<PAGE>

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

                                   FORM 10-KSB

                     ANNUAL REPORT UNDER SECTION 13 OR 15(d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934

                   For the fiscal year ended December 31, 2001

                        Commission File Number: 33-77568

                          VALLEY FINANCIAL CORPORATION

         VIRGINIA                                      54-1702380
(State of Incorporation)                 (I.R.S. Employer Identification Number)

                             36 Church Avenue, S.W.
                             Roanoke, Virginia 24011
                    (Address of principal executive offices)

                                 (540) 342-2265
                (Issuer's telephone number, including area code)

Securities registered under Section 12(b) of the Exchange Act:  None
Securities registered under Section 12(g) of the Exchange Act: Common Stock, No
Par Value

Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12
months (or for such shorter period that the issuer was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes [X] No [_]

Check if disclosure of delinquent filers in response to Item 405 of Regulation
S-B is not contained in this form, and no disclosure will be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [X]

The issuer's revenues for its most recent fiscal year were $13,581,000.

The aggregate market value of the voting stock held by non-affiliates of the
Company (805,699 shares) based on the $16.00 per share last trade price quoted
by the OTC Bulletin Board on March 15, 2002 was $12,891,184. At March 15, 2002
1,213,207 shares of the registrant's common stock were issued and outstanding.

                      Documents incorporated by reference:

The issuer's Proxy Statement dated March 20, 2002 is incorporated by reference
into Form 10-KSB Part III, Items 9, 10, 11 and 12.

Transitional Small Business Disclosure Format (check one): Yes |_| No |X|

<PAGE>


                          VALLEY FINANCIAL CORPORATION
                                   FORM 10-KSB
                                December 31, 2001

                                      INDEX

PART   I
         Item 1.  Description of Business                                 3

         Item 2.  Description of Property                                12
         Item 3.  Legal Proceedings                                      14
         Item 4.  Submission of Matters to a Vote of Security Holders    14

PART  II
         Item 5.  Market for Common Equity and Related                   14
                  Stockholder Matters
         Item 6.  Management's Discussion and Analysis or Plan           15
                  of Operation
         Item 7.  Financial Statements                                   39
         Item 8.  Changes in and Disagreements With Accountants on       65
                  Accounting and Financial Disclosure

PART  III
         Item  9. Directors, Executive Officers, Promoters and Control   65
                  Persons; Compliance with Section 16(a) of the
                  Exchange Act
         Item 10. Executive Compensation                                 65
         Item 11. Security Ownership of Certain Beneficial Owners and    65
                  Management
         Item 12. Certain Relationships and Related Transactions         65
         Item 13. Exhibits and Reports on Form 8-K                       65

SIGNATURES                                                               68

EXHIBIT INDEX                                                            70


                                       2

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                                     PART I.

Item 1. Description of Business.

      Valley Financial Corporation (the "Company") was incorporated as a
Virginia stock corporation on March 15, 1994, primarily to own and control all
of the capital stock of Valley Bank (the "Bank"). The Bank opened for business
on May 15, 1995 at its main office in the City of Roanoke, opened its second
office on September 11, 1995 in the County of Roanoke, its third office on
January 15, 1997 in the City of Roanoke, its fourth office in the City of Salem
on April 5, 1999, and its fifth office in the City of Roanoke on May 7, 2001.
The Bank is scheduled to open its sixth office in the County of Roanoke in May
of 2002 and its seventh office in the City of Roanoke in May of 2003.

      The Bank operates under a state charter issued by the Commonwealth of
Virginia, and engages in the business of commercial banking. Its deposits are
insured by the FDIC and it is a member of the Federal Reserve System. The
Company presently engages in no business other than owning and managing the
Bank.

Location and Service Area

      The Bank's primary service area consists of the cities of Roanoke and
Salem and Roanoke County, Virginia where it conducts a general commercial
banking business while emphasizing the needs of small-to-medium sized
businesses, professional concerns and individuals. The Bank operates from its
main office at 36 Church Avenue, SW in the City of Roanoke, and its branch
offices at 4467 Starkey Road, SW in the County of Roanoke, 2203 Crystal Spring
Avenue, SW in the City of Roanoke, 8 East Main Street in the City of Salem, and
1518 Hershberger Road in the City of Roanoke. The Bank is scheduled to open its
sixth office at 1003 Hardy Road in the County of Roanoke in May of 2002 and its
seventh office on Keagy Road in the City of Roanoke in May of 2003.

      The Roanoke Metropolitan Statistical Area is the regional center for
southwest Virginia, and is located approximately 165 miles west of Richmond,
Virginia, 178 miles northwest of Charlotte, North Carolina, 178 miles east of
Charleston, West Virginia and 222 miles southwest of Washington, D.C. Hollins
University and Roanoke College, with student enrollments of approximately 1,100
and 1,700, respectively, are located in the Roanoke MSA. Virginia Polytechnic
Institute & State University and Radford University, with student bodies of some
25,000 and 8,500, respectively, are approximately a 45-minute drive away.

      The population in the Roanoke MSA was estimated at 235,932 per the 2000
Census. The Roanoke MSA's growth typically is slower than that in the
Commonwealth overall and in other key Virginia markets in particular, and the
Virginia Employment Commission reported that from 1998 through 2001 the number
of jobs in the Roanoke MSA increased 1.6%, compared with a 6.2% increase for the
state as a whole. The Roanoke MSA had an unemployment rate of 2.9% in December
2001, compared with 5.4% nationally and 3.6% for Virginia.


                                       3

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      The Roanoke MSA operated 6,881 businesses at September 30, 2001(the latest
information available). The business community in the Roanoke MSA is well
diversified by industry group. The principal components of the economy are
retail trade, services, transportation, manufacturing and finance, insurance and
real estate. The Roanoke MSA's position as a regional center creates a strong
medical, legal and business professional community. Carilion Health System,
Lewis-Gale Hospital, and the Veterans Administration Hospital are among
Roanoke's largest employers. Other large employers include Norfolk Southern
Corporation, General Electric Co., First Union Corporation, The Kroger Co., and
American Electric Power.

Banking Services

      The Bank offers a full range of deposit services that are typically
available in most banks and savings and loan associations, including checking
accounts, NOW accounts, savings accounts and other time deposits of various
types, ranging from daily money market accounts to longer-term certificates of
deposit. The transaction accounts and time certificates are tailored to the
Bank's principal market area at rates competitive to those offered in the area.
In addition, the Bank offers certain retirement account services, such as
Individual Retirement Accounts. All deposit accounts are insured by the FDIC up
to the maximum amount allowed by law (generally, $100,000 per depositor, subject
to aggregation rules). The Bank solicits accounts from individuals, businesses,
associations and organizations and governmental authorities.

      The Bank additionally offers a full range of short to medium term
commercial and personal loans. Commercial loans include both secured and
unsecured loans for working capital (including inventory and receivables),
business expansion (including acquisition of real estate and improvements) and
purchase of equipment and machinery. Consumer loans include secured and
unsecured loans for financing automobiles, home improvements, education and
personal investments. The Bank also originates and holds fixed and variable rate
mortgage loans and real estate construction and acquisition loans.

      The Bank's lending activities are subject to a variety of lending limits
imposed by state and federal laws and regulations. In general the Bank is
subject to a loan-to-one borrower limit of an amount equal to 15% of the Bank's
unimpaired capital and surplus. The Bank may not make any extensions of credit
to any director, executive officer, or principal shareholder of the Bank or the
Company, or to any related interest of such person, unless the extension of
credit is approved by the Board of Directors of the Bank and is made on terms
not more favorable to such person than would be available to an unaffiliated
party.

      Other Bank services include safe deposit boxes, certain cash management
services including overnight repurchase agreements, merchant purchase and
management programs, travelers checks, direct deposit of payroll and social
security checks and automatic drafts for various accounts. The Bank operates
four proprietary ATM's and is associated with the Honor, Cirrus and The Exchange
shared networks of automated teller machines that may be used by Bank customers
throughout Virginia and other regions. The Bank also offers VISA and MasterCard
credit card services as well as a debit-check card.


                                       4

<PAGE>

      The Bank has no immediate plans to exercise trust powers. The Bank may in
the future offer a full-service trust department, but cannot do so without the
prior approval of its primary regulators, the Federal Reserve Bank of Richmond
and the Virginia State Corporation Commission, before exercise of trust powers.

      In May 2002 the Bank expects to introduce a transactional Internet-based
banking product. This will allow customers to view account balances, see account
history, make transfers between accounts and pay bills online, along with may
other features. Business customers will also have access to a number of online
cash management and treasury functions.

Competition

      The banking business is highly competitive. The Bank competes as a
financial intermediary with other commercial banks, savings and loan
associations, credit unions, mortgage banking firms, consumer finance companies,
securities brokerage firms, insurance companies, money market mutual funds and
other institutions operating in the Roanoke MSA and elsewhere. In addition,
large borrowers increasingly are obtaining financing directly by issuing
commercial paper without the involvement of banks.

      The Bank's market area is a highly concentrated, highly branched banking
market. As of June 30, 2001 there were sixteen commercial banks and savings
associations operating a total of 119 offices in the Roanoke MSA. Currently, the
Bank, Bank of Botetourt and Bank of Fincastle are the only locally owned and
operated commercial banks. Most competitors are subsidiaries of holding
companies headquartered in North Carolina, Georgia, Tennessee, and Northern
Virginia. In addition, three out-of-town Virginia based community banks have
offices in the Bank's market area.

      Numerous credit unions in the aggregate operate additional offices in the
Roanoke MSA. Further, various other financial companies, ranging from local to
national firms, provide financial services to residents of the Bank's market
area.

      The Company believes that the Bank will be able to compete effectively in
this market, and that the community will react favorably to the Bank's community
bank focus and emphasis on service to small businesses, individuals and
professional concerns.

Employees

      At December 31, 2001 the Bank had fifty full-time employees and two
part-time employees, including its officers. The Company does not have any
regular employees other than its officers.

                           SUPERVISION AND REGULATION

      The Company and the Bank are subject to state and federal banking laws and
regulations which impose specific requirements or restrictions on and provide
for general regulatory oversight with respect to virtually all aspects of
operations. The following is a brief summary of certain statutes, rules and
regulations affecting the Company and the Bank.


                                       5

<PAGE>

The Company

      Because it owns all of the outstanding common stock of the Bank, the
Company is a bank holding company within the meaning of the federal Bank Holding
Company Act of 1956, as amended (the "BHCA"), and Chapter 13 of the Virginia
Banking Act, as amended (the "Virginia Act").

      The BHCA. The BHCA is administered by the Board of Governors of the
Federal Reserve System (the "Federal Reserve"), and the Company is required to
file with the Federal Reserve periodic reports and such additional information
as the Federal Reserve may require. The BHCA, with limited exceptions, requires
every bank holding company to obtain the prior approval of the Federal Reserve
before, (i) it or any of its subsidiaries (other than a bank) acquires
substantially all the assets of any bank, (ii) it acquires ownership or control
of any voting shares of any bank if after such acquisition it would own or
control, directly or indirectly, more than 5% of the voting shares of such bank,
or (iii) it merges or consolidates with any other bank holding company.

      The BHCA and the Change in Bank Control Act, together with regulations
promulgated by the Federal Reserve, require that, depending on the particular
circumstances, either Federal Reserve Board approval must be obtained or notice
must be furnished to the Federal Reserve and not disapproved prior to any person
or company acquiring "control" of a bank holding company, such as the Company,
subject to certain exemptions for certain transactions. Control is conclusively
presumed to exist if an individual or company acquires 25% or more of any class
of voting securities of the bank holding company. Control is rebuttably presumed
to exist if a person acquires 10% or more but less than 25% of any class of
voting securities and either the company has registered securities under Section
12 of the Securities Exchange Act of 1934 (the "Exchange Act") or no other
person will own a greater percentage of that class of voting securities
immediately after the transaction. Under the BHCA, the Company is generally
prohibited from engaging in, or acquiring direct or indirect control of more
that 5% of the voting shares of any company engaged in nonbanking activities
unless the Federal Reserve, by order or regulation, has found those activities
to be so closely related to banking or managing or controlling banks as to be a
proper incident thereto.

      The Federal Reserve imposes certain capital requirements on the Company
under the BHCA, including a minimum leverage ratio and a minimum ratio of
"qualifying" capital to risk-weighted assets. Subject to its capital
requirements and certain other restrictions, the Company is able to borrow money
to make a capital contribution to the Bank, and such loans may be repaid from
dividends paid from the Bank to the Company, although the ability of the Bank to
pay dividends is subject to regulatory restrictions. The Company is also able to
raise capital for contribution to the Bank by issuing securities without having
to receive regulatory approval, subject to compliance with federal and state
securities laws.

      The Virginia Act. All Virginia bank holding companies must register with
the Bureau of Financial Institutions of the State Corporation Commission of
Virginia (the "Virginia Commission") under the Virginia Act. A registered bank
holding company must provide the Virginia Commission with information with
respect to the financial condition, operations, management and intercompany
relationships of the holding company and its subsidiaries. The Virginia
Commission also may require such other information as is necessary to keep
itself informed about whether the provisions of Virginia law and the regulations
and orders issued thereunder by the Virginia Commission have been complied with,
and may make examinations of any Virginia holding company and its subsidiaries.


                                       6

<PAGE>

Under the Virginia Act, it is generally unlawful, without the prior approval of
the Virginia Commission, for any Virginia bank holding company to acquire direct
or indirect ownership or control of more than 5% of the voting shares of any
Virginia bank or any other bank holding company.

      Financial Modernization Legislation/Gramm-Leach-Bliley Act. A bank holding
company generally is restricted to activities related or incidental to banking.
In the past, bank holding companies were specifically prohibited from engaging
in the issue, flotation, underwriting, public sale, or distribution of third
party securities. Limits also were placed on underwriting and selling insurance.
The activities permissible to bank holding companies and their affiliates were
substantially expanded by the Gramm-Leach-Bliley Act (the "GLB Act"). This new
act repeals the banking/securities industry anti-affiliation rules and permits
the common ownership of commercial banks, investment banks, and insurance
companies. Under this new law, a bank holding company may elect to be treated as
a financial holding company, which may engage in any activity that the Federal
Reserve determines is financial in nature. A financial holding company also may
engage in any activity that is complementary to a financial activity and does
not pose a substantial risk to the safety and soundness of the related
depository institutions or the financial system generally.

      In order for a bank holding company to qualify as a financial holding
company, all of its depository subsidiaries (i.e., banks and thrifts) must be
well capitalized and well managed, and must meet their Community Reinvestment
Act obligations, as explained below. The bank holding company also must declare
its intention to become a financial holding company to the Federal Reserve and
certify that it meets the requirements. Banks and thrifts acquired by a
financial holding company within 12 months prior to the date on which the
election if filed may be excluded from this test if they have less than a
satisfactory CRA rating, but they must submit a plan to the applicable federal
banking agency describing how the CRA rating will be brought into conformance.

