UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C.  20549  FORM 10-Q  xQuarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934  For the quarterly period ended September 30, 2009  oTransition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934  For the transition period from ____________ to _____________  Commission File Number:  0-30535  GRAYSON BANKSHARES, INC. (Exact name of registrant as specified in its charter)   Virginia
(State or other jurisdiction of
incorporation or organization)
        54-1647596
(I.R.S. Employer
Identification No.)113 West Main Street
Independence, Virginia
(Address of principal executive offices)
        24348
(Zip Code)
  (276) 773-2811 (Registrants telephone number, including area code)  Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  YesxNoo 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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  YesoNoo  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 filero
        Accelerated fileroNon-accelerated filero(Do not check if smaller reporting company)
        Smaller reporting companyx
  Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  YesoNox  Indicate the number of shares outstanding of each of the issuers classes of common stock, as of the latest practicable date:  1,718,968 shares of Common Stock, par value $1.25 per share, outstanding as of November 13, 2009.  
 PART I
        FINANCIAL INFORMATION
  Item 1.
        Financial Statements
  Consolidated Balance SheetsSeptember 30, 2009 (Unaudited)
 and December 31, 2008 (Audited)
        3
  Unaudited Consolidated Statements of IncomeNine Months Ended
 September 30, 2009 and September 30, 2008
        4
  Unaudited Consolidated Statements of IncomeThree Months Ended
 September 30, 2009 and September 30, 2008
        5
  Consolidated Statements of Changes in Stockholders EquityNine Months
 Ended September 30, 2009 (Unaudited) and Year Ended December 31, 2008 (Audited)
        6
  Unaudited Consolidated Statements of Cash FlowsNine Months Ended
 September 30, 2009 and September 30, 2008
        7
  Notes to Consolidated Financial Statements
        8
  Item 2.
        Managements Discussion and Analysis of Financial Condition
 and Results of Operations
        19
  Item 3.
        Quantitative and Qualitative Disclosures about Market Risk
        22
  Item 4.
        Controls and Procedures
        23
  PART II
        OTHER INFORMATION
  Item 1.
        Legal Proceedings
        24
  Item 1A.
        Risk Factors
        24
  Item 2.
        Unregistered Sales of Equity Securities and Use of Proceeds
        24
  Item 3.
        Defaults Upon Senior Securities
        24
  Item 4.
        Submission of Matters to a Vote of Security Holders
        24
  Item 5.
        Other Information
        24
  Item 6.
        Exhibits
        24
  Signatures
        25
   2
 
 Part I.  Financial Information  Item 1.  Financial Statements   Grayson Bankshares, Inc. and Subsidiary Consolidated Balance Sheets September 30, 2009 and December 31, 2008   September 30,
        
        December 31,2009
        
        2008(Unaudited)
        
        (Audited)AssetsCash and due from banks
        $
        10,490,106
        $
        9,536,772Federal funds sold
        
        15,729,032
        
        11,149,718Investment securities available for sale
        
        41,796,297
        
        46,413,054Investment securities held to maturity(fair value approximately $2,652,556 at September 30, 2009,and $3,044,781 at December 31, 2008)
        
        2,560,082
        
        3,037,608Restricted equity securities
        
        1,783,700
        
        1,731,750Loans, net of allowance for loan losses of $3,363,976at September 30, 2009 and $3,359,946 at December 31, 2008
        
        267,263,337
        
        267,889,087Cash value of life insurance
        
        7,999,892
        
        7,774,892Foreclosed assets
        
        2,978,111
        
        2,659,266Property and equipment, net
        
        11,279,433
        
        11,115,033Accrued income
        
        2,510,686
        
        3,124,540Other assets
        
        2,909,995
        
        3,765,204$
        367,300,671
        $
        368,196,924Liabilities and Stockholders EquityLiabilitiesDepositsNoninterest-bearing
        $
        44,928,134
        $
        41,883,404Interest-bearing
        
        266,482,165
        
        263,846,770Total deposits
        
        311,410,299
        
        305,730,174Long-term debt
        
        25,000,000
        
        30,000,000Accrued interest payable
        
        919,808
        
        492,105Other liabilities
        
        241,701
        
        2,957,950337,571,808
        
        339,180,229Commitments and contingencies
        
        -
        
        -Stockholders equityPreferred stock, $25 par value; 500,000shares authorized; none issued
        
        -
        
        -Common stock, $1.25 par value; 2,000,000 sharesauthorized; 1,718,968 shares issued andoutstanding
        
        2,148,710
        
        2,148,710Surplus
        
        521,625
        
        521,625Retained earnings
        
        28,618,170
        
        28,302,082Accumulated other comprehensive loss
        
        (1,559,642)
        
        (1,955,722)29,728,863
        
        29,016,695$
        367,300,671
        $
        368,196,924
   See Notes to Consolidated Financial Statements.  3
 
  Grayson Bankshares, Inc. and Subsidiary Consolidated Statements of Income For the Nine Months ended September 30, 2009 and 2008  Nine Months EndedSeptember 30,2009
        
        2008(Unaudited)
        
        (Unaudited)Interest incomeLoans and fees on loans
        $
        13,417,581
        $
        14,790,512Federal funds sold
        
        27,380
        
        306,840Investment securities:Taxable
        
        1,274,714
        
        1,350,109Exempt from federal income tax
        
        311,080
        
        363,19115,030,755
        
        16,810,652Interest expenseDeposits
        
        5,656,925
        
        7,271,436Interest on borrowings
        
        877,496
        
        731,9646,534,421
        
        8,003,400Net interest income
        
        8,496,334
        
        8,807,252Provision for loan losses
        
        862,331
        
        293,397Net interest income afterprovision for loan losses
        
        7,634,003
        
        8,513,855Noninterest incomeService charges on deposit accounts
        
        736,123
        
        705,064Increase in cash value of life insurance
        
        225,000
        
        231,000Net realized gains (losses) on securities
        
        165,773
        
        (1,645,083)Other income
        
        470,418
        
        619,0471,597,314
        
        (89,972)Noninterest expenseSalaries and employee benefits
        
        4,923,179
        
        4,400,803Occupancy expense
        
        359,606
        
        270,693Equipment expense
        
        631,765
        
        664,185Other expense
        
        2,324,989
        
        1,904,6298,239,539
        
        7,240,310Income before income taxes
        
        991,778
        
        1,183,573Income tax expense
        
        160,000
        
        210,241Net income
        $
        831,778
        $
        973,332Basic earnings per share
        $
        0.48
        $
        0.57Weighted average shares outstanding
        
