GAAP
Financial Measures
 
 This
report refers to the efficiency ratio, which is computed by dividing
non-interest expense by the sum of net interest income on a tax equivalent basis
and non-interest income excluding gains or losses on securities, fixed assets
and foreclosed assets.  Additionally we refer and define noninterest
income on an operating basis below in our discussions of
operations.  These are non-GAAP financial measures that we believe
provide investors with important information regarding our operational
efficiency. Such information is not in accordance with GAAP and should not be
construed as such. Management believes such financial information is meaningful
to the reader in understanding operating performance, but cautions that such
information not be viewed as a substitute for GAAP. The Company, in referring to
its net income, is referring to income under GAAP.
 
 Results
of Operations
 
 The
Company’s loss for the third quarter of 2009 was $8.9 million, or a net loss
available to common shareholders of $9.4 million, or $0.41 per diluted common
share. Those results compare to net income of $2.0 million, or diluted earnings
per share of $0.09 during the same period in the prior year, and a net loss to
common shareholders of $785 thousand or $0.03 per diluted common share
recognized for the second quarter of 2009.  The results for the third
quarter of 2009 were impacted by a provision for loan losses totaling $20.1
million for the period, which compares to a provision for loan losses of $6.5
million during the second quarter of 2009 and $6.0 million for the same quarter
in the prior year.  Risk rating downgrades, increasing historical loss
experience, the economic climate and other environmental factors necessitated
the additional allowances.  Additionally, results were impacted by a
non-cash impairment charge of $1.9 million on a pretax basis associated with
investments in bank equities.
 
 The
Company’s loss for the nine month period ended September 30, 2009 was $9.1
million, or a net loss available to common shareholders of $10.4 million, or
$0.46 per diluted common share. Those results compare to net income of $10.3
million, or diluted earnings per share of $0.51 during the same period in the
prior year.  Similar to the three month period, the results for the
fist nine months of 2009 were impacted by an increased provision for loan losses
totaling $34.3 million that approximated net charge-offs of $23.7 million for
the period, and compares to a provision for loan losses of $9.8 million during
the first nine months of 2008.  Additionally, the results for the nine
month period in 2009 were also reduced by a $3.6 million increase in total FDIC
assessment expense when compared to the same period in the prior yearand a non-cash impairment charge of
$1.9 million associated with investments in bank equities recorded in the third
quarter of 2009.
 
 Net
Interest Income
 
 Net
interest income, on a tax-equivalent basis amounted to $22.7 million for the
third quarter, which compares to $22.7 for second quarter of this year, and
$27.4 million for the same period in prior year. The net interest margin was
3.30% for the third quarter, compared to 3.34% for the second quarter of this
year, and 4.06% for the third quarter of 2008. The average yield on earning
assets decreased 18 basis points to 5.11% as compared to 5.29% for the second
quarter of this year, which was substantially offset by improvement in the cost
of interest bearing liabilities, which contracted 15 basis points from 2.31%
during the second quarter to 2.16% during the third quarter of this
year.
  25
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
 OF
OPERATIONS
 
 The
re-pricing sensitivity of interest bearing liabilities accelerated relative to
interest earning assets during the third quarter as a higher percentage of the
CD portfolio repriced.  This repricing relationship is expected to
continue during the fourth quarter as net interest margin is anticipated to
improve on a linked quarter basis.
 
 The
compression noted for both the three and nine month periods when compared to the
same periods in 2008 continues to be yield driven, with the average yield on
earning assets decreasing 119 basis points to 5.11% as compared to 6.30% for the
same quarter in 2008. Contributing factors include a relatively high level of
fixed rate re-pricing in the loan portfolio, the impact of an increasing amount
of loans in nonaccrual status and a higher level of short term liquidity in the
balance sheet.  The cost of interest bearing liabilities contracted 47
basis points from 2.63% during the third quarter of 2008 to 2.16% during the
third quarter of 2009, but remained much less sensitive to repricing when
compared to interest earning assets.  The margin compression noted
when comparing the nine month periods is consistent with the items discussed
above related to the quarterly comparisons.
 
  26
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 
 For
      the Three Months Ended September 30,(unaudited)2009
              
              
              2008Average
              
              
              Interest
              
              
              Average
              
              
              Average
              
              
              Interest
              
              
              AverageDollars
      in thousands
              
              Balance
              
              
              Inc/Exp
              
              
              Rates
              
              
              Balance
              
              
              Inc/Exp
              
              
              RatesAssetsLoans
      receivable, net
              
              $
              2,260,411
              
              
              $
              31,055
              
              
              
              5.45
              %
              
              $
              2,279,282
              
              
              $
              37,744
              
              
              
              6.59
              %Investment
      securitiesTaxable
              
              
              232,267
              
              
              
              2,311
              
              
              
              3.89
              %
              
              
              256,426
              
              
              