      Financial holding company powers that are either specified in the statue
or have been determined by the Federal Reserve to be financial in nature include
the following:

..     underwriting insurance or annuities;

..     providing financial or investment advice;

..     underwriting, dealing in, or making markets in securities;

..     merchant banking, subject to limitations on size and capital restrictions;

..     insurance portfolio investing, subject to limitations; and

..     any other activities previously found to be closely related to banking by
      the Federal Reserve.

      The GLB Act also establishes a system of functional regulation for
financial holding companies and banks providing regulation of securities by the
Securities and Exchange Commission and state securities regulators, regulation
of futures by the Commodity Futures Trading Commission, and regulation of
insurance activities by the state insurance regulators. Banks may sell title
insurance only when specifically permitted under the applicable state law.

      The Company may elect to become a financial holding company under the
terms of this new law. The Company in unable to predict the impact of this new
law on its competition or operations at this time.


                                       7

<PAGE>

The Bank

      General. The Bank is a state-chartered commercial bank organized under the
laws of the Commonwealth of Virginia, and is subject to examination by the
Federal Reserve and the Virginia State Corporation Commission. The regulators
monitor all areas of the Bank's operations, including security devices and
procedures, adequacy of capitalization and loss reserves, loans, investments,
borrowings, deposits, mergers, issuances of securities, payment of dividends,
interest rates payable on deposits, interest rates or fees chargeable on loans,
establishment of branches, corporate reorganizations and maintenance of books
and records. The Bank must maintain certain minimum capital ratios and is
subject to certain limits on aggregate investments in real estate, bank premises
and furniture and fixtures. The Bank is required to prepare quarterly reports on
the Bank's financial condition and to conduct an annual audit of its financial
affairs in compliance with prescribed minimum standards and procedures. The Bank
also is required to adopt internal control structures and procedures in order to
safeguard assets and monitor and reduce risk exposure. While considered
appropriate for the safety and soundness of banks, these requirements adversely
impact overhead costs.

      The FDIC establishes rates for the payment of premiums by federally
insured banks for deposit insurance. A Bank Insurance Fund (the "BIF") is
maintained for commercial banks with insurance premiums from the industry used
to offset losses from insurance payouts when banks fail. Also, the Bank is
charged a deposit-based assessment by the FDIC in connection with the so-called
FICO bonds issued by the federal government to finance the savings and loan
industry bailout. The total BIF and FICO assessment combined was approximately
$24,000 in 2001. Future deposit insurance premiums will vary with the strength
of the banking industry, the level of the BIF insurance fund and the Bank's
individual risk rating as determined by the FDIC, and there can be no assurance
that premiums will remain at their current level.

      Transactions with Affiliates. The Federal Reserve Act restricts the amount
and prescribes conditions with respect to loans, investments, asset purchases
and other transactions (collectively, "Covered Transactions") between banks and
their affiliates. In addition to limitations as to amount, each Covered
Transaction must meet specified collateral requirements. Compliance also is
required with certain provisions designed to avoid the taking of low quality
assets. Additionally, transactions, including Covered Transactions and service
contracts entered into between banks and certain affiliates must be on terms and
under circumstances that are substantially the same as those prevailing at the
time for comparable transactions involving nonaffiliated companies. The
foregoing restrictions and conditions apply to certain transactions between the
Company and the Bank.

      The Bank is subject to restrictions on extensions of credit to executive
officers, directors, principal shareholders, and their related interests. Such
extensions of credit are limited in their aggregate amount and (i) must be made
on substantially the same terms and conditions, including interest rates and
collateral, as those prevailing at the time for comparable transactions with
unaffiliated parties and (ii) must not involve more than the normal risk of
repayment or present other unfavorable features.


                                       8

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      Branching. The Bank may branch without geographic restriction in Virginia
since the Virginia Act permits statewide branching for state banks in Virginia.
The federal Interstate Banking and Branching Efficiency Act of 1994 allows bank
holding companies to acquire banks in any state, without regard to state law,
except for state laws relating to the minimum amount of time a bank must be in
existence to be acquired. Under the Virginia Act, a Virginia bank or all the
subsidiaries of a Virginia bank holding company sought to be acquired must have
been in continuous operation for more than two years before the date of such
proposed acquisition.

      Community Reinvestment Act. The federal Community Reinvestment Act ("CRA")
requires that, in connection with examinations of financial institutions within
their jurisdiction, the federal banking regulators evaluate the record of the
financial institutions in meeting the credit needs of their local communities,
including low and moderate income neighborhoods, consistent with the safe and
sound operation of those institutions. These factors are also considered in
evaluating mergers, acquisitions and applications to open a branch or facility.
Recent legislative and regulatory changes have reduced the paperwork and
regulatory burden of CRA on smaller institutions such as the Bank. The Bank
received a "Satisfactory" rating pursuant to its latest CRA examination.

      Other Regulations. Interest and certain other charges collected or
contracted for by the Bank are subject to state usury laws and certain federal
laws concerning interest rates. These laws restrict the interest and charges
which the Bank may impose for certain loans and thereby affect the Bank's
interest income. The Bank's loan operations also are subject to certain federal
laws applicable to credit transactions, such as the Truth in Lending Act
governing disclosures of credit terms to consumer borrowers, the Home Mortgage
Disclosure Act requiring financial institutions to provide information
concerning their obligation to help meet the housing needs of the local
community, the Equal Credit Opportunity Act prohibiting discrimination on the
basis of race, creed or other prohibited factors in extending credit, the Fair
Credit Reporting Act governing the use and provision of information to credit
reporting agencies, and the rules and regulations of the various federal
agencies charged with the responsibility of implementing such federal laws. The
deposit operations of the Bank also are subject to the Truth in Savings Act,
which governs disclosure and advertisement of yields and costs of deposits and
deposit accounts, the Right to Financial Privacy Act, which imposes a duty to
maintain confidentiality of consumer financial records and prescribes procedures
for complying with administrative subpoenas of financial records, the Electronic
Funds Transfer Act and Regulation E issued by the Federal Reserve to implement
that Act, which govern automatic deposits to and withdrawals from deposit
accounts and customers' rights and liabilities arising from the use of automated
teller machines and other electronic banking services, the Expedited Funds
Availability Act and Regulation CC issued by the Federal Reserve to implement
that Act, which govern the availability of funds, return of checks, the
settlement of checks, check endorsement and presentment and notification of
nonpayment, and the Bank Secrecy Act, which requires reporting to the federal
government of certain cash transactions. These and other similar laws result in
significant costs to financial institutions and create the potential for
liability to consumers and regulatory authorities.

      Dividends. During 2001, the Company's revenues consisted of interest and
dividends on investments. After downstreaming the Company's investments to the
Bank as additional equity capital on April 20, 2001, the Company will have no
significant revenue beginning in 2002, other than dividends received from the
Bank. The amount of dividends that may be paid by the Bank to


                                       9

<PAGE>

the Company will depend on the Bank's earnings and capital position and is
limited by state law, regulations and policies. A Virginia bank may not pay
dividends from its capital; all dividends must be paid out of net undivided
profits then on hand, after providing for all expenses, losses, interest and
taxes accrued, or due by the Bank. Before any dividend is declared, any deficit
in capital funds originally paid in must have been restored by earnings to their
initial level, and no dividend shall be declared or paid by any bank which would
impair the paid-in capital of the bank. To ascertain the net undivided profits
before any dividend shall be declared, all debts due to the bank on which
interest is past due and unpaid for a period of twelve months, unless they are
well secured and in process of collection, are deducted from the undivided
profits in addition to all expenses, losses, interest and taxes accrued, and the
balance is deemed to be the net undivided profits. The Virginia State
Corporation Commission may limit or approve the payment of dividends by the
board of directors of any bank when the Commission determines that the
limitation or approval is warranted by the financial condition of the bank. The
Company does not anticipate paying cash dividends to shareholders in the near
term. See "Capital Regulations" below, "Item 5. Market for Common Equity and
Related Stockholder Matters" and Note 15 to the Consolidated Financial
Statements.

      Capital Regulations. The federal bank regulatory authorities impose
certain capital requirements on the Company and the Bank. The requirements apply
to a bank holding company with more than $150 million in consolidated assets on
a bank-only basis with limited exceptions. In addition to minimum capital levels
prescribed by regulation, the Virginia State Corporation Commission and the
Federal Reserve have authority to require higher capital levels on a
case-by-case basis as part of their supervisory and enforcement powers,
including approval of expansion programs.

      In an effort to achieve a measure of capital adequacy that is more
sensitive to the individual risk profiles of financial institutions, the federal
bank regulatory authorities have adopted risk-based capital adequacy guidelines
that redefine traditional capital ratios to take into account assessments of
risks related to each balance sheet category, as well as off-balance sheet
financing activities. Under the guidelines, banks' and bank holding companies'
assets are given risk weightings based on assumptions as to the relative risk
inherent in each asset category. The total risk-weighted assets are equal to the
sum of the aggregate dollar value of assets and certain off-balance sheet items
(such as currency or interest rate swaps) in each category, multiplied by the
weight assigned to that category. The qualifying total capital base is divided
by the total risk-weighted assets to derive a ratio.

      An institution's qualifying total capital consists of three components -
Core or Tier 1 capital, Supplementary or Tier 2 capital, and Market Risk
Allocated or Tier 3 capital. Tier 1 capital is essentially equal to common
stockholders' equity, qualifying perpetual preferred stock and minority
interests in equity accounts of consolidated subsidiaries, less disallowed
intangibles. Tier 2 capital, generally includes certain types of preferred stock
and debt securities, hybrid capital instruments and a limited amount, not to
exceed 1.25% of gross risk-weighted assets, of the allowance for loan and lease
losses. Tier 3 capital is only applicable to banks which are subject to the
market risk capital guidelines. The amount reported in this item may only be
used to satisfy the bank's market risk capital requirement and may not be used
to support credit risk.


                                       10

<PAGE>

      To supplement the risk-based capital guidelines, the federal bank
regulatory agencies also have imposed a leverage ratio, which is Tier 1 capital
as a percentage of certain average quarterly assets. The principal objective of
the leverage ratio is to place a constraint on the maximum degree to which a
bank or bank holding company may leverage its equity capital base. Institutions
receiving less than the highest composite examination ratings are required to
maintain a leverage ratio of at least 100 basis points above the regulatory
minimum.

      At December 31, 2001 the Company and the Bank had the following risk-based
capital and leverage ratios relative to regulatory minimums:

             Ratio            Company         Bank           Minimum
             -----            -------         ----           -------

             Tier 1            10.2%          10.0%             4%

             Total             11.1%          10.9%             8%

             Leverage           9.1%           9.0%             4%

      The regulations define five categories of compliance with regulatory
capital requirements, ranging from "well capitalized" to "critically
undercapitalized." To qualify as a "well capitalized" institution, a bank must
have a leverage ratio of no less than 5%, a Tier 1 risk-based ratio of no less
than 6%, and a total risk-based ratio of no less than 10%, and the bank must not
be under any order or directive from the appropriate regulatory agency to meet
and maintain a specific capital level. As of December 31, 2001 the Company and
the Bank qualified as "well-capitalized" institutions (see Note 15 to the
Consolidated Financial Statements).

      The applicable federal bank regulatory agency can treat an institution as
if it were in the next lower category if the agency determines (after notice and
an opportunity for hearing) that the institution is in an unsafe or unsound
condition or is engaging in an unsafe or unsound practice. The degree of
regulatory scrutiny of a financial institution will increase, and the
permissible activities of the institution will decrease, as it moves downward
through the capital categories. Institutions that fall into one of the three
undercapitalized categories may be required to submit a capital restoration
plan, raise additional capital, restrict their growth, deposit interest rates
and other activities, improve their management, eliminate management fees to
parent holding companies, and even divest themselves of all or a part of their
operations. Bank holding companies can be called upon to boost their subsidiary
banks' capital and to partially guarantee the institutions' performance under
their capital restoration plans. If this occurs, capital which otherwise would
be available for holding company purposes, including possible distribution to
shareholders, would be required to be downstreamed to one or more subsidiary
banks.

      The Office of the Comptroller of the Currency, Board of Governors of the
Federal Reserve System, Federal Deposit Insurance System, and the Office of the
Thrift Supervision issued their joint final rule regarding the obligation of
financial institutions to protect the financial privacy of their consumers under
the GLB Act. Compliance with the Joint Rule was mandatory July 2001. The Final
Rule applies to nonpublic personal information about individuals who obtain
financial products or services from a bank or thrift institution and their
subsidiaries. The Bank should provide consumers with a "clear and conspicuous"
notice regarding the bank's privacy policies and practices and describe the
conditions under which the Bank may disclose nonpublic personal


                                       11

<PAGE>

information about its consumers to affiliates and nonaffiliated third parties.
The Bank should provide a method for its consumers to opt out of the disclosure
of nonpublic personal information to third parties. The Bank should finally
adopt policies and procedures reasonably designed to protect customer records
and information from any anticipated threats, hazards, or unauthorized access or
use that could result in "substantial harm or inconvenience" to any customer.
The Bank must disclose their specific privacy policies to their customers
annually. Upon making such disclosure, there is no specific restriction on the
Bank disclosing customer information to affiliated parties. The Bank must comply
with state law, however, if it protects customer privacy more fully than federal
law.

      The GLB act also revises the present Federal Home Loan Bank system,
imposing new capital requirements on Federal Home Loan Banks and authorizing
them to issue two classes of stock with differing dividend rates and redemption
requirements. Permissible uses of Federal Home Loan Bank advances by community
financial institutions (under $500 million in assets) have been expanded to
include funding loans to small businesses, and small farms and agribusiness. The
Bank uses Federal Home Loan Bank loans extensively to fund lending
opportunities.

      The GLB act contains a variety of other provisions. Automated teller
machine surcharges are prohibited unless the customer first has been provided
notice of the imposition and amount of the fee. Community Reinvestment Act
examinations for smaller institutions (including the Bank) will be less
frequent. Certain reporting requirements are now imposed on depository
institutions that make payments to non-governmental entities in connection with
the Community Reinvestment Act.

Effect of Governmental Monetary Policies

      The earnings of the Bank are affected by domestic economic conditions and
the monetary and fiscal policies of the United States government and its
agencies. The Federal Reserve's monetary policies have had, and will likely
continue to have, an important impact on the operating results of commercial
banks through its power to implement national monetary policy in order, among
other things, to curb inflation or combat a recession. The monetary policies of
the Federal Reserve have major effects upon the levels of bank loans,
investments, deposits, interest income and interest expense through its open
market operations in United States government securities and through its
regulation of interest rates and the reserve requirements against member bank
deposits. It is not possible to predict the nature or impact of future changes
in monetary and fiscal policies.

Item 2. Description of Property.