        1,718,968
        
        1,718,968Dividends declared per share
        $
        0.30
        $
        0.63
   See Notes to Consolidated Financial Statements.  4
 
  Grayson Bankshares, Inc. and Subsidiary Consolidated Statements of Income For the Three Months ended September 30, 2009 and 2008   Three Months EndedSeptember 30,2009
        
        2008(Unaudited)
        
        (Unaudited)Interest incomeLoans and fees on loans
        $
        4,477,716
        $
        4,908,012Federal funds sold
        
        8,624
        
        48,082Investment securities:Taxable
        
        410,220
        
        517,060Exempt from federal income tax
        
        98,412
        
        120,2874,994,972
        
        5,593,441Interest expenseDeposits
        
        1,755,274
        
        2,224,870Interest on borrowings
        
        266,251
        
        268,9642,021,525
        
        2,493,834Net interest income
        
        2,973,447
        
        3,099,607Provision for loan losses
        
        280,694
        
        93,397Net interest income afterprovision for loan losses
        
        2,692,753
        
        3,006,210Noninterest income (loss)Service charges on deposit accounts
        
        274,797
        
        245,581Increase in cash value of life insurance
        
        69,000
        
        75,000Net realized gains (losses) on securities
        
        1,592
        
        (1,660,800)Other income
        
        149,335
        
        167,390494,724
        
        (1,172,829)Noninterest expenseSalaries and employee benefits
        
        1,632,452
        
        1,475,083Occupancy expense
        
        121,501
        
        89,658Equipment expense
        
        209,833
        
        212,845Other expense
        
        790,568
        
        682,5272,754,354
        
        2,460,113Income (loss) before income taxes
        
        433,123
        
        (626,732)Income tax expense (benefit)
        
        87,000
        
        (256,759)Net income (loss)
        $
        346,123
        $
        (369,973)Basic earnings (loss) per share
        $
        0.20
        $
        (0.22)Weighted average shares outstanding
        
        1,718,968
        
        1,718,968Dividends declared per share
        $
        0.10
        $
        0.21
   See Notes to Consolidated Financial Statements.  5
 
  Grayson Bankshares, Inc. and Subsidiary Consolidated Statements of Changes in Stockholders Equity For the Nine Months ended September 30, 2009 (unaudited) and the Year ended December 31, 2008 (audited)  AccumulatedOtherCommon Stock
        
        
        
        Retained
        
        ComprehensiveShares
        
        Amount
        
        Surplus
        
        Earnings
        
        Income (Loss)
        
        TotalBalance, December 31, 2007
        1,718,968
        $
        2,148,710
        $
        521,625
        $
        29,026,036
        $
        (1,405,498)
        $
        30,290,873Comprehensive incomeNet income
        -
        
        -
        
        -
        
        754,359
        
        -
        
        754,359Net change in pension reservenet of income taxes of ($569,949)
        -
        
        -
        
        -
        
        -
        
        (1,106,372)
        
        (1,106,372)Net change in unrealizedgain on investmentsecurities available forsale, net of taxes of ($272,135)
        -
        
        -
        
        -
        
        -
        
        (528,262)
        
        (528,262)Reclassification adjustment,net of income taxes of $558,636
        -
        
        -
        
        -
        
        -
        
        1,084,410
        
        1,084,410Total comprehensive income
        
        
        
        
        
        
        
        
        
        
        204,135Dividends paid($.86 per share)
        -
        
        -
        
        -
        
        (1,478,313)
        
        -
        
        (1,478,313)Balance, December 31, 2008
        1,718,968
        $
        2,148,710
        $
        521,625
        $
        28,302,082
        $
        (1,955,722)
        $
        29,016,695Comprehensive incomeNet income
        -
        
        -
        
        -
        
        831,778
        
        -
        
        831,778Net change in unrealizedloss on investmentsecurities available forsale, net of taxes of  $260,404
        -
        
        -
        
        -
        
        -
        
        505,490
        
        505,490Reclassification adjustment,net of income taxes of ($56,363)
        -
        
        -
        
        -
        
        -
        
        (109,410)
        
        (109,410)Total comprehensive income
        
        
        
        
        
        
        
        
        
        
        1,227,858Dividends paid($.30 per share)
        -
        
        -
        
        -
        
        (515,690)
        
        -
        
        (515,690)Balance, September 30, 2009
        1,718,968
        $
        2,148,710
        $
        521,625
        $
        28,618,170
        $
        (1,559,642)
        $
        29,728,863
   See Notes to Consolidated Financial Statements.  6
 
  Grayson Bankshares, Inc. and Subsidiary Consolidated Statements of Cash Flows For the Nine Months ended September 30, 2009 and 2008 Nine Months EndedSeptember 30,2009
        
        2008(Unaudited)
        
        (Unaudited)Cash flows from operating activitiesNet income
        $
        831,778
        $
        973,332Adjustments to reconcile net incometo net cash provided by operations:Depreciation and amortization
        
        616,500
        
        580,500Provision for loan losses
        
        862,331
        
        293,397Deferred income taxes
        
        639,628
        
        221,000Net realized (gains) losses on securities
        
        (165,773)
        
        1,645,083Accretion of discount on securities, net ofamortization of premiums
        
        76,344
        
        (1,676)Deferred compensation
        
        (17,272)
        
        (37,179)Net realized (gain) loss on foreclosed assets
        
        9,487
        
        (21,926)Life insurance income
        
        -
        
        (119,902)Changes in assets and liabilities:Cash value of life insurance
        
        (225,000)
        
        (231,000)Accrued income
        
        613,854
        
        (196,156)Other assets
        
        11,540
        
        (118,463)Accrued interest payable
        
        427,703
        
        446,328Other liabilities
        
        (2,698,977)
        
        (1,318,428)Net cash provided by operating activities
        
        982,143
        
        2,114,910Cash flows from investing activitiesNet (increase) decrease in federal funds sold
        
        (4,579,314)
        
        14,627,599Purchases of available-for-sale investment securities
        
        (13,980,295)
        
        (28,736,274)Sales of available-for-sale investment securities
        
        5,657,100
        
        -Maturities/calls of available-for-sale investment securities
        
        13,607,028
        
        18,427,979Maturities/calls of held-to-maturity investment securities
        
        500,000
        
        -Purchases of restricted equity securities
        
        (51,950)
        
        (499,900)Net increase in loans
        
        (756,581)
        