              3,155
              
              
              
              4.81
              %Tax
      exempt
              
              
              111,982
              
              
              
              1,710
              
              
              
              5.98
              %
              
              
              86,908
              
              
              
              1,366
              
              
              
              6.15
              %Total
      investments
              
              
              344,249
              
              
              
              4,021
              
              
              
              4.57
              %
              
              
              343,334
              
              
              
              4,521
              
              
              
              5.15
              %Interest
      bearing deposits
              
              
              54,109
              
              
              
              36
              
              
              
              0.26
              %
              
              
              735
              
              
              
              3
              
              
              
              1.60
              %Federal
      funds sold
              
              
              69,632
              
              
              
              38
              
              
              
              0.21
              %
              
              
              60,406
              
              
              
              272
              
              
              
              1.76
              %467,990
              
              
              
              4,095
              
              
              
              3.42
              %
              
              
              404,475
              
              
              
              4,796
              
              
              
              4.64
              %Total
      earning assets
              
              
              2,728,401
              
              
              $
              35,150
              
              
              
              5.11
              %
              
              
              2,683,757
              
              
              $
              42,540
              
              
              
              6.30
              %Total
      nonearning assets
              
              
              284,163
              
              
              
              
              
              
              
              
              
              
              
              309,093Total
      assets
              
              $
              3,012,564
              
              
              
              
              
              
              
              
              
              
              $
              2,992,850Liabilities
      and Stockholders' EquityInterest-bearing
      depositsInterest
      checking
              
              $
              536,184
              
              
              $
              1,276
              
              
              
              0.94
              %
              
              $
              507,990
              
              
              $
              439
              
              
              
              0.34
              %Money
      market
              
              
              312,479
              
              
              
              1,199
              
              
              
              1.52
              %
              
              
              232,802
              
              
              
              1,096
              
              
              
              1.87
              %Savings
              
              
              194,314
              
              
              
              431
              
              
              
              0.88
              %
              
              
              202,329
              
              
              
              1,935
              
              
              
              3.79
              %Time
      deposits:Less
      than $100,000
              
              
              713,888
              
              
              
              5,070
              
              
              
              2.82
              %
              
              
              754,557
              
              
              
              6,014
              
              
              
              3.16
              %$100,000
      and more
              
              
              359,362
              
              
              
              2,880
              
              
              
              3.18
              %
              
              
              351,678
              
              
              
              3,355
              
              
              
              3.78
              %Total
      interest-bearing deposits
              
              
              2,116,227
              
              
              
              10,856
              
              
              
              2.04
              %
              
              
              2,049,356
              
              
              
              12,839
              
              
              
              2.49
              %Federal
      funds purchased and securities sold under agreements to
      repurchase
              
              
              554
              
              
              
              4
              
              
              
              2.95
              %
              
              
              950
              
              
              
              4
              
              
              
              1.65
              %Federal
      Home Loan Bank advances and other borrowings
              
              
              145,000
              
              
              
              1,321
              
              
              
              3.56
              %
              
              
              194,799
              
              
              
              1,795
              
              
              
              3.61
              %Subordinated
      debt
              
              
              32,991
              
              
              
              293
              
              
              
              3.48
              %
              
              
              32,991
              
              
              
              481
              
              
              
              5.71
              %Other
      borrowings
              
              
              -
              
              
              
              -
              
              
              
              N/A
              
              
              
              6
              
              
              
              1
              
              
              
              65.22
              %178,545
              
              
              
              1,618
              
              
              
              3.55
              %
              
              
              228,746
              
              
              
              2,281
              
              
              
              3.90
              %Total
      interest-bearing liabilities
              
              
              2,294,772
              
              
              
              12,474
              
              
              
              2.16
              %
              
              
              2,629,780
              
              
              
              15,120
              
              
              
              2.63
              %Total
      noninterest-bearing liabilities
              
              
              328,219
              
              
              
              
              
              
              
              
              
              
              
              349,662Total
      liabilities
              
              
              2,622,991
              
              
              
              
              
              
              
              
              
              
              
              2,979,442Stockholders'
      equity
              
              
              389,573
              
              
              
              
              
              
              
              
              
              
              
              365,086Total
      liabilities and stockholders' equity
              
              $
              3,012,564
              
              
              
              
              
              
              
              
              
              
              $
              3,344,528Net
      interest income (tax equivalent)
              
              
              
              
              
              $
              22,676
              
              
              
              
              
              
              
              
              
              
              $
              27,420Average
      interest rate spread
              
              
              
              
              
              
              
              
              
              
              2.95
              %
              
              
              
              
              
              
              
              
              
              
              3.67
              %Interest
      expense as percentage of average earning assets
              
              
              
              
              
              
              
              
              
              
              1.81
              %
              
              
              
              
              
              
              
              
              
              
              2.24
              %Net
      interest margin
              
              
              