      The Bank's main office is located in a seven-story office building at 36
Church Avenue, S.W., in downtown Roanoke, Virginia 24011. At December 31, 2001
the Bank leased approximately 8,148 square feet of recently-renovated office
space on the first floor of this facility. The lease commenced April 1, 1995 and
had an initial base term of five years, which expired December 31, 1999. The
lease was renewed on December 23, 1999 for the period beginning January 1, 2000
and ending December 31, 2004 with options to renew for two additional five-year
terms at the end of the December 31, 2004 extension period. Annual base rent on
the leased space is $90,607 payable in equal monthly installments of $7,551. The
Bank also is responsible for paying a pro rata share of certain operating costs
associated with the leased space.


                                       12

<PAGE>

      Under the original lease, the Bank was granted a right of first refusal to
lease approximately 2,400 square feet of space on the mezzanine level, which
right it exercised effective March 1, 1999. Annual base rent on the mezzanine
level is $23,699 payable in equal monthly installments of $1,975. The same terms
and conditions exist with the mezzanine level lease as with the original lease
from which the right of first refusal was granted, including renewal periods.

      The Bank signed a lease to occupy 3,212 square feet of the second floor of
the Church Avenue location on August 10, 2000. The lease commenced September 1,
2000 and runs through December 31, 2004. Annual base rent on the second floor is
$38,544 payable in equal monthly installments of $3,212. The Bank also is
responsible for paying a pro rata share of certain operating costs associated
with the leased space.

      The cost of the leasehold improvements to the Church Avenue leased
premises, net of accumulated amortization, was $125,533 at December 31, 2001.

      The Bank's Starkey Road office is a 2,700 square foot building constructed
in 1995 on a one-acre site at 4467 Starkey Road in southwest Roanoke County
(Tanglewood Mall area). The Company acquired the site for cash in the amount of
$272,250 and the total land cost after all necessary grading and closing costs
is $292,376. The total cost of the building, net of accumulated depreciation,
was $376,498 at December 31, 2001.

      The Bank's South Roanoke office is a 914 square foot facility that the
Bank leased at a 2001 annual rate of $11,880, payable in equal monthly
installments of $990. For 2002, the annual rental has increased to $12,300
payable in equal monthly installments of $1,025. The Bank is also responsible
for utilities. The lease commenced January 1, 1997 and has an initial term of
twelve years with one five-year renewal option. The cost of leasehold
improvements to the leased premises, net of accumulated amortization, was $6,942
at December 31, 2001.

      The Bank's Salem office is a newly-constructed Colonial Williamsburg style
building with two floors containing 6,000 square feet, of which the Bank
occupies the first story and leases the second story. The structure is located
on an approximately one-half acre site at 8 East Main Street in the City of
Salem. The Company acquired the land for a contract price of $325,000 and the
total land cost after all necessary grading, structure removal, and closing
costs is $361,839. The total cost of the facility construction, net of
accumulated depreciation, was $713,177 at December 31, 2001. Total monthly
rental income from leasing the second story is $2,356, which directly reduces
occupancy expense.

      The Bank's Hershberger Road office is a 2,400 square foot building on a
one-acre site at 1518 Hershberger Road in the City of Roanoke (Crossroads Mall
area). The land with the existing branch was purchased from First Union National
Bank in September 2000. The Bank acquired the property for a contract price of
$485,000. The branch was renovated and opened on May 7, 2001. Of the original
contract price, the cost allocated to the land is $299,151. The total cost
allocated to the building, including all renovation costs, net of accumulated
depreciation, was $427,711 at December 31, 2001.


                                       13

<PAGE>

      The Bank purchased a parcel of land on Hardy Road in Vinton on August 1,
2001 for the purpose of opening a branch. The land was acquired for a contract
price of $280,000. The branch is currently under construction with an
anticipated opening date in May 2002.

      The Bank purchased a parcel of land on Keagy Road in Roanoke on December
28, 2001 for the purpose of opening a branch. The land was acquired for a
contract price of $375,000. There has been no construction on the branch, which
is anticipated to open in May 2003.

      In the opinion of management of the Company, its properties are adequate
for its current operations and adequately covered by insurance.

Item 3. Legal Proceedings.

      Neither the Company nor the Bank is a party to, nor is any of their
property the subject of, any pending legal proceedings.

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

      No matter was submitted to a vote of security holders during the fourth
quarter of the fiscal year covered by this report.

                                    PART II.

Item 5. Market for Common Equity and Related Stockholder Matters.

      Market information. The Company's Articles of Incorporation authorize it
to issue up to 10,000,000 shares of Common Stock, no par value, of which
1,213,207 shares were issued and outstanding at March 15, 2002.

      The Common Stock is quoted under the symbol VYFC on the OTC Bulletin
Board, an electronic quotation and trade reporting service of the National
Association of Securities Dealers. According to information obtained by Company
management and believed to be reliable, the quarterly range of closing prices
per share for the Common Stock during the last two fiscal years was as follows:

<TABLE>
<CAPTION>
        2001          Quarter Ended         High Close          Low Close
<S>                     <C>                   <C>                 <C>
                        03/31/01              $16.50              $15.19

                        06/30/01              $17.50              $15.00

                        09/30/01              $16.25              $12.25

                        12/31/01              $17.25              $13.00

<CAPTION>

        2000          Quarter Ended         High Close          Low Close
<S>                     <C>                   <C>                 <C>
                        03/31/00              $20.00              $16.19

                        06/30/00              $19.50              $18.00

                        09/30/00              $19.12              $18.37

                        12/31/00              $19.12              $15.12
</TABLE>


                                       14

<PAGE>

      Holders. At March 15, 2002 there were approximately 505 holders of record
of the Company's outstanding Common Stock.

      Dividends. The Company has not declared any cash dividends to date and
does not anticipate paying any cash dividends to shareholders in the immediate
term. See "Supervision and Regulation" and Note 15 to the Consolidated Financial
Statements for restrictions on the payment of dividends.

      Voting rights. In all elections of directors, a shareholder of the Company
has the right to cast one vote for each share of stock held for as many persons
as there are directors to be elected. There are no cumulative voting rights. On
any other question to be determined by a vote of shares at any meeting of
shareholders, each shareholder is entitled to one vote for each share of stock
held and entitled to vote.

      Preemptive Rights. Shareholders do not have preemptive rights with respect
to issues of common stock. Accordingly, share ownership may be diluted if
additional stock is issued in the future.

      Liquidation Rights. Upon liquidation, after payment of all creditors, the
remaining assets of the Company would be distributed to shareholders on a
pro-rata basis.

      Calls and Assessments. All common stock outstanding is fully paid and
non-assessable.

      Indemnification of Officers and Directors. The Articles of Incorporation
provide for the indemnification of our officers and directors for their actions
unless a court finds them liable for willful misconduct of a knowing violation
of the criminal law. In any proceedings brought by shareholders against an
officer or director, no damages may be assessed against that officer or director
unless they are liable for willful misconduct or a knowing violation of criminal
or securities laws. The Securities and Exchange Commission has the opinion that
indemnification of officers, directors, and controlling persons for liabilities
is against public policy and is, therefore, unenforceable.

Item 6. Management's Discussion and Analysis of Financial Condition and Results
of Operations

      The following is management's discussion and analysis of the financial
condition and results of operations of the Company as of and for the years ended
December 31, 2001 and 2000. The discussion should be read in conjunction with
the Company's Consolidated Financial Statements and Notes thereto.

Overview

      The Company was incorporated as a Virginia stock corporation on March 15,
1994, primarily to own and control all of the capital stock of the Bank. The
Bank opened for business on May 15, 1995. In July 1995, the Company completed
its initial public offering of 964,040 shares (1,012,242 shares after the effect
of the 1.05 for 1 stock split declared January 20, 2000) of its common stock, no
par value, at a price of $10.00 per share. The Offering resulted in gross
proceeds


                                       15

<PAGE>

to the Company of $9.6 million, reduced by $551,000 of direct stock issuance
costs associated with the offering, for net proceeds of $9.1 million. The
Company completed its second stock offering effective November 17, 2000. The
secondary offering resulted in gross proceeds to the Company of $3.3 million,
reduced by $122,000 direct stock issuance costs associated with the offering,
for net proceeds of $3.2 million. Of the proceeds of the secondary offering,
$2.3 million was used to re-pay a subordinated capital note initiated as of June
30, 2000, with the remainder used to purchase investment securities at the
Company level. The Company's investment in the Bank was $16.1 million as of
December 31, 2001.

      Total assets at December 31, 2001 were $193.9 million, up $33.7 million or
21.0% from $160.2 million at December 31, 2000. The principal components of the
Company's assets at the end of the period were $33.3 million in securities
available-for-sale, including restricted equity securities, and $147.6 million
in gross loans, representing a decrease and increase of 12.1% and 28.9%,
respectively over their levels at December 31, 2000.

      Total liabilities at December 31, 2001 were $177.6 million, up from $145.5
million at December 31, 2000, an increase of $32.1 million or 22.1%. Deposits
increased $9.0 million or 6.9% to $138.9 million over the $129.9 million level
at December 31, 2000. The remainder of the increase was primarily due to an
increase in the overnight repurchase agreement program with appropriate
commercial customers in the amount of $1.3 million, an increase in federal funds
purchased in the amount of $2.0 million, and an increase in Federal Home Loan
Bank advances in the amount of $20.0 million.

      Total shareholders' equity at December 31, 2001 was $16.3 million,
consisting of $9.1 million in net proceeds from the Company's initial public
offering, $3.2 million in net proceeds from the Company's secondary offering,
$10,000 in proceeds from the exercise of stock options, increased by retained
earnings of $4.1 million and including $104,000 of unrealized losses on
securities available-for-sale, net of related deferred tax benefit. Exclusive of
the unrealized losses on securities available-for-sale, shareholders' equity was
$16.4 million at December 31, 2001. At December 31, 2000 total shareholders'
equity was $14.7 million. Exclusive of unrealized losses on securities
available-for-sale, shareholders' equity was $14.7 million at December 31, 2000.

      The Company had net income of $1.7 million for the year ended December 31,
2001 compared with $1.5 million for the year ended December 31, 2000. The
substantial improvement in profitability primarily results from a significant
increase in loan fees and loans outstanding and a substantial increase in
noninterest income, partially offset by increased noninterest expenses in all
major categories.

      Profitability as measured by the Company's return on average assets
("ROA") was 1.0% in 2001 and return on average equity ("ROE") was 11.1% in 2001.
The ROA and ROE ratios were 1.0% and 13.1% in 2000, respectively. The
calculation of ROE excludes the effect of any unrealized gains or losses on
investment securities available-for-sale.


                                       16

<PAGE>

Net Interest Income

      Net interest income is the amount by which interest and fees generated
from loans and investments exceeds the interest expense associated with funding
those assets, and represents the principal source of earnings for the Company
and the Bank. Changes in the volume and mix of earning assets and
interest-bearing liabilities, as well as their respective yields and rates, have
a significant impact on the level of net interest income. Changes in the
interest rate environment and the Company's cost of funds also affect net
interest income.

      Net interest income was $6.2 million for 2001 and is attributable to
interest income from loans and securities exceeding the cost of interest paid on
deposits and borrowed funds. Net interest income increased $700,000 or 12.7%
over the $5.5 million level in 2000. Total interest income was $13.0 million for
2001 as compared to $11.8 million in 2000, an increase of $1.2 million or 10.2%.
This increase is attributable to the Bank's reinvestment of funding growth into
loans and securities. Total interest expense was $6.7 million for 2001 as
compared to $6.3 million in 2000, an increase of $400,000 or 6.3%. The net
interest margin on a fully taxable equivalent basis was 3.9% for the year ended
2001 as compared to 4.0% for the year ended 2000. The margin held steady during
2001 despite Federal Reserve prime rate cuts, primarily due to the control of
interest expense on deposits. Approximately one-third of the Bank's loan
portfolio is variable rate and reprices in direct response to Federal Reserve
Bank actions.

      The following table presents the major categories of interest-earning
assets, interest-bearing liabilities and shareholders' equity with corresponding
average balances, related interest income or expense, and resulting yields and
rates for the periods indicated. Where appropriate, income categories and yields
have been adjusted in the table to their fully taxable equivalent basis.


                                       17

<PAGE>

                  NET INTEREST INCOME AND AVERAGE BALANCES (1)
                                 (000's omitted)
<TABLE>
<CAPTION>
                                                             Years Ended December 31
                                                             -----------------------
                                                  2001                                       2000
                                                  ----                                       ----
                                  Average       Interest        Rate         Average       Interest        Rate
Assets                            Balance        Income        Earned        Balance        Income        Earned
                                -----------    -----------   -----------   -----------    -----------   -----------
<S>                             <C>                 <C>             <C>    <C>                  <C>            <C>
Interest-earning assets:
  Loans (2) (5)                 $   128,098         10,852          8.47%  $   103,824          9,456          9.08%
  Investment securities
    Taxable                          27,242          1,740          6.39%       28,652          1,860          6.47%
    Nontaxable (3)                    6,922            503          7.27%        8,147            594          7.27%
  Money market investments            1,420             45          3.17%        1,222             80          6.53%
                                -----------    -----------                 -----------    -----------
Total interest-earning assets       163,682         13,140          8.03%      141,845         11,990          8.43%

Other Assets:
Reserve for loan losses              (1,290)                                    (1,042)
Cash and due from banks               4,279                                      3,613
Premises and equipment, net           3,456                                      2,735
Other assets, net                     1,570                                        532
                                -----------                                -----------
Total assets                    $   171,697                                $   147,683
                                ===========                                ===========
</TABLE>

<TABLE>
<CAPTION>
                                                                       Years Ended December 31
                                                                       -----------------------
                                                          2001                                          2000
                                                          ----                                          ----
Liabilities and Shareholders'             Average        Interest         Rate          Average        Interest         Rate
Equity                                    Balance        Expense          Paid          Balance        Expense          Paid
                                        ------------   ------------   ------------    ------------   ------------   ------------
<S>                                     <C>            <C>            <C>             <C>            <C>            <C>
Interest-bearing liabilities:
  Savings, NOW and MMA                  $     30,369            703           2.31%   $     30,618          1,001           3.26%
  Time Deposits                               84,531          4,966           5.87%         72,849          4,327           5.92%
  Repurchase agreements                        4,880            155           3.18%          3,174            151           4.74%
  FHLB advances                               15,712            870           5.54%          9,877            570           5.76%
  Subordinated capital note                        0              0           0.00%            880             73           8.27%
  Other borrowings                             1,288             54           4.19%          2,737            183           6.67%
                                        ------------    ------------                  ------------   ------------
Total interest-bearing liabilities           136,780          6,748           4.93%        120,135          6,305           5.23%

Noninterest-bearing liabilities:
  Demand deposits                             17,499                                        15,741
  Other liabilities                            1,926                                           640
                                       -------------                                  ------------
Total liabilities                            156,205                                       136,516

Shareholders' equity, exclusive of
unrealized gains/losses on securities         15,492                                        11,167
                                       -------------                                  ------------

Total liabilities and shareholders'
  equity                                $    171,697                                  $    147,683
                                        ============                                  ============

Net interest income                                    $      6,392                                  $      5,685
                                                       ============                                  ============
Net interest margin (4)                                                       3.91%                                         4.00%
                                                                      ============                                  ============
</TABLE>


                                       18

<PAGE>

Legends for the table are as follows:

(1)   Averages are daily averages.