        (8,632,596)Purchases of bank-owned life insurance
        
        -
        
        (2,000,000)Proceeds from life insurance contracts
        
        -
        
        290,803Proceeds from the sale of foreclosed assets
        
        191,668
        
        256,926Purchases of property and equipment, net of sales
        
        (780,900)
        
        (2,907,267)Net cash used in investing activities
        
        (193,244)
        
        (9,172,730)Cash flows from financing activities
        
        5,680,125Net increase (decrease) in deposits
        
        
        
        (2,829,040)Dividends paid
        
        (515,690)
        
        (1,082,950)Net increase (decrease) in long-term debt
        
        (5,000,000)
        
        10,000,000Net cash provided by financing activities
        
        164,435
        
        6,088,010Net increase (decrease) in cash and cash equivalents
        
        953,334
        
        (969,810)Cash and cash equivalents, beginning
        
        9,536,772
        
        10,746,139Cash and cash equivalents, ending
        $
        10,490,106
        $
        9,776,329Supplemental disclosure of cash flow informationInterest paid
        $
        6,106,718
        $
        7,557,072Taxes paid
        $
        190,000
        $
        529,241Transfers of loans to foreclosed properties
        $
        520,000
        $
        175,000
   See Notes to Consolidated Financial Statements.  7
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 1.  Organization and Summary of Significant Accounting Policies  Organization  Grayson Bankshares, Inc. (the Company) was incorporated as a Virginia corporation on February 3, 1992 to acquire the stock of The Grayson National Bank (the Bank) in a bank holding company reorganization.  The Bank was acquired by the Company on July 1, 1992.  The Bank was organized under the laws of the United States in 1900 and currently serves Grayson County, Virginia and surrounding areas through nine banking offices.  As an FDIC-insured National Banking Association, the Bank is subject to regulation by the Comptroller of the Currency.  The Company is regulated by the Board of Governors of the Federal Reserve System.  The consolidated financial statements as of September 30, 2009 and for the periods ended September 30, 2009 and 2008 included herein have been prepared by the Company without audit, pursuant to the rules and regulations of the Securities and Exchange Commission.  In the opinion of management, the information furnished in the interim consolidated financial statements reflects all adjustments necessary to present fairly the Companys consolidated financial position, results of operations, changes in stockholders equity and cash flows for such interim periods.  Management believes that all interim period adjustments are of a normal recurring nature.  These consolidated financial statements should be read in conjunction with the Companys audited financial statements and the notes thereto as of December 31, 2008, included in the Companys Annual Report on Form 10-K for the fiscal year ended
December 31, 2008.  The results of operations for the nine-month and three-month periods ended September 30, 2009 are not necessarily indicative of the results to be expected for the full year.  The accounting and reporting policies of the Company and the Bank follow generally accepted accounting principles and general practices within the financial services industry.  Principles of Consolidation  The consolidated financial statements include the accounts of the Company and the Bank, which is wholly owned.  All significant intercompany transactions and balances have been eliminated in consolidation.  Recent Accounting Pronouncements  In June 2009, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 168, The FASB Accounting Standards Codification TM and the Hierarchy of Generally Accepted Accounting Principles  a replacement of FASB Statement No. 162, (SFAS 168).  SFAS 168 establishes the FASB Accounting Standards Codification TM (Codification) as the source of authoritative generally accepted accounting principles (GAAP) for nongovernmental entities.  The Codification does not change GAAP. Instead, it takes the thousands of individual pronouncements that currently comprise GAAP and reorganizes them into approximately 90 accounting Topics, and displays all Topics using a consistent structure.  Contents in each Topic are further organized first by Subtopic, then Section and finally Paragraph. The
Paragraph level is the only level that contains substantive content. Citing particular content in the Codification involves specifying the unique numeric path to the content through the Topic, Subtopic, Section and Paragraph structure. FASB suggests that all citations begin with FASB ASC, where ASC stands for Accounting Standards Codification. Changes to the ASC subsequent to June 30, 2009 are referred to as Accounting Standards Updates (ASU).   8
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements  Note 1.  Organization and Summary of Significant Accounting Policies, continued  In conjunction with the issuance of SFAS 168, the FASB also issued its first Accounting Standards Update No. 2009-1, Topic 105 Generally Accepted Accounting Principles (ASU 2009-1) which includes SFAS 168 in its entirety as a transition to the ASC.    ASU 2009-1 is effective for interim and annual periods ending after September 15, 2009 and did not have an impact on the Companys financial position or results of operations but did change the referencing system for accounting standards.  Certain of the following pronouncements were issued prior to the issuance of the ASC and adoption of the ASUs. For such pronouncements, citations to the applicable Codification by Topic, Subtopic and Section are provided where applicable in addition to the original standard type and number.  In December 2008 the FASB issued FASB Staff Position (FSP) SFAS 132(R)-1 (FASB ASC 715-20-65), Employers Disclosures about Postretirement Benefit Plan Assets, (FSP SFAS 132(R)-1).  This FSP provides guidance on an employers disclosures about plan assets of a defined benefit pension or other postretirement plan.  The objective of the FSP is to provide the users of financial statements with an understanding of: (a) how investment allocation decisions are made, including the factors that are pertinent to an understanding of investment policies and strategies; (b) the major categories of plan assets; (c) the inputs and valuation techniques used to measure the fair value of plan assets; (d) the effect of fair value measurements using significant unobservable inputs (Level 3) on changes in plan assets for the period; and (e) significant concentrations of risk within
plan assets.  The FSP also requires a nonpublic entity, as defined in Statement of Financial Accounting Standard (SFAS) 132, to disclose net periodic benefit cost for each period for which a statement of income is presented.  FSP SFAS 132(R)-1 is effective for fiscal years ending after December 15, 2009.  The Staff Position will require the Company to provide additional disclosures related to its benefit plan.  The FASB issued FASB ASC 860, Transfers and Servicing in June 2009.  This standard limits the circumstances in which a financial asset should be derecognized when the transferor has not transferred the entire financial asset by taking into consideration the transferors continuing involvement.  The standard requires that a transferor recognize and initially measure at fair value all assets obtained (including a transferors beneficial interest) and liabilities incurred as a result of a transfer of financial assets accounted for as a sale.  The concept of a qualifying special-purpose entity is removed from SFAS 140 along with the exception from applying FIN 46(R).  The standard is effective for the first annual reporting period that begins after November 15, 2009, for interim periods within the first annual reporting period, and for interim and annual reporting periods thereafter.
Earlier application is prohibited.  The Company does not expect the standard to have any impact on the Companys financial statements.  The FASB issued ASU 200905, Fair Value Measurements and Disclosures (Topic 820)  Measuring Liabilities at Fair Value in August, 2009 to provide guidance when estimating the fair value of a liability.  When a quoted price in an active market for the identical liability is not available, fair value should be measured using (a) the quoted price of an identical liability when traded as an asset; (b) quoted prices for similar liabilities or similar liabilities when traded as assets; or (c) another valuation technique consistent with the principles of Topic 820 such as an income approach or a market approach.  If a restriction exists that prevents the transfer of the liability, a separate adjustment related to the restriction is not required when estimating fair value.  The ASU was effective October 1, 2009 for the Company and will have no impact on financial position or operations.   9
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements  Note 1.  Organization and Summary of Significant Accounting Policies, continued  ASU 2009-12, Fair Value Measurements and Disclosures (Topic 820) - Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent), issued in September, 2009, allows a company to measure the fair value of an investment that has no readily determinable fair market value on the basis of the investees net asset value per share as provided by the investee. This allowance assumes that the investee has calculated net asset value in accordance with the GAAP measurement principles of Topic 946 as of the reporting entitys measurement date.   Examples of such investments include investments in hedge funds, private equity funds, real estate funds and venture capital funds. The update also provides guidance on how the investment should be classified within the fair value hierarchy based on the value for which the investment can be redeemed.  The amendment is
effective for interim and annual periods ending after December 15, 2009 with early adoption permitted.  The Company does not have investments in such entities and, therefore, there will be no impact to our financial statements.  Issued October, 2009, ASU 2009-15, Accounting for Own-Share Lending Arrangements in Contemplation of Convertible Debt Issuance or Other Financing amends ASC Topic 470 and provides guidance for accounting and reporting for own-share lending arrangements issued in contemplation of a convertible debt issuance.  At the date of issuance, a share-lending arrangement entered into on an entitys own shares should be measured at fair value in accordance with Topic 820 and recognized as an issuance cost, with an offset to additional paid-in capital.  Loaned shares are excluded from basic and diluted earnings per share unless default of the share-lending arrangement occurs.  The amendments also require several disclosures including a description and the terms of the arrangement and the reason for entering into the arrangement.  The effective dates of the amendments are dependent upon the date the
share-lending arrangement was entered into and include retrospective application for arrangements outstanding as of the beginning of fiscal years beginning on or after December 15, 2009.   The Company has no plans to issue convertible debt and, therefore, does not expect the update to have an impact on its financial statements.  Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Companys financial position, results of operations or cash flows.   10
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 2.  Restrictions on Cash  To comply with banking regulations, the Bank is required to maintain certain average cash reserve balances.  The daily average cash reserve requirement was approximately $2,937,000 and $2,413,000 for the periods including September 30, 2009 and December 31, 2008, respectively.  Note 3.  Investment Securities  Debt and equity securities have been classified in the consolidated balance sheets according to managements intent.  The carrying amount of securities and their approximate fair values at September 30, 2009 and December 31, 2008 follow:  Amortized
        