              
              
              
              
              
              
              
              3.30
              %
              
              
              
              
              
              
              
              
              
              
              4.06
              %
 
  27
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 
 For
      the Nine Months Ended September 30,(unaudited)2009
              
              
              2008Average
              
              
              Interest
              
              
              Average
              
              
              Average
              
              
              Interest
              
              
              AverageDollars
      in thousands
              
              Balance
              
              
              Inc/Exp
              
              
              Rates
              
              
              Balance
              
              
              Inc/Exp
              
              
              RatesAssetsLoans
      receivable, net
              
              $
              2,278,781
              
              
              $
              95,455
              
              
              
              5.60
              %
              
              $
              2,066,251
              
              
              $
              104,371
              
              
              
              6.75
              %Investment
      securitiesTaxable
              
              
              229,777
              
              
              
              7,409
              
              
              
              4.25
              %
              
              
              243,015
              
              
              
              8,999
              
              
              
              4.87
              %Tax
      exempt
              
              
              97,682
              
              
              
              4,511
              
              
              
              6.09
              %
              
              
              88,942
              
              
              
              4,185
              
              
              
              6.18
              %Total
      investments
              
              
              327,459
              
              
              
              11,920
              
              
              
              4.80
              %
              
              
              331,957
              
              
              
              13,184
              
              
              
              5.22
              %Interest
      bearing deposits
              
              
              51,972
              
              
              
              80
              
              
              
              0.20
              %
              
              
              1,651
              
              
              
              16
              
              
              
              1.27
              %Federal
      funds sold
              
              
              48,691
              
              
              
              78
              
              
              
              0.21
              %
              
              
              50,113
              
              
              
              795
              
              
              
              2.07
              %428,122
              
              
              
              12,078
              
              
              
              3.72
              %
              
              
              383,721
              
              
              
              13,995
              
              
              
              4.79
              %Total
      earning assets
              
              
              2,706,903
              
              
              $
              107,533
              
              
              
              5.31
              %
              
              
              2,449,972
              
              
              $
              118,366
              
              
              
              6.45
              %Total
      nonearning assets
              
              
              285,949
              
              
              
              
              
              
              
              
              
              
              
              269,254Total
      assets
              
              $
              2,992,852
              
              
              
              
              
              
              
              
              
              
              $
              2,719,226Liabilities
      and Stockholders' EquityInterest-bearing
      depositsInterest
      checking
              
              $
              525,761
              
              
              $
              3,928
              
              
              
              1.00
              %
              
              $
              436,958
              
              
              $
              1,338
              
              
              
              0.41
              %Money
      market
              
              
              274,671
              
              
              
              3,076
              
              
              
              1.50
              %
              
              
              185,302
              
              
              
              2,578
              
              
              
              1.85
              %Savings
              
              
              191,522
              
              
              
              1,261
              
              
              
              0.88
              %
              
              
              180,276
              
              
              
              4,731
              
              
              
              3.50
              %Time
      deposits:Less
      than $100,000
              
              
              756,730
              
              
              
              17,056
              
              
              
              3.01
              %
              
              
              679,507
              
              
              
              16,974
              
              
              
              3.33
              %$100,000
      and more
              
              
              329,713
              
              
              
              8,547
              
              
              
              3.47
              %
              
              
              324,088
              
              
              
              9,880
              
              
              
              4.06
              %Total
      interest-bearing deposits
              
              
              2,078,397
              
              
              
              33,868
              
              
              
              2.18
              %
              
              
              1,806,131
              
              
              
              35,501
              
              
              
              2.62
              %Federal
      funds purchased and securities soldunder
      agreements to repurchase
              
              
              455
              
              
              
              10
              
              
              
              2.90
              %
              
              
              4,757
              
              
              
              64
              
              
              
              1.77
              %Federal
      Home Loan Bank advancesand
      other borrowings
              
              
              166,319
              
              
              
              4,441
              
              
              
              3.52
              %
              
              
              205,461
              
              
              
              5,334
              
              
              
              3.41
              %Subordinated
      debt
              
              
              32,991
              
              
              
              992
              
              
              
              3.97
              %
              
              
              30,146
              
              
              
              1,411
              
              
              
              6.15
              %Commercial
      paper
              
              
              -
              
              
              
              -
              
              
              
              N/A
              
              
              
              32,554
              
              
              
              635
              
              
              
              2.56
              %Other
      borrowings
              
              
              -
              
              
              
              -
              
              
              
              N/A
              
              
              
              459
              
              
              
              7
              
              
              
              2.00
              %199,765
              
              
              
              5,443
              
              
              
              3.59
              %
              
              
              273,377
              
              
              
              7,451
              
              
              
              3.58
              %Total
      interest-bearing liabilities
              
              
              2,278,162
              
              
              
              39,311
              
              
              