(2)   Loan interest income includes loan fees of $1.1 million and $684,000 for
      the years ended 2001 and 2000, respectively.

(3)   Nontaxable interest income is adjusted to its fully taxable equivalent
      basis using a federal tax rate of 34 percent.

(4)   The net interest margin is calculated by dividing net interest income (tax
      equivalent basis) by average total earning assets.

(5)   Non-accrual loans are included in the above yield calculation.

      As discussed above, the Company's net interest income is affected by the
change in the amount and mix of interest-earning assets and interest-bearing
liabilities (referred to as "volume change") as well as by changes in yields
earned on interest-earning assets and rates paid on deposits and borrowed funds
(referred to as "rate change"). The following table presents, for the periods
indicated, a summary of changes in interest income and interest expense for the
major categories of interest-earning assets and interest-bearing liabilities and
the amounts of change attributable to variations in volumes and rates. Changes
attributable to the combined impact of volume and rate have been allocated
proportionately to the changes due to volume and the changes due to rate.

                              RATE/VOLUME ANALYSIS
                                 (000's omitted)
<TABLE>
<CAPTION>
                                                          Year Ended December 31,
                                                           2001 compared to 2000
                                                           ---------------------
                                                       Volume       Rate         Net
                                                       ------       ----         ---
<S>                                                   <C>         <C>         <C>
Interest earned on interest-earning assets:
Loans                                                 $  1,960    $   (564)   $  1,396
Investment securities:
       Taxable                                             (96)        (24)       (120)
       Nontaxable                                          (91)         --         (91)
Money market investments                                   (16)        (51)        (35)
                                                      --------    --------    --------
Total interest earned on interest-earning assets         1,789        (639)      1,150
                                                      --------    --------    --------

Interest paid on interest-bearing liabilities:
Savings, NOW, and money markets                             (6)       (292)       (298)
Time Deposits                                              674         (35)        639
FHLB Borrowings                                            321         (21)        300
Securities sold under agreements to repurchase              10          (6)          4
Subordinated capital note                                  (73)         --         (73)
Other Borrowings                                          (129)         --        (129)
                                                      --------    --------    --------
Total interest paid on interest-bearing liabilities        797        (354)        443
                                                      --------    --------    --------
Change in net interest income                         $    992    $   (285)   $    707
                                                      ========    ========    ========
</TABLE>


                                       19

<PAGE>

<TABLE>
<CAPTION>
                                                           Year Ended December 31,
                                                            2000 compared to 1999
                                                            ---------------------
                                                       Volume      Rate         Net
                                                       ------      ----         ---
<S>                                                   <C>         <C>         <C>
Interest earned on interest-earning assets:
Loans                                                 $  1,973    $    625    $  2,598
Investment securities:
       Taxable                                             337          47         384
       Nontaxable                                           97          --          97
Money market investments                                  (107)         52         (55)
                                                      --------    --------    --------
Total interest earned on interest-earning assets         2,300         724       3,024
                                                      --------    --------    --------

Interest paid on interest-bearing liabilities:
Savings, NOW, and money markets                            (67)         16         (51)
Time Deposits                                            1,005         390       1,395
FHLB Borrowings                                             90          65         155
Securities sold under agreements to repurchase             139           2         141
Subordinated capital note                                   73          --          73
Other Borrowings                                           155           5         160
                                                      --------    --------    --------
Total interest paid on interest-bearing liabilities      1,395         478       1,873
                                                      --------    --------    --------
Change in net interest income                         $    905    $    246    $  1,151
                                                      ========    ========    ========
</TABLE>

Noninterest Income

      Noninterest income of $612,000 in 2001 consisted of service charges and
fees on accounts, securities gains and losses in the amount of $98,000, and
other miscellaneous income, and represented an increase of $195,000 or 46.8%
over the 2000 level of $417,000. Securities gains and losses were $0 in 2000.
Exclusive of securities gains and losses, noninterest income increased $97,000
or 23.3% in 2001 over its 2000 level. Future levels of noninterest income are
expected to increase as a direct result of business growth and expansion.

Noninterest Expense

      Noninterest expense for 2001 was $4.1 million, an increase of $600,000 or
17.1% over the $3.5 million level in 2000. Noninterest expense in 2001 includes
costs associated with the opening of the Bank's Hershberger Road office on May
7, 2001. All major categories experienced increases due to growth and expansion.
Noninterest expenses are expected to continue to increase in future years as a
direct result of business growth and expansion.

Income Taxes

      During 2001 and 2000 the Company recorded federal income tax provision in
the amounts of $738,000 and $601,000, respectively. The anticipated federal
income tax liability equates to an effective tax rate of 30.1% and 29.1%,
respectively.


                                       20

<PAGE>

Earning Assets

      Average earning assets were $163.7 million at December 31, 2001 as
compared to $141.8 million as of December 31, 2000, an increase of $21.9
million, or 15.4%. Total average earning assets were 95.3% of total average
assets at December 31, 2001 as compared to 96.0% at December 31, 2000. Average
loans represented the largest component of average earning assets and increased
23.4% to $128.1 million at December 31, 2001, up from $103.8 million as of
December 31, 2000. Average loans were 78.3% and 74.6% of average earning assets
and average total assets as of December 31, 2001 as compared to 73.2% and 70.3%,
respectively one year earlier. Average investment securities, both taxable and
nontaxable, decreased 7.1% to $34.2 million, down from $36.8 million as of
December 31, 2000. Average investment securities were 20.9% and 19.9% of average
earning assets and average total assets as of December 31, 2001, as compared to
25.9% and 24.9%, respectively one year earlier.

      A summary of average assets as of December 31, 2001 and 2000 is shown in
the following table.

                                AVERAGE ASSET MIX
                                 (000's omitted)

<TABLE>
<CAPTION>
                                 December 31, 2001            December 31, 2000
                                 -----------------            -----------------
                               Average                      Average
                               Balance       Percent        Balance       Percent
                               -------       -------        -------       -------
<S>                           <C>                <C>       <C>                <C>
Earning assets:
Loans, total                  $  128,098          74.6%    $  103,824          70.3%
Investment securities:
  Taxable                         27,242          15.9         28,652          19.4
  Nontaxable                       6,922           4.0          8,147           5.5
Money market investments           1,420            .8          1,222            .8
                              ----------    ----------     ----------    ----------
    Total earning assets         163,682          95.3        141,845          96.0
                              ----------    ----------     ----------    ----------

Nonearning assets:
Cash and due from banks            4,279           2.5          3,613           2.4
Premises and equipment             3,456           2.0          2,735           1.9
Reserve for loan losses           (1,290)          (.7)        (1,042)          (.7)
Other assets                       1,570            .9            532            .4
                              ----------    ----------     ----------    ----------
    Total nonearning assets        8,015           4.7          5,838           4.0
                              ----------    ----------     ----------    ----------
           Total assets       $  171,697         100.0%    $  147,683         100.0%
                              ==========    ==========     ==========    ==========
</TABLE>

Investment Securities

      The Company's investment portfolio is used both for investment income and
liquidity purposes. Funds not used for capital expenditures or lending
activities are invested in securities of the U.S. Government and its agencies,
mortgage-backed securities, municipal bonds, corporate bonds and restricted
equity securities. Obligations of the U.S. Government and its agencies include
treasury notes and callable or noncallable agency bonds. Mortgage-backed
securities and collateralized mortgage obligations include pools issued by
government agencies. Municipal bonds


                                       21

<PAGE>

include taxable and tax-exempt general obligation and revenue issues. Corporate
bonds are investment grade issue. Equity securities include shares of the
Federal Reserve Bank of Richmond, Federal Home Loan Bank of Atlanta, and
Community Bankers Bank. The Company does not invest in derivatives or other
types of high-risk securities. The entire investment portfolio is classified as
available-for-sale in order to provide maximum liquidity for funding needs.
Unrealized gains and losses on securities available-for-sale are recognized as
direct increases or decreases in shareholders' equity.

      Investment securities, including restricted equity securities, at December
31, 2001 were $33.3 million, a decrease of $4.6 million or 12.1% from their
level of $37.9 million on December 31, 2000.

      The following table presents the investment portfolio at December 31, 2001
and 2000 by major types of investments.

                  INVESTMENT PORTFOLIO - CATEGORY DISTRIBUTION
                                 (000's omitted)

<TABLE>
<CAPTION>
                                                December 31, 2001              December 31, 2000
                                                -----------------              -----------------
                                             Amortized     Approximate      Amortized    Approximate
Securities available for sale:                  Cost       Fair Values        Cost       Fair Values
                                              --------       --------       --------       --------
<S>                                           <C>            <C>            <C>            <C>
U.S. Treasury                                 $    198       $    205       $    200       $    200

U.S. Government agencies                         3,174          3,123         22,657         22,517

Mortgage-backed securities                       5,817          5,851          3,820          3,822
Collateralized mortgage obligations             16,711         16,628             --             --

States and political subdivisions                4,796          4,734          8,655          8,724

Corporate debt securities                          800            797          1,409          1,411
Other equity securities                             --             --            200            199

Restricted equity securities                     1,927          1,927          1,010          1,010
                                              --------       --------       --------       --------
Total securities available for sale and
restricted equity securities                  $ 33,423       $ 33,265       $ 37,951       $ 37,883
                                              ========       ========       ========       ========
</TABLE>

      The following table presents the maturity ranges of the investment
portfolio as of December 31, 2001. Maturities may differ from scheduled
maturities on mortgage-backed securities and collateralized mortgage obligations
because the mortgages underlying the securities may be repaid prior to the
scheduled maturity date. Maturities on all other securities are based on the
contractual maturity.


                                       22

<PAGE>

                  INVESTMENT PORTFOLIO - MATURITY DISTRIBUTION
                                 (000's omitted)
<TABLE>
<CAPTION>
                                                                  December 31, 2001
                                                        ------------------------------------
                                                        Amortized      Fair
Available-for-sale                                       Costs         Value         Yield
                                                        --------      --------      --------
<S>                                                     <C>           <C>                <C>
U. S. Treasury securities and obligations of U. S
      Government corporations:
             After one but within five years            $    198      $    205           4.7%
             After five but within ten years               1,986         1,938           5.8%
             After ten years                               1,188         1,185           7.6%

Obligations of states and subdivisions:
             After one but within five years                 225           230           6.7%
             After five but within ten years                 767           777           7.0%
             After ten years                               3,804         3,727           7.2%

Corporate securities:
             Within one year                                 800           797           6.1%

Mortgage-backed securities                                 5,817         5,851           6.4%
Collateralized mortgage obligation                        16,711        16,628           6.1%
Restricted equity securities                               1,927         1,927           6.7%
                                                        --------      --------
Total available-for-sale                                $ 33,423      $ 33,265           6.0%
                                                        ========      ========

Total Securities by Maturity Period*
Within one year                                         $    800      $    797           6.1%
After one but within five years                              423           435           5.7%
After five but within ten years                            2,753         2,715           6.2%
After ten years                                            4,992         4,912           7.3%
Mortgage-backed securities                                 5,817         5,851           6.4%
Collateralized mortgage obligations                       16,711        16,628           6.1%
Restricted equity securities                               1,927         1,927           6.7%
                                                        --------      --------
Total by Maturity Period                                $ 33,423      $ 33,265           6.0%
                                                        ========      ========
</TABLE>

      *Maturities on mortgage-backed securities and collateralized mortgage
obligations are not presented in this table because maturities may differ
substantially from contractual terms due to early repayments of principal.

Loan Portfolio

      The loan portfolio primarily consists of commercial, real estate
(including real estate term loans, construction loans and other loans secured by
real estate) and loans to individuals for household, family and other consumer
purposes. The Company adjusts its mix of lending and the terms of its loan
programs according to economic and market conditions, asset/liability management


                                       23

<PAGE>

considerations and other factors. Loans typically (in excess of 90%) are made
to businesses and individuals located within the Company's primary market area,
most of whom maintain deposit accounts with the Bank. There is no concentration
of loans exceeding 10% of total loans which is not disclosed in the consolidated
financial statements and the Notes thereto or discussed below. The Company has
not made any loans to any foreign entities, including governments, banks,
businesses or individuals. Commercial and construction loans and home equity
lines of credit in the loan portfolio are primarily variable rate loans and have
little interest rate risk.

      The Company's total gross loans were $147.6 million at December 31, 2001,
an increase of $33.1 million or 28.9% from the $114.5 million reported one year
earlier. The Company's ratio of total loans to total deposits was 106.3% at
December 31, 2001 and 88.1% at December 31, 2000. The ratio clearly reflects
stronger loan growth than deposit growth during the year and is the primary
reason the Company increased its Federal Home Loan Bank advances by $20.0
million in 2001.

      The following table summarizes the loan portfolio by category as of the
years ended December 31, 2001 and 2000.

                             LOAN PORTFOLIO SUMMARY
                                 (000's omitted)

                                                      2001                2000
                                                    --------            --------
Commercial and industrial                           $ 35,366            $ 30,070
Commercial real estate                                60,290              43,146
Real estate construction                               9,005               5,879
Residential real estate                               21,482              18,926
Loans to individuals                                  21,430              16,467
                                                    --------            --------
Total loans                                         $147,573            $114,488
                                                    ========            ========

      The following table presents maturity information on the loan portfolio
based upon scheduled repayments at December 31, 2001.

                                  LOAN MATURITY
                                 (000's omitted)

<TABLE>
<CAPTION>
                                                 Due Within           Due One to            Due After
                                                  One Year            Five Years            Five Years           Total
                                                  --------            ----------            ----------           -----
<S>                                               <C>                  <C>                    <C>              <C>
Commercial and industrial                         $21,416              $12,313                $ 1,637          $ 35,366
Commercial real estate                              3,139               40,032                 17,119            60,290
Real estate construction                            5,114                1,832                  2,059             9,005
Residential real estate                             1,285                8,295                 11,902            21,482
Loans to individuals                                1,232                5,435                 14,763            21,430
                                                  -------              -------                -------          --------
Total loans                                       $32,186              $67,907                $47,480          $147,573
                                                  =======              =======                =======          ========
</TABLE>

      The following table presents fixed and variable rate loans from the
portfolio by category that are due after one year.