        Unrealized
        
        Unrealized
        
        FairCost
        
        Gains
        
        Losses
        
        ValueSeptember 30, 2009Available for sale:U.S. Government agency securities
        $
        1,752,591
        $
        80,209
        $
        -
        $
        1,832,800Government sponsored enterprises
        
        13,098,540
        
        118,733
        
        88,611
        
        13,128,662Mortgage-backed securities
        
        18,848,344
        
        551,033
        
        -
        
        19,399,377State and municipal securities
        
        7,294,409
        
        192,374
        
        51,325
        
        7,435,458$
        40,993,884
        $
        942,349
        $
        139,936
        $
        41,796,297Held to maturity:State and municipal securities
        $
        2,560,082
        $
        98,299
        $
        5,825
        $
        2,652,556December 31, 2008Available for sale:U.S. Government agency securities
        $
        2,385,806
        $
        56,252
        $
        -
        $
        2,442,058Government sponsored enterprises
        
        14,107,529
        
        317,158
        
        61,320
        
        14,363,367Mortgage-backed securities
        
        20,738,936
        
        258,666
        
        60,281
        
        20,937,321State and municipal securities
        
        8,978,491
        
        15,410
        
        323,593
        
        8,670,308$
        46,210,762
        $
        647,486
        $
        445,194
        $
        46,413,054Held to maturity:State and municipal securities
        $
        3,037,608
        $
        40,794
        $
        33,621
        $
        3,044,781
  There were no securities transferred between the available for sale and held to maturity portfolios during the nine-month period ended September 30, 2009 or the year ended December 31, 2008.  Restricted equity securities were $1,783,700 at September 30, 2009 and $1,731,750 at December 31, 2008.  Restricted equity securities consist of investments in stock of the Federal Home Loan Bank of Atlanta (FHLB), Community Bankers Bank, Pacific Coast Bankers Bank, and the Federal Reserve Bank of Richmond, all of which are carried at cost.  All of these entities are upstream correspondents of the Bank.  The FHLB requires financial institutions to make equity investments in the FHLB in order to borrow money.  The Bank is required to hold that stock so long as it borrows from the FHLB.  The Federal Reserve requires Banks to purchase stock as a condition for membership in the Federal Reserve system.  The Banks stock in Community Bankers Bank and Pacific Coast Bankers Bank is restricted only in the fact that the stock may only be repurchased by the respective banks.  11
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 3.  Investment Securities, continued  The following table details unrealized losses and related fair values in the Companys held to maturity and available for sale investment securities portfolios.  This information is aggregated by the length of time that individual securities have been in a continuous unrealized loss position as of September 30, 2009 and December 31, 2008.  Less Than 12 Months
        
        12 Months or More
        
        TotalFair
        
        Unrealized
        
        Fair
        
        Unrealized
        
        Fair
        
        UnrealizedValue
        
        Losses
        
        Value
        
        Losses
        
        Value
        
        LossesSeptember 30, 2009Available for sale:U.S. Government agency securities
        $
        -
        $
        -
        $
        -
        $
        -
        $
        -
        $
        -Government sponsored enterprises
        
        2,454,380
        
        88,611
        
        -
        
        -
        
        2,454,380
        
        88,611Mortgage-backed securities
        
        -
        
        -
        
        -
        
        -
        
        -
        
        -State and municipal securities
        
        1,012,057
        
        3,518
        
        712,222
        
        47,807
        
        1,724,279
        
        51,325Total securities available for sale
        $
        3,466,437
        $
        92,129
        $
        712,222
        $
        47,807
        $
        4,178,659
        $
        139,936Held to maturity:State and municipal securities
        $
        -
        $
        -
        $
        221,737
        $
        5,825
        $
        221,737
        $
        5,825December 31, 2008Available for sale:U.S. Government agency securities
        $
        -
        $
        -
        $
        -
        $
        -
        $
        -
        $
        -Government sponsored enterprises
        