              2.30
              %
              
              
              2,079,508
              
              
              
              42,952
              
              
              
              2.75
              %Total
      noninterest-bearing liabilities
              
              
              323,199
              
              
              
              
              
              
              
              
              
              
              
              321,968Total
      liabilities
              
              
              2,601,361
              
              
              
              
              
              
              
              
              
              
              
              2,401,476Stockholders'
      equity
              
              
              391,491
              
              
              
              
              
              
              
              
              
              
              
              317,750Total
      liabilities and stockholders' equity
              
              $
              2,992,852
              
              
              
              
              
              
              
              
              
              
              $
              2,719,226Net
      interest income (tax equivalent)
              
              
              
              
              
              $
              68,222
              
              
              
              
              
              
              
              
              
              
              $
              75,414Average
      interest rate spread
              
              
              
              
              
              
              
              
              
              
              3.01
              %
              
              
              
              
              
              
              
              
              
              
              3.70
              %Interest
      expense as percentage ofaverage
      earning assets
              
              
              
              
              
              
              
              
              
              
              1.94
              %
              
              
              
              
              
              
              
              
              
              
              2.34
              %Net
      interest margin
              
              
              
              
              
              
              
              
              
              
              3.37
              %
              
              
              
              
              
              
              
              
              
              
              4.11
              %
 
  28
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 Noninterest
Income
 
 On an
operating basis, which excludes gains and losses from sales of assets, total
non-interest income amounted to $7.7 million for the third quarter of 2009, a
decrease of $550 thousand or 6.6% from $8.3 million for second quarter of this
year, and an increase of $660 thousand or 9.31% from $7.1 million for the same
period in prior year. Mortgage banking revenue totaled $1.8 million for the
third quarter, a decrease of $300 thousand or 14.4% compared to $2.1 million for
the second quarter of this year, and an increase of $1.2 million or over 100%
compared to the third quarter of the prior year. The elevated level of secondary
mortgage originations reflects the continuing favorable interest rate
environment. Retail banking fee income amounted to $4.3 million for the third
quarter, an increase of $216 thousand or 5.3% compared to $4.1 million for the
second quarter of this year, largely a result of more NSF charge activity and a
higher realization rate associated with these fees.  Wealth management
revenues from trust and brokerage fees for the third quarter were $1.1 million
or essentially flat compared to $989 thousand in the second quarter of this
year.  Revenues from this line of business remain suppressed due to
lower market valuations for assets under management.   Revenues
from other miscellaneous income sources for the third quarter were $201
thousand, down $579 thousand or 74.2% compared to $780 thousand for the second
quarter of this year. This variance related principally to seasonal insurance
related revenues recorded in the second quarter and losses on pass-through
investments accounted for under the equity method.
 
 On an
operating basis for the nine month period, which excludes gains and losses from
sales of assets, total non-interest income amounted to $23.1 million for the
first nine months of 2009, an increase of $2.6 million or 12.7% from $20.5
million for the same period in the prior year.  All increases for the
nine month period were influenced to some extent by the merger of equals
transaction consummated in February of 2008, however, the effect was not the
primary factor in any of the variances noted.  Mortgage banking
revenue totaled $5.3 million for the first nine months of 2009, an increase of
$2.5 million or 86.5% compared to $2.8 million for the same period in
2008.  The increased originations are primarily a reflection of the
favorable interest rate environment and have resulted in an increase in the
earnings contribution from the mortgage line of business during the first nine
months of 2009.  Retail banking fee income amounted to $12.2 million
for the first nine months of 2009, an increase of $1.6 million or 15.2% compared
to $10.5 million for the first nine months of 2008.  This increase is
largely a result of more NSF charge activity, analysis fee charges and a higher
realization rate associated with these fees.  Wealth management
revenues from trust and brokerage fees for the first nine months of 2009 were
$3.1 million, down $801 thousand or 20.5% compared to the same period in
2008.  Revenues from this line of business remain suppressed due to
lower market valuations for assets under management.  Revenues from
other miscellaneous income sources for the first nine months of 2009 were $1.6
million, down $765 thousand or 32.7% compared to $2.3 million for the first nine
months of 2008.  The decrease compared to the same period in the prior
year relates primarily to a non-recurring Visa class B stock redemption that
occurred during the first nine months of 2008 and losses on pass-through
investments accounted for under the equity method recorded during
2009.
  29
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 
 Noninterest
Expense
 
 Non-interest
expense for the third quarter amounted to $22.7 million, or down $1.4 million or
5.8% when compared to the $24.1 million for the second quarter of this year and
down $411 thousand or 1.8% when compared to the same quarter in the prior year.
Excluding the increase in FDIC insurance, non-interest expense is down $909
thousand or 4.0% compared with third quarter last year. A special assessment
from the FDIC totaling $1.3 million, which was paid in September 2009, was
accrued during the second quarter and accounted for most of decrease as compared
to second quarter of this year.  Exclusive of the special assessment,
noninterest expense was relatively flat compared to the second quarter of this
year.  StellarOne’s efficiency ratio was 74.77% for the third quarter
of 2009, compared to 77.58% for the second quarter of 2009, reflecting the
decrease in noninterest expense.
 