                                       24

<PAGE>

                          FIXED AND VARIABLE RATE LOANS
                                 (000'S omitted)

<TABLE>
<CAPTION>
                                                                        December 31, 2001
                                                                        -----------------
                                                          Fixed                                  Variable
                                                Due One to        Due After           Due One to         Due After
                                                Five Years       Five Years           Five Years        Five Years
                                                ----------       ----------           ----------        ----------
<S>                                              <C>              <C>                   <C>              <C>
Commercial and industrial                        $ 9,535          $ 1,082               $2,778           $   555
Commercial real estate                            35,776           16,333                4,256               786
Real estate construction                           1,020            1,079                  812               980
Residential real estate                            8,295           11,902                    -                 -
Loans to individuals                               3,324            2,766                2,111            11,997
                                                 -------          -------               ------           -------
  Total                                          $57,950          $33,162               $9,957           $14,318
                                                 =======          =======               ======           =======
</TABLE>

Loan Category Analysis

      Commercial Loans. Commercial and industrial loans accounted for 24.0% of
the loan portfolio as of December 31, 2001 and stood at $35.4 million versus
$30.1 million (26.3% of total loans) at December 31, 2000. Such loans generally
are made to provide operating lines of credit, to finance the purchase of
inventory or equipment, and for other business purposes. The creditworthiness of
the borrower is analyzed and re-evaluated on a periodic basis. Most commercial
loans are collateralized with business assets such as accounts receivable,
inventory and equipment. Even with substantial collateral such as all the assets
of the business and personal guarantees, commercial lending involves
considerable risk of loss in the event of a business downturn or failure of the
business.

      Commercial Real Estate Loans. Commercial real estate mortgages represent
financing of commercial properties that are secured by real estate, and were
40.8% and 37.7% of total loans at December 31, 2001 and December 31, 2000,
respectively. Outstanding loans in this category equaled $60.3 million and $43.1
million at December 31, 2001 and December 31, 2000, respectively. The Company
prefers to make commercial real estate loans secured by owner-occupied
properties, and as of December 31, 2001 approximately 54% of these loans are
secured in that manner. Such borrowers are generally engaged in business
activities other than real estate, and the primary source of repayment is not
solely dependent on conditions in the real estate market.

      Real Estate Construction Loans. Real estate construction loans represent
interim financing on residential and commercial properties under construction,
and are secured by real estate. Once construction is completed and the loan
becomes permanent, the loans are reclassified as commercial real estate loans
which are secured by commercial property or residential real estate loans which
are secured by first deeds of trust. Outstanding loans in this category totaled
$9.0 million (6.1% of total loans) at December 31, 2001 as compared to $5.9
million (5.1% of total loans) at December 31, 2000.

      Residential Real Estate Loans. Residential real estate loans are secured
by first deeds of trust on 1-4 family residential properties. This category had
$21.5 million in loans (14.6% of total loans) at December 31, 2001 and $18.9
million in loans (16.5% of total loans) at December 31, 2000. To mitigate
interest rate risk, the Company usually limits the final maturity of residential
real estate loans held for its own portfolio to 15-20 years and offers a
bi-weekly payment option to


                                       25

<PAGE>

encourage faster repayment. Residential real estate lending involves risk
elements when there is lack of timely payment and/or a decline in the value of
the collateral.

      Loans to Individuals. Loans to individuals include installment loans and
home equity lines of credit/loans secured by junior liens on residential real
estate. The loan proceeds typically are used to purchase vehicles, finance home
remodeling or higher education, or for other consumer purposes. Loans to
individuals totaled $21.4 million (14.5% of total loans) at December 31, 2001
and $16.5 million (14.4% of total loans) at December 31, 2000.

Summary of Allowance for Loan Losses

      Certain credit risks are inherent in making loans. The Company attempts to
assess these risks prudently and to manage them effectively. The Company also
attempts to reduce repayment risks by adhering to our internal credit policies
and procedures. These policies and procedures include officer and customer
limits, periodic loan documentation review, and follow-up on exceptions to
credit policies.

      The allowance for loan losses is maintained at a level considered adequate
to absorb probable losses. Some of the factors which management of the Company
considers in determining the appropriate level of the allowance for loans losses
are an evaluation of the current loan portfolio, identified loan problems, loan
volume outstanding, past loss experience, present and expected industry and
economic conditions, and in particular, how such conditions relate to the
Company's market area. Bank regulators also periodically review the portfolio
and other assets to assess their quality. The provision for loan losses is
charged to income in an amount necessary to maintain an allowance for loan
losses adequate to provide for expected losses in the loan portfolio. Loans
deemed uncollectible are charged to the allowance for loan losses and recoveries
on loans previously charged off are added to the allowance for loan losses.
Management believes the allowance is adequate to provide for any inherent losses
in the portfolio.

      A provision for loan losses of $301,000 was provided during 2001, an
increase of $20,000 or 7.1% over the $281,000 provided during 2000, in
recognition of management's estimate of inherent risks associated with lending
activities. Due to the Bank's limited operating history, this estimate is
primarily based on industry practices and consideration of local economic
factors. The allowance for loan losses was $1.5 million and $1.2 million as of
December 31, 2001 and 2000, respectively, and represented approximately 1.0% and
1.1%, respectively, of net loans outstanding (see Note 4 to the Consolidated
Financial Statements). A total of $30,000 in specific reserves, on one
commercial loan placed on nonaccrual status in April 1999, is included in the
balance of the allowance for loan losses as of December 31, 2001. Specific
reserves totaled $55,000 on two commercial customers as of December 31, 2000. Of
the $30,000 specific reserve at December 31, 2001, $20,000 was accrued during
the second quarter of 2000. During the first quarter of 2001, $25,000 of
specific reserves accrued during 2000 on a second commercial loan were reversed
when the loan was repaid.

      No assurance can be given that unforeseen adverse economic conditions or
other circumstances will not result in increased provisions in the future.
Additionally, regulatory examiners may require the Company to recognize
additions to the allowance based upon their judgment about the loan portfolio
and other information available to them at the time of their examinations.


                                       26

<PAGE>

      The following table summarizes the loan loss experience for the years
ended December 31, 2001 and 2000.

                            ALLOWANCE FOR LOAN LOSSES
                                 (000's omitted)

                                                    December 31      December 31
                                                        2001             2000
                                                      --------         --------
Balance at January 1                                  $  1,190         $    910
Provision for loan losses                                  301              281
Recoveries                                                   0                0
Charged off loans:
     Commercial Loans                                       (7)               0
     Credit cards                                          (16)              (1)
                                                      --------         --------
Balance at December 31                                $  1,468         $  1,190
                                                      ========         ========

      The following table summarizes the allocation of the allowance for loan
losses for the years ended December 31, 2001 and 2000.

                   ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
                                 (000's omitted)

<TABLE>
<CAPTION>
                                          December 31, 2001        December 31, 2000
                                          -----------------        -----------------
                                         Amount      Percent      Amount      Percent
                                         ------      -------      ------      -------
<S>                                      <C>           <C>        <C>           <C>
Balance at end of period applicable to:
Commercial and industrial                $  352        24.0%      $  313        26.3%
Commercial real estate                      599        40.8          448        37.7
Real estate construction                     90         6.1           61         5.1
Residential real estate                     214        14.6          197        16.5
Loans to individuals                        213        14.5          171        14.4
                                         ------      ------       ------      ------
    Total allowance                      $1,468       100.0%      $1,190       100.0%
                                         ======      ======       ======      ======
</TABLE>

      During 2001 and 2000, the Company charged off loans in the amounts of
$23,000 and $1,000, respectively. From the inception of operations in 1995
through 1998, the Company had no history of charge-offs. The $23,000 in loans
charged off in 2001 was comprised of $16,000 in credit cards loans and $7,000 in
commercial loans. The $1,000 in loans charged off in 2000 was comprised of
$1,000 in credit card loans.

      Nonperforming Assets. Nonperforming assets include nonaccrual loans, loans
past due 90 days or more, restructured loans, and foreclosed/repossessed
property. A loan will be placed on nonaccrual status when collection of all
principal or interest is deemed unlikely. A loan will automatically be placed on
nonaccrual status when principal or interest is past due 90 days or more, unless
the loan is both well secured and in the process of being collected. In this
case, the loan will continue to accrue interest despite its past due status.


                                       27

<PAGE>

      A restructured loan is a loan in which the original contract terms have
been modified due to a borrower's financial condition or there has been a
transfer of assets in full or partial satisfaction of the loan. A modification
of original contractual terms is generally a concession to a borrower that a
lending institution would not normally consider. The entire balance of $230,000
of restructured loans at December 31, 2000, as disclosed below, was comprised of
one loan customer. There are no restructured loans as of December 31, 2001.

      An impaired loan as defined in SFAS 114 is a loan when, based on current
information and events, it is likely that a lending institution will be unable
to collect all amounts, including both principal and interest, due according to
the contractual terms of the loan agreement.

      Once a quarter the Board of Directors will review all loans on the Bank's
watch list to determine proper action and reporting of any loans identified as
substandard by the credit quality review.

      Nonperforming assets at December 31, 2001 and December 31, 2000 are
detailed as follows:

                              NONPERFORMING ASSETS
                                 (000's omitted)

                                                      December 31  December 31
                                                          2001        2000
                                                          ----        ----
Nonaccrual loans                                          $514        $102

Loans past due 90 days or more                              25          54

Restructured loans                                          --         230
                                                          ----        ----

Total nonperforming loans                                  539         386
                                                          ----        ----

Foreclosed, repossessed and idled properties                --          --
                                                          ----        ----

    Total nonperforming assets                            $539        $386
                                                          ====        ====

      If the nonaccrual loans disclosed above had performed in accordance with
their original terms, additional interest income in the amount of $23,000 and
$9,000, would have been recorded for the years ended December 31, 2001 and 2000,
respectively.

      There were no restructured loans as of December 31, 2001. The Bank had one
restructured loan in the amount of $230,000 as of December 31, 2000.

      The total recorded investment in impaired loans was $539,000 and $851,000
for the years ended December 31, 2001 and 2000, respectively. The related loan
loss allowance allocated to impaired loans was $30,000 and $55,000, respectively
for the above-referenced time periods. Management believes that the above
allocated reserves are adequate for the impaired loans in the Company's
portfolio based upon a detailed review of the quality and pledged collateral of
each individual loan considered impaired at each of the above-referenced
periods.


                                       28

<PAGE>

Other Assets

      The Company's other assets were $3.1 million at December 31, 2001, an
increase of $2.5 million over the $592,000 reported one year earlier. The
purchase of bank owned life insurance on key employees contributed to $2.3
million of the total increase from 2000 to 2001.

Deposits

      The levels and mix of deposits are influenced by such factors as customer
service, interest rates paid, service charges and the convenience of banking
locations. Competition for deposits is intense from other depository
institutions and money market funds, some of which offer interest rates higher
than those paid by the Bank. Management attempts to identify and implement
pricing and marketing strategies designed to control the overall cost of
deposits and to maintain a stable deposit mix. The ratio of certificates of
deposit to total deposits decreased from 64.8% at December 31, 2000 to 56.1% at
December 31, 2001. During 2001, the cost of funds ratio was 4.4%, a decrease of
..2% over the 2000 ratio of 4.6% due to deposit repricing in response to Federal
Reserve prime rate cuts. However, the net interest margin actually decreased by
..1% to 3.9% over its 2000 level of 4.0%. Approximately one third of the Bank's
loan portfolio is variable rate and reprices immediately in response to prime
rate cuts. Time deposits comprising over 50% of the deposit base are fixed rate
and have maturities of generally one year or longer. This difference in
repricing speed contributed to the margin decrease in 2001 over 2000.

      As of December 31, 2001 total deposits were $138.9 million, an increase of
$9.0 million or 6.9% from their level of $129.9 million one-year earlier. The
major categories of increases were non-interest bearing demand deposits,
interest bearing demand deposits and money market deposits in the amounts of
$7.0 million, $3.5 million and $4.3 million, respectively. The major category of
decrease was time deposits in the amount of $6.3 million.

      At December 31, 2001 noninterest-bearing demand deposits were $24.3
million or 17.5% of total deposits. On December 31, 2000 noninterest-bearing
demand deposits were $17.3 million or 13.3% of total deposits. Nonmaturity
deposits (noninterest bearing demand deposits, interest bearing demand deposits,
money market accounts, and savings accounts) were $60.9 million or 43.8% of
total deposits, compared with $45.7 million or 35.2% of total deposits at
December 31, 2000. Total interest bearing deposits were $114.6 million at
December 31, 2001, an increase of $2.0 million or 1.8% over their level of
$112.6 million at December 31, 2000.

      For the year ended December 31, 2001 average noninterest bearing demand
deposits were $17.4 million or 13.2% of average total deposits. For the prior
year, average noninterest bearing demand deposits were $15.7 million or 13.2% of
average total deposits. Nonmaturity deposits (noninterest bearing demand
deposits, interest bearing demand deposits, money market accounts and savings
accounts) averaged $47.9 million or 36.1% of average total deposits in 2001, up
from $46.4 million or 38.8% of average total deposits in 2000. Total interest
bearing deposits averaged $114.9 million for the year ended December 31, 2001,
an increase of $11.4 million or 11.0% over their level of $103.5 million for the
year ended December 31, 2000. Total time deposits averaged $84.5 million in 2001
or 63.9% of average total deposits, up from $72.8 million or 61.2% of average
total deposits in 2000.


                                       29

<PAGE>

      The following table summarizes average deposits for the years ended
December 31, 2001 and December 31, 2000.

                                   DEPOSIT MIX
                                 (000's omitted)

<TABLE>
<CAPTION>
                                           December 31, 2001               December 31, 2000
                                           -----------------               -----------------
                                        Average                          Average
                                        Balance         Percent          Balance         Percent
                                       --------        --------         --------        --------
<S>                                    <C>                <C>           <C>                <C>
Interest bearing deposits:
NOW accounts                              8,768             6.6            7,663             6.4
Money market accounts                    19,750            14.9           21,357            17.9
Savings                                   1,851             1.4            1,598             1.3
Time deposits over $100,000              24,399            18.5           13,737            11.5
Time deposits under $100,000             60,132            45.4           59,112            49.7
                                       --------        --------         --------        --------
Total interest bearing deposits         114,900            86.8          103,467            86.8
                                       --------        --------         --------        --------

Noninterest bearing deposits:
Demand deposits                          17,499            13.2           15,741            13.2
                                       --------        --------         --------        --------

Total deposits                         $132,399           100.0%        $119,208           100.0%
                                       ========        ========         ========        ========
</TABLE>


      The following table presents the maturity schedule of certificates of
deposit of $100,000 or more as of December 31, 2001 and December 31, 2000.