        497,500
        
        2,500
        
        10,380
        
        58,820
        
        507,880
        
        61,320Mortgage-backed securities
        
        9,678,440
        
        60,281
        
        -
        
        -
        
        9,678,440
        
        60,281State and municipal securities
        
        5,347,720
        
        245,323
        
        806,730
        
        78,270
        
        6,154,450
        
        323,593Total securities available for sale
        $
        15,523,660
        $
        308,104
        $
        817,110
        $
        137,090
        $
        16,340,770
        $
        445,194Held to maturity:State and municipal securities
        $
        820,575
        $
        33,621
        $
        -
        $
        -
        $
        820,575
        $
        33,621
  Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation.  Consideration is given to the length of time and the extent to which the fair value has been less than cost, and the financial condition and near-term prospects of the issuer.  The relative significance of these and other factors will vary on a case by case basis.  In analyzing an issuer's financial condition, management considers whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, the results of reviews of the issuer's financial condition and the issuer's anticipated ability to pay the contractual cash flows of the investments. Since the Company intends to hold all of its investment securities until maturity, and it is more likely than not that the Company will not have to sell any of its investment securities before unrealized losses have been recovered, and the Company expects to recover the entire amount of the amortized cost basis of all its securities, none of the securities are deemed other than temporarily impaired at September 30, 2009. Management continues to monitor all of these securities with a high degree of scrutiny. There can be no assurance that the Company will not
conclude in future periods that conditions existing at that time indicate some or all of these securities are other than temporarily impaired, which could require a charge to earnings in such periods.   12
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 3.  Investment Securities, continued  Investment securities with amortized cost of approximately $15,324,917 at September 30, 2009 and $15,152,446 at December 31, 2008, were pledged as collateral on public deposits and for other purposes as required or permitted by law.  Gross realized gains and losses for the nine-month and three-month periods ended September 30, 2009 and 2008 are as follows: Nine-month period
        
        
        Three-month period2009
        
        2008
        
        
        2009
        
        2008Realized gains
        $
        223,298
        $
        15,847
        
        $
        1,592
        
        -Realized losses
        
        (57,525)
        
        (1,660,930)
        
        
        -
        
        (1,660,800)$
        165,773
        $
        (1,645,083)
        
        $
        1,592
        $
        (1,660,800)
  The scheduled maturities of securities available for sale and securities held to maturity at September 30, 2009, were as follows: Available for Sale
        
        Held to MaturityFair
        
        Amortized
        
        Fair
        
        AmortizedCost
        
        Value
        
        Cost
        
        ValueDue in one year or less
        $
        323,478
        $
        329,793
        $
        -
        
        -Due after one year through five years
        
        1,448,730
        
        1,496,246
        
        846,466
        
        882,393Due after five years through ten years
        
        18,948,668
        
        19,335,630
        
        611,471
        
        641,049Due after ten years
        
        20,273,008
        
        20,634,628
        
        1,102,145
        
        1,129,114$
        40,993,884
        $
        41,796,297
        $
        2,560,082
        $
        2,652,556
  Maturities of mortgage backed securities are based on contractual amounts.  Actual maturity will vary as loans underlying the securities are prepaid.  Note 4.  Allowance for Loan Losses  The following is an analysis of the allowance for loan losses for the nine months ended September 30, 2009 and 2008.  2009
        
        2008Balance, beginning
        $
        3,359,946
        $
        2,757,745Provision charged to expense
        
        862,331
        
        293,397Recoveries of amounts charged off
        
        21,271
        
        211,741Amounts charged off
        
        (879,572)
        
        (392,221)Balance, ending
        $
        3,363,976
        $
        2,870,662
  Note 5.  Income Taxes  A reconciliation of income tax expense computed at the statutory federal income tax rate to income tax expense included in the statements of income for the nine months ended September 30, 2009 and 2008 follows:  2009
        
        2008Tax at statutory federal rate
        $
        337,205
        $
        402,415Tax exempt interest income
        
        (119,753)
        
        (136,752)Other tax exempt income
        
        (76,500)
        
        (126,677)Other
        
        19,048
        
        71,255$
        160,000
        $
        210,241
   13
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 6.  Employee Benefit Plan  The Bank has a qualified noncontributory defined benefit pension plan that covers substantially all of its employees.  The benefits are primarily based on years of service and earnings.  The following is a summary of net periodic pension costs for the nine-month and three-month periods ended September 30, 2009 and 2008.  Nine-month period
        
        Three-month period2009
        
        2008
        
        2009
        
        2008Service cost
        $
        293,307
        $
        293,685
        $
        97,769
        $
        97,895Interest cost
        
        286,107
        
        275,922
        
        95,369
        
        91,974Expected return on plan assets
        
        (347,828)
        
        (331,827)
        
        (129,147)
        
        (110,609)Amortization of net obligation at transition
        
        (15)
        
        (27)
        
        (5)
        
        (9)Amortization of prior service cost
        
        8,085
        
        7,548
        
        2,695
        
        2,516Amortization of net (gain) or loss
        
        108,303
        
        38,796
        
        36,101
        
        12,932Net periodic benefit cost
        $
        347,959
        $
        284,097
        $
        102,782
        $
        94,699
  Note 7.  Commitments and Contingencies  The Bank is party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments include commitments to extend credit and standby letters of credit.  These instruments involve, to varying degrees, credit risk in excess of the amount recognized in the consolidated balance sheets.  The Banks exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments.  The Bank uses the same credit policies in making commitments and conditional obligations as for on-balance-sheet instruments.  A summary of the Banks commitments at September 30, 2009 and 2008 is as follows:  2009
        
        2008Commitments to extend credit
        $
        17,447,278
        $
        19,590,442Standby letters of credit
        