 Non-interest
expense for the first nine months of 2009 amounted to $69.0 million, or up $2.2
million or 3.3% when compared to the $66.8 million for the first nine months of
2008.  Mortgage banking accounted for a significant portion of this
increase.  Mortgage commissions increased $1.1 million when comparing
the first nine months of 2009 to the same period in 2008.  Likewise,
loan operations expense increased $1.5 million when comparing the first nine
months of 2009 to the same period in 2008.  Additionally, FDIC
assessment expense for the nine month period in the current year increased $3.6
million when compared to the same period in the prior
year.  StellarOne’s efficiency ratio was 75.60% for the first nine
months of 2009, compared to 69.60% for the first nine months of
2008.
 
 Income
Taxes
 
 Income
tax benefit for the third quarter of 2009 was $6.0 million resulting in an
effective tax rate of 40.5% compared to $714 thousand in income tax expense, or
26.0%, for the third quarter of 2008.  For the nine month period ended
September 30, 2009, income tax benefit amounted to $7.1 million, resulting in an
effective tax rate of 44.0% compared to $4.7 million in income tax expense, or
31.5% for the same period in 2008.  The increase in the effective tax
rate for both the three and nine month periods in 2009 is a result of increased
provisioning that has reduced pretax earnings to a level which is
proportionately much smaller in relation to our permanent differences when
compared to the same period in the prior year.  As pretax results
approach the breakeven point substantial shifts in the effective tax rate are
generated due to comparing a lower level of earnings or losses to a relatively
steady level of permanent differences.  Given the current economic
environment and that elevated levels of provisioning are driving the effective
rate; the effective rate for both the three and nine month periods of 2009 is
within the estimated range of probable rates expected for the annualized
period.
  30
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 .
 Asset
Quality
 
 StellarOne’s
ratio of non-performing assets as a percentage of total assets increased to
2.27% as of September 30, 2009, compared to 1.66% as of December 31, 2008 and
1.62% as of September 30, 2008.  Annualized net charge-offs as a
percentage of average loans receivable amounted to 2.47% for the third quarter
of 2009, compared to 1.20% for the second quarter of 2009 and 0.44% for the
third quarter of 2008.  Net charge-offs for the third quarter totaled
$13.9 million and were up $7.0 million compared to the $6.9 million in net
charge-offs recognized during the second quarter of 2009 and up $11.4 million
compared to the $2.5 million in net charge-offs posted during the third quarter
of 2008.
 
 The
primary concentration of credit issues within the portfolio continues to be the
residential development and construction loan segment of our portfolio, with
emphasis on a concentration at Smith Mountain Lake, Virginia (SML). Of the total
nonaccrual loans of $61.3 million at September 30, 2009, approximately $33.2
million are residential development and construction loans, of which
approximately $21.5 million are SML related.
 
 StellarOne
recorded a provision for loan losses of $20.1 million for the third quarter of
2009, an increase of $13.6 million compared to the second quarter of this year
and $6 million for the same period in the prior year. The third quarter
provision compares to net charge-offs of $13.9 million for the quarter,
resulting in an allowance as a percentage of total loans of 1.85% or up 29 basis
points when compared to 1.56% for June 30, 2009. The allowance represents 67.0%
of non-performing loans at September 30, 2009, compared to 47.8% of
non-performing loans at June 30, 2009.
 
 At
September 30, 2009 StellarOne had $13.7 million in loans under troubled debt
restructuring terms.  These restructurings occur when a loan customer
has experienced or is anticipated to experience, financial difficulties in the
short term.  Consequently, a modification is granted to the borrower
that would not otherwise be considered.  These loans continue to
accrue interest as long as the borrower complies with the modified loan terms
and conditions and has demonstrated repayment performance under the modified
agreement.
 
 Accruing
restructured loans were $11.5 million at September 30, 2009 compared to $5.5
million at June 30, 2009.  These loans are primarily residential real
estate related and are being restructured in order to assist our customers in
retaining their homes and minimize our exposure to potential
losses.  These loans have been restructured by either reducing the
related interest rate, extending the terms or both.
 