                        MATURITY SCHEDULE OF CERTIFICATES
                            OF DEPOSIT OVER $100,000
                                 (000's omitted)

                                      December 31, 2001     December 31, 2000
                                      -----------------     -----------------
Three months or less                       $ 7,930                $ 4,095
Over three through 6 months                  5,132                  4,125
Over six through 12 months                  10,520                  6,810
Over 12 months                               2,009                  1,638
                                           -------                -------
Total                                      $25,591                $16,668
                                           =======                =======

Short-Term Borrowings

      The Bank placed in service a commercial sweep account program in the third
quarter of 1999. The balances in the program grew by $1.3 million from their
level of $2.0 million at December 31, 2000 to a total of $3.3 million as of
December 31, 2001. The program consists of establishing a demand deposit account
in which the Bank invests available balances daily in securities on an overnight
basis subject to repurchase. On the following business day, the Bank will
repurchase from the customer the securities for an amount equal to the amount of
available balances invested in the securities. Interest is calculated daily at
the rate applicable for each overnight period; however, it is posted to the
customer accounts only once per month. The contractual

                                       30

<PAGE>

agreement states that the repurchase agreement is not a deposit and therefore is
not insured by the Federal Deposit Insurance Corporation. Therefore, these
repurchase balances are not reported as deposits but as short-term borrowings.

      As of December 31, 2001 the Company had a federal funds purchased balance
of $3.8 million as compared to $1.8 million at December 31, 2000.

      The following table presents information on each category of the Company's
short-term debt, which generally mature within one to seven days from the
transaction date.

                              SHORT-TERM BORROWINGS
                                (000's omitted)

<TABLE>
<CAPTION>
                                                                   Year Ended
                                                                   December 31,
                                                               2001           2000
                                                               ----           ----
<S>                                                           <C>            <C>
Actual amount outstanding at period end:
  Short-term borrowings                                       $3,824         $1,762
  Securities sold under agreements to repurchase               3,347          1,983

Weighted average actual interest rate at period end:
  Short-term borrowings                                         1.86%          6.55%
  Securities sold under agreements to repurchase                1.29           4.75
Maximum amount outstanding at any month-end in period:
  Short-term borrowings                                       $6,251         $6,258
  Securities sold under agreements to repurchase               5,387          4,358

Average amount outstanding during period end:
  Short-term borrowings                                       $1,288         $2,737
  Securities sold under agreements to repurchase               4,880          3,174

Weighted average interest rate during the period:
  Short-term borrowings                                         4.19%          6.67%
  Securities sold under agreements to repurchase                3.18           4.74
</TABLE>

Other Debt

      The Company has outstanding debt with the Federal Home Bank of Atlanta in
the amount of $30.0 million as of December 31, 2001, an increase of $20.0
million or 200.0% over the $10.0 million balance as of December 31, 2000. There
are four convertible advances in the amount of $5.0 million each currently
drawn. There is also one adjustable rate advance in the amount of $10.0 million
currently drawn. The Federal Home Bank of Atlanta has the option to convert the
four $5.0 million advances on the conversion dates below and any interest
payment date thereafter with at least two business days notice. The advance will
be converted into a 3-month LIBOR-based adjustable rate credit (ARC) at 3M LIBOR
flat. The $10.0 million advance is an ARC with a current rate of 1.925%, subject
to change on each quarterly interest payment date. The following table provides
more information on the outstanding advances as of December 31, 2001.


                                       31

<PAGE>


                         FEDERAL HOME LOAN BANK ADVANCES
                                 (000's omitted)

<TABLE>
<CAPTION>
                                                                                              Interest
           Advance               Advance                     Maturity                          Payment            Conversion
           Balance                Date                         Date               Rate          Dates                Date
           -------                ----                         ----               ----          -----                ----
<S>                        <C>                          <C>                      <C>          <C>              <C>
        $ 5,000,000        December 2, 1999             December 2, 2009          5.46%       Quarterly        December 4, 2000
        $ 5,000,000          May 24, 2000                 May 24, 2010            6.49%       Quarterly          May 24, 2001
        $ 5,000,000        February 9, 2001             February 9, 2011          4.97%       Quarterly        February 9, 2004
        $ 5,000,000        November 7, 2001             November 7, 2011          3.91%       Quarterly        November 7, 2006
        $10,000,000        December 14, 2001            December 16, 2002        Variable     Quarterly               N/A
</TABLE>

      On June 30, 2000 the Company issued a $2.3 million subordinated capital
note to a commercial bank lender, which was subsequently repaid in November 2000
with partial proceeds from the secondary stock offering effective November 17,
2000. The note bore interest at prime minus 125 basis points and had a final
maturity of twelve years with no early payoff penalty. The note met the
regulatory requirements to qualify as Tier 2 capital. Of the proceeds of the
note, $1.0 million was downstreamed to the Bank as additional common equity,
$300,000 was used to retire inter-company debt and $1.0 million was retained at
the parent company for general corporate purposes and to be available as a
source of additional capital for the Bank.

Interest Rate Risk

      Interest rate risk is the risk to earnings or capital generated by the
effects of changes in interest rates on the Company's on- and off-balance sheet
positions, and can take one or more of several forms. Repricing risk comes from
timing mismatches in the ability to alter contractual rates earned on financial
assets held or paid on interest-bearing liabilities. Basis risk refers to
changes in the underlying relationships between market rates or indices, which
result in a narrowing of the spread earned on a loan or investment relative to
its cost of funds. Option risk arises from "embedded options" in many financial
instruments such as interest rate options, loan prepayment options, deposit
early withdrawal options, callable Federal Home Loan Bank advances and potential
prepayment of the underlying collateral of asset-backed securities. Embedded
options are complex risk positions that are difficult to predict and offset, and
are a large component of the overall interest rate risk to the Company.

      The Company has established risk measures, limits, policy guidelines and
internal control mechanisms for managing the overall asset/liability management
("ALM") position. The responsibility for interest rate risk control resides with
Management, with oversight by the Board of Directors and its Investment
Committee. The Company seeks to balance the return potential of the ALM position
against the desire to limit volatility in earnings.

      At least quarterly, the Company measures the ALM position using earnings
simulation modeling to estimate what assets and liabilities would reprice, and
to what extent, within a one-year period in response to an immediate 200 basis
point change in the Prime Rate, as well as in response to more gradual interest
rate changes. The model also incorporates Management's forecasts for balance
sheet growth, noninterest income and noninterest expense. The interest rate
scenarios are

                                       32

<PAGE>

used for analytical purposes and do not necessarily represent Management's view
of future market movements. Rather, these are intended to provide a measure of
the degree of volatility interest rate movements may apply to the earnings of
the Company. Modeling the sensitivity of earnings to interest rate risk is
highly dependent on numerous assumptions embedded in the simulation model. While
the earnings sensitivity analysis incorporates Management's best estimate of
interest rate and balance sheet dynamics under various market rate movements,
the actual behavior and resulting earnings impact likely will differ from that
projected.

      The Company's objective is to keep the change in net interest income over
twelve months at or below 5% under an immediate 200 basis point interest rate
shock scenario. At December 31, 2001 it was estimated that an immediate 200
basis point increase in Prime would change net interest income by +3.79% while
an immediate 200 basis point decrease in Prime would change net interest income
by -4.25%. At December 31, 2000 it was estimated that an immediate 200 basis
point increase in Prime would change net interest income by +1.40% while an
immediate 200 basis point decrease in Prime would change net interest income by
-6.81%.

      The following table shows the sensitivity of the Company's balance sheet
at the dates indicated, but is not necessarily indicative of the position on
other dates.

                            INTEREST RATE SENSITIVITY
                      Maturities/Repricing (000'S omitted)
                                December 31, 2001
<TABLE>
<CAPTION>

                                                      1-3              4-12              13-60            Over 60
Earning Assets:                                      Months            Months            Months            Months            Total
                                                     ------            ------            ------            ------            -----
<S>                                                 <C>               <C>               <C>               <C>              <C>
Loans, excluding nonaccruals                        $ 50,016          $  6,512          $ 56,668          $ 33,863         $147,059
Investment securities                                  3,410             1,762            12,261            15,832           33,265
Federal Funds Sold                                        --                --                --                --               --
Interest bearing balances                                143                --                --                --              143
                                                    -------------------------------------------------------------------------------
   Total earning assets                               53,569             8,274            68,929            49,695          180,467
                                                    -------------------------------------------------------------------------------

Interest Bearing Liabilities:
NOW accounts                                          10,820                --                --                --           10,820
Money market accounts                                 23,590                --                --                --           23,590
Savings                                                2,220                --                --                --            2,220
Certificates of Deposit                               19,936            46,525            11,478                --           77,939
                                                    -------------------------------------------------------------------------------
   Total Deposits                                     56,566            46,525            11,478                --          114,569
                                                    -------------------------------------------------------------------------------

Repurchase agreements                                  3,347                --                --                --            3,347
FHLB advances                                         20,000                --            10,000                --           30,000
Federal funds purchased                                3,824                --                --                --            3,824
                                                    -------------------------------------------------------------------------------
Total interest bearing liabilities                    83,737            46,525            21,478                --          151,740
                                                    -------------------------------------------------------------------------------
Interest Rate Gap                                   $(30,168)         $(38,251)         $ 47,451          $ 49,695         $ 28,727
                                                    ===============================================================================
</TABLE>

                                       33

<PAGE>

<TABLE>
<S>                                                 <C>               <C>               <C>               <C>               <C>
Cumulative interest sensitivity gap                 $(30,168)         $(68,419)         $(20,968)         $ 28,727               --
Ratio of sensitivity gap to total earning
assets                                                (16.72%)          (21.19%)           26.29%            27.54%           15.92%
Cumulative ratio of sensitivity gap to total
earning assets                                        (16.72%)          (37.91%)          (11.62%)           15.92%              --
</TABLE>

Capital Adequacy

      The Company's financial position at December 31, 2001 and December 31,
2000 reflects liquidity and capital levels currently adequate to fund
anticipated short-term business expansion. Capital ratios are in excess of
required regulatory minimums for a well-capitalized institution. The adequacy of
the Company's capital is reviewed by management on an ongoing basis. Management
seeks to maintain a capital structure adequate to support anticipated asset
growth and serve as a cushion to absorb potential losses.

      Total shareholders' equity was $16.3 million at December 31, 2001 compared
with $14.7 million at December 31, 2000, an increase of $1.6 million or 10.9%.
The $1.6 million increase is attributable to 2001's net income of $1.7 million,
a $59,000 decrease over the level at December 31, 2000 in accumulated other
comprehensive income, which is comprised exclusively of unrealized gains
(losses) on available-for-sale investment securities, and stock issuance costs
paid in 2001 in relation to the secondary stock offering effective November 17,
2000 in the amount of $4,000. Exclusive of accumulated other comprehensive
income (loss), which is comprised exclusively of the unrealized gains (losses)
on available-for-sale securities, total shareholders' equity would have been
$16.4 million and $14.7 million at December 31, 2001 and 2000, respectively, an
increase of $1.7 million or 11.6%.

      For the periods indicated, the Company had the following risk-based
capital and leverage ratios relative to regulatory minimums:

                                 CAPITAL RATIOS

        Ratio              12/31/01            12/31/00               Minimum
        -----              --------            --------               -------

        Tier 1               10.2%              11.7%                    4%

        Total                11.1%              12.6%                    8%

        Leverage              9.1%               9.3%                    4%

Liquidity

      Asset/liability management activities are designed to ensure that adequate
liquidity is available to meet loan demand or deposit outflows and, through the
management of the Company's interest sensitivity position, to manage the impact
of interest rate fluctuations on net interest income.


                                       34


<PAGE>

      Liquidity measures the ability of the Company to meet its maturing
obligations and existing commitments, to withstand fluctuations in deposit
levels, to fund its operations and to provide for customers' credit needs.
Liquidity represents a financial institution's ability to meet present and
future financial obligations through either the sale or maturity of existing
assets or the acquisition of additional funds from alternative funding sources.

      The Company's asset liquidity is provided by cash and due from banks,
federal funds sold, investments available for sale, and through the management
of investment maturities/prepayments and loan repayments.

      The level of deposits may fluctuate, perhaps significantly so, due to
seasonal cycles of depositing customers and the promotional activities of
competitor financial institutions. Similarly, the level of demand for loans may
vary significantly and at any given time may increase or decrease substantially.
However, unlike the level of deposits, management has more direct control over
lending activities and if necessary can adjust the level of those activities
according to the amounts of available funds.

      In addition to asset liquidity, the Company would have liquidity available
to it through increasing certain categories of liabilities. It could purchase
overnight federal funds, borrow from correspondent banks, sell securities under
a repurchase agreement or obtain advances from the Federal Home Loan Bank. The
Bank has established a credit line though the discount window of the Federal
Reserve Bank of Richmond as an additional source of liquidity. As a result of
the Company's management of liquid assets and the ability to generate liquidity
through alternative funding sources, management believes the Company maintains
overall liquidity sufficient to meet its depositors' requirements and satisfy
its customers' credit needs.

      The Company's ratio of liquid assets to deposits and short-term borrowings
was 27.1% and 31.4% at December 31, 2001 and 2000, respectively. The Company
sells excess funds as overnight federal funds sold to provide an immediate
source of liquidity. The Company had federal funds sold of $0 at December 31,
2001 and 2000. Loan growth in the amount of $33.1 million during 2001 was
substantially funded by deposit growth in the amount of $9.0 million, growth in
securities sold under agreements to repurchase in the amount of $1.3 million,
Federal Home Loan Bank advances in the amount of $20.0 million, and increased
federal funds purchased in the amount of $2.0 million.

      As of December 31, 2001, The Company has pledged approximately $3.0
million of its investment portfolio as collateral for a line of credit from the
Federal Home Loan Bank. As of that date, the Company had approximately $8.7
million in available overnight credit from the Federal Home Loan Bank under that
agreement.

Impact of Inflation

      The consolidated financial statements and notes thereto presented herein
have been prepared in accordance with generally accepted accounting principles,
which requires the measurement of financial position and operating results in
terms of historical dollars without considering changes in the relative
purchasing power of money over time due to inflation. Unlike most industrial
companies, nearly all the assets and liabilities of the Company and the Bank are
monetary in nature.


                                       35

<PAGE>

As a result, interest rates have a greater impact on the Company's performance
than do the effects of changes in the general rate of inflation and changes in
prices. In addition, interest rates do not necessarily move in the same
direction or in the same magnitude as do the prices of goods and services.
Management seeks to manage the relationship between interest-sensitive assets
and liabilities in order to protect against wide interest rate fluctuations,
including those resulting from inflation.

Financial Ratios

          The following table presents certain financial ratios for the years
ended December 31, 2001 and 2000.

                              KEY FINANCIAL RATIOS

                                                            Years Ended
                                                            December 31,
                                                            ------------
                                                       2001               2000
-------------------------------------------------------------------------------
Return on average assets                                1.0%               1.0%
Return on average equity                               11.1%              13.1%
Average equity to average assets                        9.0%               7.6%

Recent and Future Accounting Considerations

      In October 2001, the Financial Accounting Standards Board (FASB) issued
Statement No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets," which supercedes Statement No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of." Statement 144
also supercedes the accounting and reporting provisions of APB Opinion No. 30,
"Reporting the Results of Operations-Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions," for the disposal of a segment of a business. However,
it retains the requirement in Opinion No. 30 to report separately discontinued
operations and extends that reporting to a component of an entity that either
has been disposed of either by sale, abandonment, or distribution to owners or
is classified as held for sale. Statement 144 carries over many of the
fundamental provisions of Statement No. 121. Statement No. 144 is effective for
fiscal years beginning after December 15, 2001. The Company will adopt the
provisions of this Statement effective January 1, 2002, as required. The
adoption of the Statement is not expected to have any effect on the Company's
financial position, results of operations, or liquidity.