        -
        
        -$
        17,447,278
        $
        19,590,442
   Commitments to extend credit are agreements to lend to a customer, at a fixed or variable interest rate, as long as there is no violation of any condition established in the contract.  Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee.  Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.  The Bank evaluates each customers creditworthiness on a case-by-case basis.  The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on managements credit evaluation of the party.   Collateral held varies, but may include accounts receivable, inventory, property and equipment, residential real estate and income-producing commercial properties.  Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party.  Those guarantees are primarily issued to support public and private borrowing arrangements.  The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies as specified above and is required in instances that the Bank deems necessary.   14
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 8.  Fair Value  FASB ASC 825, Financial Instruments, requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet.  In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques.  Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows.  In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instruments.  FASB ASC 825 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements.  Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.  The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments:  Cash and due from banks:  The carrying amounts reported in the balance sheet for cash and due from banks approximate their fair values.  Federal funds sold:Due to their short-term nature, the carrying value of federal funds sold approximate their fair value.  Securities:Fair values for securities, excluding restricted equity securities, are based on quoted market prices, where available.  If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments.  The carrying values of restricted equity securities approximate fair values.  Loans receivable:For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying amounts.  The fair values for other loans are estimated using discounted cash flow analysis, based on interest rates currently being offered for loans with similar terms to borrowers of similar credit quality.  Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics. Fair values for impaired loans are estimated using discounted cash flow analysis or underlying collateral values, where applicable.  The carrying amount of accrued interest receivable approximates its fair value.  Cash value of life insurance:  The carrying amount reported in the balance sheet approximates fair value as it represents the cash surrender value of the life insurance.  Deposit liabilities:The fair values disclosed for demand and savings deposits are, by definition, equal to the amount payable on demand at the reporting date.  The fair values for certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated contractual maturities on such time deposits.  The carrying amount of accrued interest payable approximates fair value.  Long-term debt:The fair value of long-term debt is estimated using a discounted cash flow calculation that applies interest rates currently available on similar instruments.   15
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 8.  Fair Value, continued  The estimated fair values of the Companys financial instruments are as follows (dollars in thousands):  September 30, 2009
        
        December 31, 2008Carrying
        
        Fair
        
        Carrying
        
        FairAmount
        
        Value
        
        Amount
        
        ValueFinancial assetsCash and due from banks
        $
        10,490
        $
        10,490
        $
        9,537
        $
        9,537Federal funds sold
        
        15,729
        
        15,729
        
        11,150
        
        11,150Securities, available for sale
        
        41,796
        
        41,796
        
        46,413
        
        46,413Securities, held to maturity
        
        2,560
        
        2,653
        
        3,038
        
        3,045Restricted equity securities
        
        1,784
        
        1,784
        
        1,732
        
        1,732Loans, net of allowance for loan losses
        
        267,263
        
        271,105
        
        267,889
        
        274,105Cash value of life insurance
        
        8,000
        
        8,000
        
        7,775
        
        7,775Financial liabilitiesDeposits
        
        311,410
        
        313,571
        
        305,730
        
        308,638Long-term debt
        
        25,000
        
        27,793
        
        30,000
        
        34,067
  The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures.  Securities available for sale, and derivatives are recorded at fair value on a recurring basis.  Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, such as loans or foreclosed assets.  These nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.  Fair Value Hierarchy  Under FASB ASC 820, Fair Value Measurements and Disclosures, 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.  These levels are:  Level 1  Valuation is based upon quoted prices for identical instruments traded in active markets.
  Level 2  Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market.  Level 3  Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market.  These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability.  Valuation techniques may include the use of option pricing models, discounted cash flow models and similar techniques.   16
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 8.  Fair Value, continued  Following is a description of valuation methodologies used for assets and liabilities recorded at fair value.  Investment Securities Available for Sale  Investment securities available for sale 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 independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the securitys credit rating, prepayment assumptions and other factors such as credit loss assumptions.  Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds.  Level 2 securities include 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  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 FASB ASC 310, Receivables.   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 FASB ASC 820, 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.  Derivative Assets and Liabilities  Derivative instruments held or issued by the Company for risk management purposes are traded in over-the-counter markets where quoted market prices are not readily available.  Management engages third-party intermediaries to determine the fair market value of these derivative instruments and classifies these instruments as Level 2.  Examples of Level 2 derivatives are interest rate swaps, caps and floors.  No derivative instruments were held as of September 30, 2009, or December 31, 2008.  Foreclosed Assets  Foreclosed assets are adjusted to fair value, less selling costs, upon transfer of the loans to foreclosed assets.  Subsequently, foreclosed assets are carried at the lower of carrying value or fair 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.   17
 
  Grayson Bankshares, Inc. and Subsidiary Notes to Consolidated Financial Statements   Note 8.  Fair Value, continued  Assets and Liabilities Recorded at Fair Value on a Recurring Basis  September 30, 2009
        
        Total
        
        Level 1
        
        Level 2
        
        Level 3Investment securities available for sale
        $
        41,796,297
        $
        -
        $
        41,796,297
        $
        -Total assets at fair value
        $
        41,796,297
        $
        -
        $
        41,796,297
        $
        -Total liabilities at fair value
        $
        -
        $
        -
        $
        -
        $
        -December 31, 2008
        
        Total
        
        Level 1
        
        Level 2
        
        Level 3Investment securities available for sale
        $
        46,413,054
        $
        -
        $
        46,413,054
        $
        -Total assets at fair value
        $
        46,413,054
        $
        -
        $
        46,413,054
        $
        -Total liabilities at fair value
        $
        -
        $
        -
        $
        -
        $
        -
  Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis  The Company may be required, from time to time, to measure certain assets and liabilities at fair value on a nonrecurring basis in accordance with U.S. generally accepted accounting principles.  These include assets and liabilities that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period.  Assets and liabilities measured at fair value on a nonrecurring basis are included in the table below.  September 30, 2009
        
        Total
        
        Level 1
        
        Level 2
        
        Level 3Loans
        $
        1,067,746
        $
        -
        $
        362,242
        $
        705,504Foreclosed assets
        
        465,845
        
        -
        
        125,659
        
        340,186Total assets at fair value
        $
        1,533,591
        $
        -
        $
        487,901
        $
        1,045,690Total liabilities at fair value
        $
        -
        $
        -
        $
        -
        $
        -December 31, 2008
        
        Total
        
        Level 1
        
        Level 2
        
        Level 3Loans
        $
        494,024
        $
        -
        $
        494,024
        $
        -Foreclosed assets
        
        2,659,266
        
        -
        
        2,659,266
        
        -Total assets at fair value
        $
        3,153,290
        $
        -
        $
        3,153,290
        $
        -Total liabilities at fair value
        $
        -
        $
        -
        $
        -
        $
        -
  Note 9.  Subsequent Events  Management has evaluated events occurring subsequent to the balance sheet date through November 13, 2009 (the financial statement issuance date), determining no events require additional disclosure in these consolidated financial statements.   18
 