 The
following table provides information on asset quality statistics for the periods
presented (In thousands):
  September
      30,
              
              
              December
      31,
              
              
              September
      30,2009
              
              
              2008
              
              
              2008(unaudited)
              
              
              
              
              
              (unaudited)Non-accrual
      loans
              
              $
              59,108
              
              
              $
              44,491
              
              
              $
              42,245Troubled
      debt restructurings
              
              
              2,184
              
              
              
              -
              
              
              
              372Foreclosed
      assets
              
              
              5,437
              
              
              
              4,627
              
              
              
              4,189Loans
      past due 90 days accruing interest
              
              
              938
              
              
              
              -
              
              
              
              1,554Total
      non-performing assets
              
              $
              67,667
              
              
              $
              49,118
              
              
              $
              48,360Nonperforming
      assets to total assets
              
              
              2.27
              %
              
              
              1.66
              %
              
              
              1.62
              %Nonperforming
      assets to loans and foreclosed property
              
              
              3.04
              %
              
              
              2.17
              %
              
              
              2.22
              %Allowance
      for loan losses as a percentage of loans receivable
              
              
              1.85
              %
              
              
              1.35
              %
              
              
              1.40
              %Allowance
      for loan losses as a percentage of nonperforming assets
              
              
              60.65
              %
              
              
              62.02
              %
              
              
              63.09
              %Annualized
      net charge-offs as a percentage of average loans
    receiveable
              
              
              1.20
              %
              
              
              1.39
              %
              
              
              0.28
              %
  31
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 Liquidity
and Capital Resources
 
 Capital
Resources
 
 The
management of capital in a regulated financial services industry must properly
balance return on equity to stockholders while maintaining sufficient capital
levels and related risk-based capital ratios to satisfy regulatory
requirements.  Additionally, capital management must also consider
acquisition opportunities that may exist, and the resulting accounting
treatment.  The Company’s capital management strategies have been
developed to provide attractive rates of returns to stockholders, while
maintaining its “well-capitalized” position at the banking
subsidiary.
 
 The
primary source of additional capital to the Company is earnings retention, which
represents net income less dividends declared.  The Company paid or
accrued $5.4 million and $1.1 million in common and preferred dividends,
respectively, during the nine month period ended September 30,
2009.  These dividends combined with the net loss of $9.1 million and
resulted in a reduction in retained earnings of $15.6 million during the nine
month period.  As previously announced, the Company has reduced its
quarterly dividend from $0.16 per share to $0.04 per share, beginning with the
dividend paid on May 29, 2009 in an effort to preserve
capital.  Management anticipates maintaining this dividend level until
earnings conditions improve.  On December 19, 2008, the Company issued
30,000 shares of preferred stock to the U.S. Treasury in exchange for
$30 million pursuant to the U.S. Treasury CPP under TARP which further
enhanced capital.
 
 The
Company and its banking subsidiary are subject to various regulatory capital
requirements administered by the federal banking agencies.  Failure to
meet minimum capital requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could have a
direct material effect on the Company and the subsidiary banks’ financial
statements.  Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, the Company and its banking subsidiary
must meet specific capital guidelines that involve quantitative measures of
their assets, liabilities and certain off-balance sheet items as calculated
under regulatory accounting practices.  The capital amounts and
reclassifications are also subject to qualitative judgments by the regulators
about components, risk weightings and other factors.
 
 Quantitative
measures established by regulation to ensure capital adequacy require the
Company and its banking subsidiary to maintain minimum amounts and ratios of
total and Tier 1 capital to average assets.  As of September 30, 2009,
the Company and the subsidiary bank met all minimum capital adequacy
requirements to which they are subject and are categorized as “well
capitalized.”  There are no conditions or events that management
believes have changed the subsidiary bank’s well capitalized
position.
 
 The following table includes
information with respect to the Company’s risk-based capital and equity levels
as of September 30, 2009 (In thousands):
 Corporation
                
                
                BankTier
      1 capital
                
                $
                329,715
                
                
                $
                280,056Tier
      2 capital
                
                
                31,454
                
                
                
                31,232Total
      risk-based capital
                
                
                361,169
                
                
                
                311,288Total
      risk-weighted assets
                
                
                2,506,764
                
                
                
                2,488,729Average
      adjusted total assets
                
                
                2,931,077
                
                
                
                2,909,670Capital
      ratios:Tier
      1 risk-based capital ratio
                
                
                13.15
                %
                
                
                11.25
                %Total
      risk-based capital ratio
                
                
                14.41
                %
                
                
                12.51
                %Leverage
      ratio (Tier 1 capital to average adjusted total assets)
                
                
                11.25
                %
                
                
                9.63
                %Equity
      to assets ratio
                
                
                13.08
                %
                
                
                12.66
                %Tangible
      common equity to assets ratio
                
                
                9.35
                %
                
                
                9.91
                %
 
  32
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 Liquidity
 
 Liquidity
is identified as the ability to generate or acquire sufficient amounts of cash
when needed at a reasonable cost to accommodate withdrawals, payments of debt,
and increased loan demand.  These events may occur daily or other
short-term intervals in the normal operation of the
business.  Experience helps management predict time cycles in the
amount of cash required.  In assessing liquidity, management gives
consideration to relevant factors including stability of deposits, quality of
assets, economy of markets served, concentrations of business and industry,
competition, and the Company’s overall financial condition.  The
Bank’s primary sources of liquidity are cash and the securities in our available
for sale portfolio.  In addition, the Bank has substantial lines of
credit from its correspondent banks and access to the Federal Reserve discount
window and Federal Home Loan Bank of Atlanta to support liquidity as conditions
dictate.
 