      In June 2001, the Financial Accounting Standards Board (FASB) issued
Statement No. 142, "Goodwill and Other Intangible Assets," which supercedes APB
Opinion No. 17, "Intangible Assets". Statement No. 142 addresses how intangible
assets that are acquired individually or with a group of other assets, excluding
those acquired in a business combination, should be accounted for in financial
statements upon their acquisition as well as after they have been initially
recognized in the financial statements. The Statement eliminates the requirement
to amortize goodwill and other intangible assets that have indefinite useful
lives, instead requiring the assets be tested at least annually for impairment
based on the specific guidance in the Statement. The Company will adopt the
provisions of the Statement effective January 1, 2002 as required. The Statement
requires a


                                       36

<PAGE>

transition impairment test of goodwill and other intangible assets in connection
with the initial application of the Statement, with any resultant impairment
losses being recognized as a cumulative effect of a change in accounting
principle. The adoption of the Statement is not expected to have any effect on
the Company's financial position, results of operations, or liquidity.

      In June 2001, the Financial Accounting Standards Board (FASB) issued
Statement No. 141, "Business Combinations," which supersedes Accounting
Principles Board (APB) Opinion No. 16, "Business Combinations," and FASB
Statement No. 38, "Accounting for Preacquisition Contingencies of Purchased
Enterprises." Statement 141 requires that all business combinations be accounted
for by the purchase method of accounting. The purchase method of accounting
requires the accounts of an acquired institution to be included with the
acquirer's accounts as of the date of acquisition, recognizing any excess of
purchase price over the fair value of the net assets acquired as goodwill. The
Statement also requires that the assets of an acquired institution be recognized
as assets apart from goodwill if they meet specific criteria presented in the
Statement. The provisions of the Statement apply to all business combinations
initiated after June 30, 2001.

      In September 2000, the Financial Accounting Standards Board (FASB) issued
Statement No. 140, "Accounting for Transfers and Servicing of Financial Assets
and Extinguishments of Liabilities," as a replacement for FASB Statement No.
125, which has the same title. Statement No. 140 revises the standards for
accounting for securitizations and other transfers of financial assets and
collateral, but it carries over most of the provisions of Statement No. 125
without change. The statement provides accounting and reporting standards for
such transactions based upon consistent application of a financial components
approach which focuses on control. Under this approach, after a transfer of
financial assets, an entity recognizes the financial and servicing assets it
controls and the liabilities it has incurred, de-recognizes financial assets
when control has been surrendered, and de-recognizes liabilities when
extinguished.

      Statement No. 140 is effective for transfers and servicing of financial
assets and extinguishments of liabilities occurring after March 31, 2001. The
Statement is effective for recognition and reclassification of collateral for
fiscal years ending after December 15, 2000. The adoption of Statement No. 140
on January 1, 2001 did not have any effect on the Company's consolidated
financial position, results of operation or liquidity.

      In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities." Statement 133 established standards for
accounting and reporting for derivative instruments, including certain
instruments embedded in other contracts and for hedging activities. It requires
that an entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value. The
Statement requires that changes in a derivative's fair value be recognized
currently in earnings unless specific hedge accounting criteria are met. Special
accounting for qualifying hedges allows a derivative's gains and losses to
offset related results on the hedged item in the income statement, and requires
that a company must formally document, designate and assess the effectiveness of
transactions that receive hedge accounting.


                                       37

<PAGE>

     Statement 133 shall be effective for all fiscal quarters of all fiscal
years beginning after June 15, 2000. Initial application of this Statement shall
be as of the beginning of an entity's fiscal quarter. Earlier application of all
of the provisions of this Statement is encouraged but is permitted only as of
the beginning of any fiscal quarter that begins after issuance of this
Statement. Earlier application of selected provisions of this Statement is not
permitted. This Statement shall not be applied retroactively to financial
statements of prior periods. Adoption of Statement 133 on January 1, 2000 did
not have any effect on the Bank's consolidated financial position, results of
operation or liquidity.


                                       38

<PAGE>

 Item 7. Financial Statements

Index to Financial Statements

Independent Auditors' Report                                               40

Consolidated Balance Sheets as of December 31, 2001 and 2000               41

Consolidated Statements of Income for the Years Ended December 31,
2001 and 2000                                                              42

Consolidated Statements of Changes in Shareholders' Equity for the Years
Ended December 31, 2001 and 2000                                           43

Consolidated Statements of Cash Flows for the Years Ended December 31,     44
2001 and 2000

Notes to Consolidated Financial Statements                                 45


                                       39

<PAGE>
[LETTERHEAD - LARROWE & COMPANY, PLC CPAS]


                          Independent Auditors' Report

The Board of Directors
Valley Financial Corporation:


We have audited the consolidated balance sheets of Valley Financial Corporation
and subsidiary (Valley Bank) as of December 31, 2001 and 2000 and the related
consolidated statements of income, shareholders' equity and cash flows for the
years then ended. These consolidated financial statements are the responsibility
of the Corporation's management. Our responsibility is to express an opinion on
these consolidated financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Valley Financial
Corporation and subsidiary as of December 31, 2001 and 2000 and the results of
their operations and their cash flows for the years then ended in conformity
with accounting principles generally accepted in the United States of America.

LARROWE & COMPANY, PLC
Galax, Virginia
January 11, 2002

                                  40


<PAGE>

================================================================================
Valley Financial Corporation
Consolidated Balance Sheets
December 31, 2001 and 2000
(In thousands, except share data)
--------------------------------------------------------------------------------
<TABLE>
<S>                                                                                       <C>             <C>

                                                                                          2001             2000
                                                                                    ---------------  ----------------
                           Assets

Cash and due from banks                                                             $         6,235  $          3,988
Interest-bearing deposits in other banks                                                        143               113
Securities available-for-sale                                                                31,338            36,873
Restricted equity securities                                                                  1,927             1,010
Loans, net of allowance for loan losses of
   $1,468 in 2001 and $1,190 in 2000                                                         146,083           113,247
Premises and equipment, net                                                                   4,084             3,075
Accrued interest receivable                                                                     930             1,266
Other assets                                                                                  3,128               592
                                                                                    ---------------  ----------------
        Total assets                                                                $       193,868  $        160,164
                                                                                    ===============  ================

                Liabilities and Shareholders' Equity

Noninterest-bearing deposits                                                        $        24,297  $         17,254
Interest-bearing deposits                                                                   114,569           112,620
                                                                                    ---------------  ----------------
        Total deposits                                                                      138,866           129,874

Federal funds purchased and securities sold under
   agreements to repurchase                                                                   7,171             3,745
Federal Home Loan Bank advances                                                              30,000            10,000
Accrued interest payable                                                                      1,104             1,523
Other liabilities                                                                               423               367
                                                                                    ---------------  ----------------
        Total liabilities                                                                   177,564           145,509
                                                                                    ---------------  ----------------

Commitments and other matters

Shareholders' equity:
     Preferred stock, no par value; 10,000,000
        shares authorized; none issued and outstanding                                            -                 -
     Common stock, no par value;
        10,000,000 authorized; 1,213,207
        shares issued and outstanding in
        2001 and 2000                                                                        12,295            12,299
     Retained earnings                                                                        4,113             2,401
     Accumulated other comprehensive loss                                                      (104)              (45)
                                                                                    ---------------  ----------------
        Total shareholders' equity                                                           16,304            14,655
                                                                                    ---------------  ----------------
        Total liabilities and shareholders' equity                                  $       193,868  $        160,164
                                                                                    ===============  ================
</TABLE>

See accompanying notes to consolidated financial statements.

                                       41


<PAGE>
================================================================================
Valley Financial Corporation
Consolidated Statements of Income
Years Ended December 31, 2001 and 2000
(In thousands, except per share data)
--------------------------------------------------------------------------------
<TABLE>
<S>                                                                                       <C>             <C>

                                                                                          2001             2000
                                                                                    ---------------  ----------------
Interest income:

     Interest and fees on loans                                                     $        10,852  $          9,456
     Interest on securities - taxable                                                         1,740             1,860
     Interest on securities - nontaxable                                                        332               390
     Interest on money market investments                                                        45                80
                                                                                    ---------------  ----------------
                  Total interest income                                                      12,969            11,786
                                                                                    ---------------  ----------------

Interest expense:

     Interest on deposits                                                                     5,669             5,328
     Interest on Federal Home Loan Bank advances                                                870               570
     Interest on other borrowed funds                                                           209               407
                                                                                    ---------------  ----------------
                  Total interest expense                                                      6,748             6,305
                                                                                    ---------------  ----------------
                  Net interest income                                                         6,221             5,481

Provision for loan losses                                                                       301               281
                                                                                    ---------------  ----------------
                  Net interest income after provision for loan losses                         5,920             5,200
                                                                                    ---------------  ----------------

Noninterest income:

     Service charges on deposit accounts                                                        397               351
     Realized gains on sale of securities available-for-sale                                     98                 -
     Other income                                                                               117                66
                                                                                    ---------------  ----------------
                  Total noninterest income                                                      612               417
                                                                                    ---------------  ----------------

Noninterest expense:

     Personnel                                                                                2,158             1,876
     Occupancy                                                                                  305               247
     Data processing and equipment                                                              469               396
     Other expense                                                                            1,150             1,030
                                                                                    ---------------  ----------------
                  Total noninterest expense                                                   4,082             3,549
                                                                                    ---------------  ----------------
                  Income before income taxes                                                  2,450             2,068

Income tax expense                                                                              738               601
                                                                                    ---------------  ----------------
                  Net income                                                        $         1,712  $          1,467
                                                                                    ===============  ================

Net income per share:

     Basic net income per share                                                     $          1.41  $           1.41
                                                                                    ===============  ================
     Diluted net income per share                                                   $          1.37  $           1.35
                                                                                    ===============  ================

</TABLE>
See accompanying notes to consolidated financial statements.

                                       42


<PAGE>
================================================================================
Valley Financial Corporation
Consolidated Statements of Shareholders' Equity
Years Ended December 31, 2001 and 2000
(In thousands, except share data)
--------------------------------------------------------------------------------
<TABLE>
<S>                                             <C>           <C>         <C>             <C>            <C>




                                                                                              Accum-
                                                                                              ulated
                                                                                              Other
                                                                                              Compre-       Total
                                                                                              hensive       Share-
                                               Common           Common       Retained         Income        holders'
                                               Shares           Stock        Earnings         (Loss)        Equity
                                               --------        -------       --------          -----        -------
Balances at December 31, 1999                 1,013,207   $     9,099  $         934  $        (978) $        9,055

Comprehensive income:

     Net income                                       -             -          1,467              -           1,467
     Unrealized gains on securities
       available-for-sale, net of deferred
       tax expense of $481                            -             -              -            933             933
                                                                                                     --------------
     Total comprehensive income                                                                               2,400

Sale of common stock                            200,000         3,200              -              -           3,200
                                           ------------   -----------  -------------  -------------  --------------
Balances at December 31, 2000                 1,213,207        12,299          2,401            (45)         14,655

Comprehensive income:

     Net income                                       -             -          1,712              -           1,712
     Unrealized losses on securities
       available-for-sale, net of deferred
       tax benefit of $30                             -             -              -            (59)            (59)
                                                                                                     --------------
     Total comprehensive income                                                                               1,653

Stock issuance costs                                  -            (4)             -              -              (4)
                                           ------------   -----------  -------------  -------------  --------------
Balances at December 31, 2001                 1,213,207   $    12,295  $       4,113  $        (104) $       16,304
                                           ============   ===========  =============  =============  ==============


</TABLE>
See accompanying notes to consolidated financial statements.

                                       43


<PAGE>
================================================================================
Valley Financial Corporation
Consolidated Statements of Cash Flows
Years Ended December 31, 2001 and 2000
(In thousands)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>



                                                                                          2001             2000
                                                                                    ---------------  ----------------

Cash flows from operating activities:

<S>                                                                                 <C>              <C>
     Net income                                                                     $         1,712  $          1,467
     Adjustments to reconcile net income to net cash
        provided by operating activities:
           Provision for loan losses                                                            301               281
           Depreciation and amortization                                                        312               259
           Deferred income tax                                                                  (94)              (73)
           Gain on sale of securities available-for-sale                                        (98)                -
           Amortization (accretion) of bond premiums/discounts, net                              18                25
           Increase (decrease) in unearned fees                                                 (29)               19
           (Increase) decrease in accrued interest receivable                                   336              (277)
           Increase in other assets                                                            (118)              (37)
           Increase (decrease) in accrued interest payable                                     (419)              489
           Increase (decrease) in other liabilities                                              56              (231)
                                                                                    ---------------  ----------------
                  Net cash provided by operating activities                                   1,977             1,922
                                                                                    ---------------  ----------------

Cash flows from investing activities:

     Net (increase) decrease in money market investments                                        (30)            5,992
     Purchases of premises and equipment                                                     (1,285)             (674)
     Purchases of securities available-for-sale                                             (28,343)           (6,952)
     Purchases of restricted equity securities                                                 (917)             (213)
     Proceeds from sales, calls and maturities of
       securities available-for-sale                                                         33,868             2,635
     Investment in life insurance contracts                                                  (2,329)                -
     Increase in loans, net                                                                 (33,108)          (23,099)
                                                                                    ---------------  ----------------
                  Net cash used in investing activities                                     (32,144)          (22,311)
                                                                                    ---------------  ----------------

Cash flows from financing activities:

     Increase in noninterest-bearing deposits                                                 7,043             2,926
     Increase in interest-bearing deposits                                                    1,949            11,471
     Federal Home Loan Bank advances                                                         20,000                 -
     Proceeds from subordinated capital note                                                      -             2,300
     Repayment of subordinated capital note                                                       -            (2,300)
     Increase in federal funds purchased and securities
       sold under agreements to repurchase                                                    3,426             2,753
     Net proceeds from issuance of common stock                                                  (4)            3,200
                                                                                    ---------------  ----------------
                  Net cash provided by financing activities                                  32,414            20,350
                                                                                    ---------------  ----------------
                  Net increase (decrease) in cash and due from banks                          2,247               (39)

Cash and due from banks at beginning of year                                                  3,988             4,027
                                                                                    ---------------  ----------------
Cash and due from banks at end of year                                              $         6,235  $          3,988
                                                                                    ===============  ================

Supplemental disclosure of cash flows information:

     Cash paid during the year for interest                                         $         7,167  $          5,816
                                                                                    ===============  ================
     Cash paid during the year for income taxes                                     $           762  $          1,019
                                                                                    ===============  ================

</TABLE>

See accompanying notes to consolidated financial statements.