  Part I.  Financial Information  Item 2  Managements Discussion and Analysis of Financial Condition and Results of Operations   General  The following discussion provides information about the major components of the results of operations and financial condition of the Company.  This discussion and analysis should be read in conjunction with the Consolidated Financial Statements and Notes to Consolidated Financial Statements included in this report.  Critical Accounting Policies  For a discussion of the Companys critical accounting policies, including its allowance for loan losses, see the Companys Annual Report on Form 10-K for the year ended December 31, 2008.  Results of Operations  Total interest income decreased by $598,469 for the quarter ended September 30, 2009 compared to the quarter ended September 30, 2008, while interest expense on deposits and other borrowings decreased by $472,309 over the same period.  The decrease in interest income was attributable primarily to decreases in interest rates.  The Federal Reserve has lowered its target overnight borrowing rate to a range of 0.00% to 0.25%, resulting in significant reductions in federal funds interest as well as interest on loans indexed to the prime lending rate.   Because of this, management has moved to simultaneously lower rates on deposits; however, managements ability to lower deposit rates has been limited by competition in the Banks market area.  The result was a decrease in net interest income of $126,160, or 4.07% for the quarter ended September 30, 2009, compared to the quarter ended September 30, 2008.  The provision for loan losses was $280,694 for the quarter ended September 30, 2009 and $93,397 for the same period in 2008.  The increase was due to increased charge-offs as well as managements desire to maintain higher reserve levels in light of deteriorating economic conditions and increases in the level of past-due loans.  The reserve for loan losses at September 30, 2009 was approximately 1.24% of total loans, compared to 1.06% at September 30, 2008.  Management believes the provision and the resulting allowance for loan losses are adequate.  Total noninterest income was $494,724 in the third quarter of 2009 compared to a loss of $1,172,829 in the third quarter of 2008.  The loss in 2008 was the result of an other-than-temporary impairment charge of $1,660,800 on FHLMC (Freddie Mac) preferred stock.  Noninterest expenses increased by $294,241, or 11.96%, for the quarter ended September 30, 2009 compared to the quarter ended September 30, 2008.  Salary and employee benefit expenses increased by $157,369, or 10.67% while other expenses increased by $108,041, or 15.83%.  The increase in other expenses resulted primarily from increases in FDIC assessments.  In an effort to replenish the federal deposit insurance fund, which has been diminished by the increased level of bank failures in 2008 and 2009, the FDIC has increased the assessment rates charged to member banks.  FDIC assessments in the third quarter of 2009 totaled $150,000, compared to $49,000 for the third quarter of 2008.  Overall, pre-tax earnings for the quarter ended September 30, 2009 totaled $433,123 compared to a pre-tax loss of $626,732 for the same period in 2008.  As indicated above, the loss in 2008 came as a result of the other-than-temporary impairment charge on Freddie Mac preferred stock.  Income tax expense increased by $343,759 from the third quarter of 2008 to 2009 resulting in net income of $346,123 for the third quarter of 2009 compared to a net loss of $369,973 for the same period in 2008.  For the nine months ended September 30, 2009, total interest income decreased by $1,779,897 compared to the nine-month period ended September 30, 2008, while interest expense decreased by $1,468,979 over the same period.  This resulted in a decrease in net interest income of $310,918, or 3.53%.  As stated above, the decrease in net interest income was primarily the result of decreases in interest rates.   19
 
  Part I.  Financial Information  Item 2.  Managements Discussion and Analysis of Financial Condition and Results of Operations  Total noninterest income increased by $1,687,286 for the nine-month period ended September 30, 2009 compared to the same period in 2008.  Net realized gains on securities increased by $1,810,856 in 2009 compared to 2008 due to the one-time impairment charge on Freddie Mac preferred stock incurred in 2008.  Other income decreased by $148,629 in 2009 due primarily to the one-time receipt of life insurance proceeds of approximately $120,000 in 2008.  Total noninterest expense increased by $999,229 for the first nine months of 2009 compared to the first nine months of 2008.  The increase is attributable primarily to salary and benefit costs and regulatory assessments. Increases in salary and benefit costs are the result of additional employees, as well as routine increases in wages combined with pension and insurance cost increases.  Salary expense was also impacted by the decreased level of loan originations in 2009 compared to 2008.  The higher level of loan originations in the first nine months of 2008 resulted in a higher level of loan officer salary deferrals than in the first nine months of 2009, thus reducing salary expense for the period in 2008 as compared to 2009.  Regulatory assessments also increased significantly for the nine-month period ended 2009 compared to the same period in 2008.  FDIC and OCC assessments increased by approximately
$538,500 for the nine-month period ended September 30, 2009.  Overall, the decrease in net interest income combined with the increases in loan loss provisions and noninterest expense offset the increase in other income and led to a decrease in net income of $141,554 for the nine-month period ended September 30, 2009 compared to the nine-month period ended September 30, 2008.  Financial Condition  Total assets decreased by $896,253, or 0.24%, from December 31, 2008 to September 30, 2009.  Net loans decreased by $625,750, federal funds sold increased by $4,579,314 and investment securities decreased by $5,094,283.  Total deposits increased by $5,680,125, or 1.86%, from December 31, 2008 to September 30, 2009.  The modest deposit growth came as management moved to lower deposit rates in conjunction with the decreases in rates on loans and federal funds sold.  Long-term debt decreased from $30,000,000 at December 31, 2008, to $25,000,000 at September 30, 2009 as the Bank sought to enhance net interest income by using excess federal funds sold balances to reduce Federal Home Loan Bank borrowings.  Other liabilities decreased from $2,957,950 at December 31, 2008 to $241,701 at September 30, 2009 due primarily to a contribution of $2,000,000 to the employee defined benefit pension plan.  Nonperforming assets, including nonaccrual loans, loans past due more than ninety days and foreclosed assets, increased from $13,467,262 at December 31, 2008 to $16,277,402 at September 30, 2009.  Foreclosed assets consist of twelve properties totaling $2,978,111 at September 30, 2009.  One commercial real estate property represents the majority of the balance in foreclosed assets with a value of $2,422,726.  The remaining properties include nine residential real estate properties, one commercial building, and one tract of undeveloped land.  There was one addition and three disposals of foreclosed properties in the third quarter of 2009.  All foreclosed properties are being marketed for sale.  Loans past due more than ninety days increased from $1,593,331 at December 31, 2008 to $1,760,900 at September 30, 2009.  Nonaccrual loans increased from $9,214,665 at December 31, 2008 to $11,538,391 at September 30, 2009.  During the third quarter of 2009, loans totaling $2,794,891 were added to nonaccrual status while loans totaling $1,042,572 were removed from nonaccrual status.  Loans are removed from nonaccrual status when they are deemed a loss and charged to the allowance, transferred to foreclosed assets, or returned to accrual status based upon performance consistent with the original terms of the loan or a subsequent restructuring thereof.  Management continues to closely monitor nonperforming assets and their impact on earnings and loan loss reserves.  Certain types of loans, such as option ARM products, interest-only loans, subprime loans and loans with initial teaser rates, can have a greater risk of non-collection than other loans.  The Bank has not offered these types of loans in the past and does not offer them currently.  Junior-lien mortgages can also be considered higher risk loans.  Our
junior-lien portfolio at September 30, 2009 totaled $7.2 million, or 2.67% of total loans.  Historical charge-off rates in this category have not varied significantly from other real estate secured loans.  20
 