 The
liquidity of the Company also represents an important aspect of liquidity
management. The Company’s cash outflows consist of overhead associated with
corporate expenses, executive management, finance, marketing, human resources,
loan and deposit operations, information technology, audit, compliance and loan
review functions. It also includes outflows associated with dividends to
shareholders. The main sources of funding for the Company are the management
fees and dividends it receives from its banking subsidiary, and availability of
the subordinated debt security market as deemed necessary. The Company’s capital
base provides the resource and ability to support the assets of the Company and
provide capital for future expansion.
 
 In the
judgment of management, the Company maintains the ability to generate sufficient
amounts of cash to cover normal requirements and any additional funds as needs
may arise.
 
 Off
Balance Sheet Items
 
 There
have been no material changes to the off balance sheet items disclosed in
“Management’s Discussion and Analysis” in the Company’s annual report on Form
10-K for the fiscal year ended December 31, 2008.
 
 Contractual
Obligations
 
 There
have been no material changes outside the ordinary course of business to the
contractual obligations disclosed in the Company’s annual report on Form 10-K
for the fiscal year ended December 31, 2008.
 
 Effects
of Inflation
 
 The
effect of changing prices on financial institutions is typically different from
other industries as the Company’s assets and liabilities are monetary in nature.
Interest rates and thus the Company’s asset liability management is impacted by
changes in inflation, but there is not a direct correlation between the two
measures. Management monitors the impact of inflation on the financial
markets.
  33
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 Forward
Looking Statements
 
 StellarOne
Corporation. (the “Company”) may from time to time make written or oral
statements, including statements contained in this report which may constitute
forward-looking statements within the meaning of Section 21E of the
Securities Exchange Act of 1934, as amended. The words “expect,” “anticipate,”
“likely,” “intend,” “plan,” “believe,” “seek,” “estimate” and similar
expressions are intended to identify such forward-looking statements, but other
statements not based on historical information may also be considered
forward-looking. All forward-looking statements are subject to risks,
uncertainties and other facts that may cause the actual results, performance or
achievements of the Company to differ materially from any results expressed or
implied by such forward-looking statements. Such factors include, without
limitation, (i) deterioration in the financial condition of borrowers resulting
in significant increases in loan losses and provisions for those losses,
(ii) continuation of the historically low short-term interest rate
environment, (iii) the inability of the Company to continue to grow its
loan portfolio, (iv) rapid fluctuations or unanticipated changes in
interest rates, (v) the development of any new market, (vi) a merger
or acquisition, (vii) any activity in the capital markets that would cause
the Company to conclude that there was impairment of any asset including
intangible assets, (viii) the impact of governmental restrictions on entities
participating in the US Treasury Department Capital Purchase Program,
(ix) the deterioration in carrying amounts of impaired assets and other
real estate and (x) changes in state and Federal legislation, regulations
or policies applicable to Banks and other financial service providers, including
regulatory or legislative developments arising out of current unsettled
conditions in the economy. A more detailed description of these and other risks
is contained in the Company’s most recent annual report on Form 10-K. Many of
such factors are beyond the Company’s ability to control or predict, and readers
are cautioned not to put undue reliance on such forward-looking statements.
StellarOne Corporation disclaims any obligation to update or revise any
forward-looking statements contained in this release, whether as a result of new
information, future events or otherwise.
 
 Access
to Filings
  The
Company provides access to its SEC filings through the corporate Website at
http://www.StellarOne.com.  After
accessing the Website, the filings are available upon selecting Investor
Relations, then the SEC Filings & Other Documents icon.  Reports
available include the annual report on Form 10-K, quarterly reports on Form
10-Q, current reports on Form 8-K, and all amendments to those reports as soon
as reasonably practicable after the reports are electronically filed with or
furnished to the SEC.
  
 ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
 
 There
have been no significant changes to the quantitative and qualitative market risk
disclosures in the Company’s Form 10-K for the year ended December 31,
2008.
  34
 Table of Contents
  
 STELLARONE
CORPORATION
 MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 ITEM 4 – CONTROLS AND PROCEDURES
 
 We are
required to include in our periodic reports information regarding our controls
and procedures for complying with the disclosure requirements of the federal
securities laws.  These disclosure controls and procedures include,
without limitation, controls and procedures designed to ensure that information
required to be disclosed by us in the reports we file or submit under the
Exchange Act, is accumulated and communicated to our management, including our
principal executive officer and principal financial officer, as appropriate to
allow timely decisions regarding required disclosure.
 