  Part I.  Financial Information  Item 2.  Managements Discussion and Analysis of Financial Condition and Results of Operations  Stockholders equity totaled $29,728,863 at September 30, 2009 compared to $29,016,695 at December 31, 2008.  The $712,168 increase was the result of earnings for the nine months combined with an increase in the market value of securities classified as available for sale of $396,080, offset by the payment of dividends of $515,690.  Regulatory guidelines relating to capital adequacy provide minimum risk-based ratios at the Bank level which assess capital adequacy while encompassing all credit risks, including those related to off-balance sheet activities.  The Bank exceeds all regulatory capital guidelines and is considered to be well capitalized.  Liquidity and Capital Resources  Liquidity is the ability to convert assets to cash to fund depositors withdrawals or borrowers loans without significant loss.Unsecured federal fund lines available from correspondent banks totaled $9,000,000 at September 30, 2009.  No balances were outstanding on these lines at September 30, 2009 or December 31, 2008.  Long-term debt consists of borrowings from the Federal Home Loan Bank and Deutsche Bank.  Borrowings from the Federal Home Loan Bank, which are secured by a blanket collateral agreement on the Banks 1 to 4 family residential real estate loans, totaled $15,000,000 at September 30, 2009 and $20,000,000 at and December 31, 2008.  Borrowings from Deutsche Bank, which are secured by the pledging of specific investment securities, totaled $10,000,000 at each of September 30, 2009, and December 31, 2008.  The unused credit line from
the Federal Home Loan Bank as of September 30, 2009 is approximately $39,450,000.  The Bank uses cash and federal funds sold to meet its daily funding needs.  If funding needs are met through holdings of excess cash and federal funds, then profits might be sacrificed as higher-yielding investments are foregone in the interest of liquidity.  Therefore management determines, based on such items as loan demand and deposit activity, an appropriate level of cash and federal funds and seeks to maintain that level.  The Banks investment security portfolio also serves as a source of liquidity.  The primary goals of the investment portfolio are liquidity management and maturity gap management.  As investment securities mature, the proceeds are reinvested in federal funds sold if the federal funds level needs to be increased; otherwise the proceeds are reinvested in similar investment securities.  The majority of investment security transactions consist of replacing securities that have been called or matured.  The Bank keeps a portion of its investment portfolio in unpledged assets with average lives or repricing terms of less than 60 months.  These investments are a preferred source of funds because their market value is not as sensitive to changes in interest rates as investments with longer durations.  As a result of the steps described above, management believes that the Company maintains overall liquidity sufficient to satisfy its depositors requirements and meet its customers credit needs.  Forward-Looking Statements  Certain information contained in this discussion may include forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.  These forward-looking statements are generally identified by phrases such as the Company expects, the Company believes or words of similar import.  Such forward-looking statements involve known and unknown risks including, but not limited to, changes in general economic and business conditions, interest rate fluctuations, competition within and from outside the banking industry, new products and services in the banking industry, risk inherent in making loans such as repayment risks and fluctuating collateral values, problems with technology utilized by the Company, changing trends in customer profiles and changes in laws and regulations
applicable to the Company.  Although the Company believes that its expectations with respect to the forward-looking statements are based upon reliable assumptions within the bounds of its knowledge of its business and operations, there can be no assurance that actual results, performance or achievements of the Company will not differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements.  For additional information on known and unknown risks, see the Forward Looking Statements section in the Companys Annual Report on Form 10-K for the year ended December 31, 2008.  21
 
  Part I.  Financial Information  Item 3.  Quantitative and Qualitative Disclosures about Market Risk   Not applicable to smaller reporting companies.   22
 
  Part I.  Financial Information  Item 4.  Controls and Procedures   As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of the Companys management, including the Companys President and Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13a-15 under the Securities Exchange Act of 1934.  Based upon that evaluation, the Companys President and Chief Executive Officer and Chief Financial Officer concluded that its disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiary) required to be included in its periodic filings with the Securities and Exchange Commission.  The Companys management is also responsible for establishing and maintaining adequate internal control over financial reporting. There were no changes in the Companys internal control over financial reporting identified in connection with the evaluation of it that occurred during the Companys last fiscal quarter that materially affected, or are reasonably likely to materially affect, internal control over financial reporting.   23
 
  Part II.  Other Information   Item 1.
        Legal Proceedings
  There are no pending legal proceedings to which the Company or the Bank is a party or of which any of their property is subject.  Item 1A.  Risk Factors  Not applicable to smaller reporting companies.
  Item 2.
        Unregistered Sales of Equity Securities and Use of Proceeds
  Not applicable  Item 3.
        Defaults Upon Senior Securities
  Not applicable
  Item 4.
        Submission of Matters to a Vote of Security Holders
  None
  Item 5.
        Other Information
  None
  Item 6.
        Exhibits
  31.1
        Rule 13(a)-14(a) Certification of Chief Executive Officer.
  31.2
        Rule 13(a)-14(a) Certification of Chief Financial Officer.
  32.1
        Statement of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C.
 Section 1350.   24
 
 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.   GRAYSON BANKSHARES, INC.
   Date: November 13, 2009
        By:
        /s/ Jacky K. Anderson
 Jacky K. Anderson
 President and Chief Executive Officer
   By:
        /s/ Blake M. Edwards
 Blake M. Edwards
 Chief Financial Officer
  25  
 Exhibit Index  Exhibit No.
        Description
  31.1
        Rule 13(a)-14(a) Certification of Chief Executive Officer.
  31.2
        Rule 13(a)-14(a) Certification of Chief Financial Officer.
  32.1
        Statement of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350.
   26