 We have
established disclosure controls and procedures to ensure that material
information related to the Company is made known to our principal executive
officer and principal financial officer on a regular basis, in particular during
the periods in which our quarterly and annual reports are being
prepared.  Our principal executive officer and principal financial
officer evaluated the effectiveness of these disclosure controls and procedures
as of the end of the period covered by this report and, based on their
evaluation, concluded that our disclosure controls and procedures are operating
effectively.
 
 Because
of the inherent limitations in all control systems, no evaluation of controls
can provide absolute assurance that our disclosure controls and procedures will
detect or uncover every situation involving the failure of persons within the
organization to disclose material information otherwise required to be set forth
in our period reports.
 
 Our
management is also responsible for establishing and maintaining adequate
internal controls over financial reporting and control of our assets to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with
generally accepted accounting principles. In the normal course we review and
change our internal controls to reflect changes in our business including
acquisition related improvements. There have been no changes in our internal
control over financial reporting that occurred during the quarter ended
September 30, 2009 that has materially affected, or is reasonably likely to
materially affect, such internal control over financial
reporting.
  35
 Table of Contents
  
 STELLARONE
CORPORATION
 
 PART II - OTHER
INFORMATION
 
 ITEM
      1.
              LEGAL PROCEEDINGS.
 
 There are
no material legal proceedings to which the Company or any of its subsidiary,
directors, or officers is a party or by which they, or any of them, are
threatened.  Any legal proceeding presently pending or threatened
against StellarOne Corporation and its subsidiaries are either not material in
respect to the amount in controversy or fully covered by insurance.
 
 ITEM
1a.                RISK FACTORS.
 
 There
have been no material changes to our risk factors as previously disclosed in
Part I, Item IA of our Annual Report on Form 10K for the fiscal year ended
December 31, 2008.
 
 ITEM
      2.
              UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
      PROCEEDS.
 
 The
Company has a stock repurchase program authorized that is not currently active,
with 210,000 shares remaining available for repurchase.
 
 ITEM
      3.
              DEFAULTS UPON SENIOR
  SECURITIES.
 
 None.
 
 ITEM
4.                 SUBMISSIONOF MATTERS TO A VOTE OF SECURITY
HOLDERS.
 
 None.
 
 ITEM
      5.
              OTHERINFORMATION.
 
 Not
applicable.
  36
 Table of Contents
  
 STELLARONE
CORPORATION
 
 PART
II - OTHER INFORMATION
 
 ITEM
6.                      EXHIBITS:
 
 (a) The
following exhibits either are filed as part of this Report or are incorporated
herein by reference:
 
 Exhibit
      No. 2.1
              Agreement
      and Plan of Reorganization, dated as of July 26, 2007, between Virginia
      Financial Group, Inc. and FNB Corporation, incorporated by reference to
      Exhibit 2.1 to Form 8-K filed July 30,
2007.
 
 Exhibit
      No. 3.1(a)
              Articles
      of Amendment to the Articles of Incorporation establishing Series A
      Preferred Stock (incorporated by reference to Exhibit 3.1 to Form 8-K
      filed on February 28, 2008)
 
 Exhibit
      No. 3.1
              Articles
      of Incorporation StellarOne Corporation, as amended and restated dated
      June 1, 2009 (incorporated by reference to Exhibit 3.1 to Form 10-Q filed
      on August 7, 2009).
 
 Exhibit
      No. 3.2
              Bylaws
      of StellarOne Corporation, as amended and restated February 28, 2008.
      (incorporated by reference to Exhibit 3.2 to Form 8-K filed on February
      28, 2008)
 
 Exhibit
      No. 4.1
              Warrant
      to purchase up to 302,623 shares of Common Stock (incorporated by
      reference to Exhibit 4.1 to Form 8K filed on December 23,
      2008)
 
 Exhibit No. 31.1
              Certification
      of Chief Executive Officer pursuant to Rule 13a-14(a) of the Securities
      Exchange Act of 1934, as amended.
 
 Exhibit No. 31.2
              Certification
      of Chief Financial Officer pursuant to Rule 13a-14(a) of the Securities
      Exchange Act of 1934, as amended.
 
 Exhibit No. 32
              Certification
      of Chief Executive Officer and Chief Financial Officer pursuant to 18
      U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
      of 2002.
  37
 Table of Contents
  SIGNATURES
 
 Pursuant
to the requirements of the Securities Exchange Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
 
 STELLARONE
CORPORATION
 
 
 /s/ O. R. Barham,
Jr.
 O.R.
Barham, Jr.
 President
and Chief Executive Officer
 November
9, 2009
 
 
 
 /s/ Jeffrey W.
Farrar
 Jeffrey
W. Farrar, CPA
 Executive
Vice President and Chief Financial Officer
 November
9, 2009