                                       44

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 1.  Summary of Significant Accounting Policies

General

The accounting and reporting policies of Valley Financial Corporation ("the
Company") and Valley Bank ("the Bank") conform to generally accepted accounting
principles and to general banking industry practices. The Bank provides
traditional commercial banking services concentrated primarily in the Roanoke
Valley. The Bank does not currently offer trust services.

As a state chartered, Federal Reserve member bank, the Bank is subject to
regulation by the Virginia Bureau of Financial Institutions and the Federal
Reserve. The following is a summary of the more significant accounting policies:

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.

Business Segments

The Company reports its activities in one business segment. In determining the
appropriateness of segment definition, the Company considers the materiality of
potential business segments and components of the business about which financial
information is available and regularly evaluated relative to resource allocation
and performance assessment.

Use of Estimates

The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.

Material estimates that are particularly susceptible to significant change
relate to the determination of the allowance for loan losses and the valuation
of real estate acquired in connection with foreclosures or in satisfaction of
loans. In connection with the determination of the allowances for loan and
foreclosed real estate losses, management obtains independent appraisals for
significant properties.

Substantially all of the Bank's loan portfolio consists of loans in the Roanoke
Valley. Accordingly, the ultimate collectibility of a substantial portion of the
Bank's loan portfolio and the recovery of a substantial portion of the carrying
amount of foreclosed real estate are susceptible to changes in local market
conditions. The regional economy is reasonably diverse.

While management uses available information to recognize loan and foreclosed
real estate losses, future additions to the allowances may be necessary based on
changes in local economic conditions. In addition, regulatory agencies, as a
part of their routine examination process, periodically review the Bank's
allowances for loan and foreclosed real estate losses. Such agencies may require
the Bank to recognize additions to the allowances based on their judgments about
information available to them at the time of their examinations. Because of
these factors, it is reasonably possible that the allowances for loan and
foreclosed real estate losses may change materially in the near term.

Cash and Cash Equivalents

For the purpose of presentation in the consolidated statements of cash flows,
cash and cash equivalents are defined as those amounts included in the balance
sheet caption "cash and due from banks."

                                       45

<PAGE>

================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------



Note 1.  Summary of Significant Accounting Policies, continued

Trading Securities

The Bank does not hold securities for short-term resale and therefore does not
maintain a trading securities portfolio.

Securities Held to Maturity

Bonds, notes, and debentures for which the Bank has the positive intent and
ability to hold to maturity are reported at cost, adjusted for premiums and
discounts that are recognized in interest income using the interest method over
the period to maturity or to call dates. The Bank currently does not have any
securities held-to-maturity.

Securities Available for Sale

Available-for-sale securities are reported at fair value and consist of bonds,
notes, debentures, and certain equity securities not classified as trading
securities or as held-to-maturity securities.

Unrealized holding gains and losses, net of tax, on available-for-sale
securities are reported as a net amount in a separate component of shareholders'
equity. Realized gains and losses on the sale of available-for-sale securities
are determined using the specific-identification method. Premiums and discounts
are recognized in interest income using the interest method over the period to
maturity or to call dates.

Declines in the fair value of individual held-to-maturity and available-for-sale
securities below cost that are other than temporary are reflected as write-downs
of the individual securities to fair value. Related write-downs are included in
earnings as realized losses.

Loans Held for Sale

Mortgage loans originated and intended for sale in the secondary market are
carried at the lower of cost or estimated market value in the aggregate. Net
unrealized losses are recognized through a valuation allowance by charges to
income.

Loans Receivable

Loans receivable that management has the intent and ability to hold for the
foreseeable future or until maturity or pay-off are reported at their
outstanding principal amount adjusted for the allowance for loan losses, and any
deferred fees or costs on originated loans and unamortized premiums or discounts
on purchased loans.

Loan origination fees and costs are not capitalized and recognized as an
adjustment to the yield on the related loan as such deferrals are not material
to the Company's financial position or results of operations. Discounts and
premiums on any purchased residential real estate loans are amortized to income
using the interest method over the remaining period to contractual maturity,
adjusted for anticipated prepayments. Discounts and premiums on any purchased
consumer loans are recognized over the expected lives of the loans using methods
that approximate the interest method.

Interest is accrued and credited to income based on the principal amount
outstanding. The accrual of interest on impaired loans is discontinued when, in
management's opinion, the borrower may be unable to meet payments as they become
due. When interest accrual is discontinued, all unpaid accrued interest is
reversed. Interest income is subsequently recognized only to the extent cash
payments are received.

                               46

<PAGE>

================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------



Note 1.  Summary of Significant Accounting Policies, continued

Allowance for Loan Losses

The allowance for loan losses is established as losses are estimated to have
occurred through a provision for loan losses charged to earnings. Loan losses
are charged against the allowance when management believes the uncollectability
of a loan balance is confirmed. Subsequent recoveries, if any, are credited to
the allowance.

The allowance for loan losses is evaluated on a regular basis by management and
is based upon management's periodic review of the collectibility of the loans in
light of historical experience, the nature and volume of the loan portfolio,
adverse situations that may affect the borrower's ability to repay, estimated
value of any underlying collateral and prevailing economic conditions. This
evaluation is inherently subjective as it requires estimates that are
susceptible to significant revision as more information becomes available.

A loan is considered impaired when, based on current information and events, it
is probable that the Bank 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 the loan's
effective interest rate, the loan's obtainable market price, or the fair value
of the collateral if the loan is collateral dependent.

Large groups of smaller balance homogeneous loans are collectively evaluated for
impairment. Accordingly, the Bank does not separately identify individual
consumer and residential loans for impairment disclosures.

Loan Servicing

The Bank has previously acquired mortgage servicing rights through origination
of mortgage loans and subsequent sale of those loans with servicing rights
retained. Management has determined that it is not practicable to estimate the
relative fair values of the mortgage servicing rights. Accordingly, the entire
cost of originating the mortgage loans has been allocated to the loans and
mortgage servicing rights are not reflected as assets in the consolidated
balance sheets.

Property and Equipment

Land is carried at cost. Bank premises, furniture and equipment, and leasehold
improvements are carried at cost, less accumulated depreciation and amortization
computed principally by the straight-line method over the following estimated
useful lives:

                                                                           Years

                               Buildings and improvements                     30
                               Furniture and equipment                      3-10
                               Land and lease hold improvements             3-15


                                47

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 1.  Summary of Significant Accounting Policies, continued

Foreclosed Properties

Real estate properties acquired through, or in lieu of, loan foreclosure are to
be sold and are initially recorded at fair value less anticipated cost to sell
at the date of foreclosure establishing a new cost basis. After foreclosure,
valuations are periodically performed by management and the real estate is
carried at the lower of carrying amount or fair value less cost to sell. Revenue
and expenses from operations and changes in the valuation allowance are included
in loss on foreclosed real estate.

Stock-based Compensation

The Company accounts for its stock-based compensation plans using the accounting
prescribed by Accounting Principles Board Opinion No. 25, Accounting for Stock
Issued to Employees. The Company is not required to adopt the fair value based
recognition provisions prescribed under SFAS No. 123, Accounting for Stock-Based
Compensation (issued in October 1995), but complies with the disclosure
requirements set forth in the Statement, which include disclosing pro forma net
income as if the fair value based method of accounting had been applied.

Transfers of Financial Assets

Transfers of financial assets are accounted for as sales, when control over the
assets has been surrendered. Control over transferred assets is deemed to be
surrendered when (1) the assets have been isolated from the Bank, (2) the
transferee obtains the right (free of conditions that constrain it from taking
advantage of that right) to pledge or exchange the transferred assets, and (3)
the Bank does not maintain effective control over the transferred assets through
an agreement to repurchase them before their maturity.

Income Taxes

Provision for income taxes is based on amounts reported in the statements of
income (after exclusion of non-taxable income such as interest on state and
municipal securities) and consists of taxes currently due plus deferred taxes on
temporary differences in the recognition of income and expense for tax and
financial statement purposes. Deferred tax assets and liabilities are included
in the financial statements at currently enacted income tax rates applicable to
the period in which the deferred tax assets or liabilities are expected to be
realized or settled. As changes in tax laws or rates are enacted, deferred taxes
assets and liabilities are adjusted through the provision for income taxes.

Deferred income tax liability relating to unrealized appreciation (or the
deferred tax asset in the case of unrealized depreciation) on investment
securities available for sale is recorded in other liabilities (assets). Such
unrealized appreciation or depreciation is recorded as an adjustment to equity
in the financial statements and not included in income determination until
realized. Accordingly, the resulting deferred income tax liability or asset is
also recorded as an adjustment to equity.

Basic Earnings per Share

Basic earnings per share is computed by dividing income available to common
shareholders by the weighted average number of common shares outstanding during
the period, after giving retroactive effect to stock splits and dividends.

                                       48

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 1.  Summary of Significant Accounting Policies, continued

Diluted Earnings per Share

The computation of diluted earnings per share is similar to the computation of
basic earnings per share except that the denominator is increased to include the
number of additional common shares that would have been outstanding if dilutive
potential common shares had been issued. The numerator is adjusted for any
changes in income or loss that would result from the assumed conversion of those
potential common shares.

Comprehensive Income

Annual comprehensive income reflects the change in the Company's equity during
the year arising from transactions and events other than investments by and
distributions to shareholders. It consists of net income plus certain other
changes in assets and liabilities that are reported as separate components of
shareholders' equity rather than as income or expense.

Financial Instruments

Derivatives that are used as part of the asset/liability management process are
linked to specific assets or liabilities and have high correlation between the
contract and the underlying item being hedged, both at inception and throughout
the hedge period. In addition, forwards and option contracts must reduce an
exposure's risk, and for hedges of anticipatory transactions, the significant
terms and characteristics of the transaction must be identified and the
transactions must be probable of occurring. All derivative financial instruments
held or issued by the Company are held or issued for purposes other than
trading.

In the ordinary course of business the Bank has entered into off-balance-sheet
financial instruments consisting of commitments to extend credit and commercial
and standby letters of credit. Such financial instruments are recorded in the
financial statements when they are funded or related fees are incurred or
received.

Fair Value of Financial Instruments

Statement of Financial Accounting Standards No. 107, Disclosures about Fair
Value of 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.
Statement No. 107 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 cash equivalents: The carrying amounts reported in the balance sheet
for cash and cash equivalents approximate their fair values.

                                       49

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 1.  Summary of Significant Accounting Policies, continued

Fair Value of Financial Instruments, continued

Interest-bearing deposits with banks: Fair values for time deposits are
estimated using a discounted cash flow analysis that applies interest rates
currently being offered on certificates to a schedule of aggregated contractual
maturities on such time deposits.

Available-for-sale and held-to-maturity 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.

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.

Short-term debt: The carrying amounts of short-term debt approximate their fair
values.

Other debt: The fair values of other debt is estimated using a discounted cash
flow calculation that applies contracted interest rates being paid on the debt
to the current market interest rated of similar debt.

Other liabilities: For fixed-rate loan commitments, fair value considers the
difference between current levels of interest rates and the committed rates. The
carrying amounts of other liabilities approximates fair value as the estimated
value of loan commitments approximates the fees charged.

Reclassification

Certain reclassifications have been made to the prior years' financial
statements to place them on a comparable basis with the current year. Net income
and shareholders' equity previously reported were not affected by these
reclassifications.

Note 2.  Restrictions on Cash

To comply with Federal Reserve regulations, the Bank will be required to
maintain certain average reserve balances. The daily cash reserve requirement
for the week including December 31, 2001 was $2,200.

                                       50

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 3.  Securities

The amortized costs, gross unrealized gains and losses, and approximate fair
values of securities available-for-sale as of December 31, 2001 and 2000 were as
follows:
<TABLE>
<CAPTION>

                                                                                   2001
                                                      -------------------------------------------------------------
<S>                                                          <C>            <C>           <C>              <C>

                                                         Amortized      Unrealized      Unrealized        Fair
                                                            Costs          Gains          Losses         Values
                                                       --------------  -------------  -------------  --------------

U.S. Treasury                                          $          198  $           7  $           -  $          205
U.S. Government agencies and corporations                       3,174              3             54           3,123
Mortgage-backed securities                                     22,528            109            158          22,479
States and political subdivisions                               4,796             26             88           4,734
Corporate obligations                                             800              -              3             797
Restricted equity securities                                    1,927              -              -           1,927
                                                       --------------  -------------  -------------  --------------
                                                       $       33,423  $         145  $         303  $       33,265
                                                       ==============  =============  =============  ==============


                                                                                   2000
                                                      -------------------------------------------------------------

                                                         Amortized      Unrealized      Unrealized        Fair
                                                            Costs          Gains          Losses         Values
                                                       --------------  -------------  -------------  --------------

U.S. Treasury                                          $          200  $           -  $           -  $          200
U.S. Government agencies and corporations                      22,657              -            140          22,517
Mortgage-backed securities                                      3,820              2              -           3,822
States and political subdivisions                               8,655             69              -           8,724
Corporate obligations                                           1,409              2              -           1,411
Other equity securities                                           200              -              1             199
Restricted equity securities                                    1,010              -              -           1,010
                                                       --------------  -------------  -------------  --------------
                                                       $       37,951  $          73  $         141  $       37,883
                                                       ==============  =============  =============  ==============
</TABLE>

The amortized costs and approximate fair values of available-for-sale securities
as of December 31, 2001, by contractual maturity, are shown below. Expected
maturities may differ from contractual maturities because borrowers may have the
right to call or prepay obligations with or without call or prepayment
penalties.
<TABLE>
<CAPTION>

                                                                                         Amortized        Fair
                                                                                           Costs         Values
                                                                                      -------------  --------------

<S>                                                                                   <C>            <C>
Due in one year or less                                                               $         800  $          797
Due after one year through five years                                                           423             435
Due after five years through ten years                                                        2,753           2,715
Due after ten years                                                                           4,992           4,912
Mortgage-backed securities                                                                   22,528          22,479
Restricted equity securities                                                                  1,927           1,927
                                                                                      -------------  --------------
                                                                                      $      33,423  $       33,265
                                                                                      =============  ==============
</TABLE>

Securities with amortized costs of $19,230 and $18,773 as of December 31, 2001
and 2000, respectively, were pledged as collateral for public deposits and for
other purposes as required or permitted by law.

The Federal Home Loan Bank stock of $1,500 included in restricted equity
securities is carried at cost and collateralizes lines of credit available from
the Federal Home Loan Bank.

                                       51

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 4.  Loans Receivable

The major components of loans in the consolidated balance sheets at December 31,
2001 and 2000 are as follows (in thousands):
<TABLE>
<CAPTION>

                                                                                        2001              2000
                                                                                    -------------    --------------

<S>                                                                                 <C>              <C>
Commercial                                                                          $      35,366    $       30,070
Real estate:
   Construction and land development                                                        9,005             5,879
   Residential, 1-4 families                                                               21,482            18,926
   Commercial                                                                              60,290            43,146
Consumer                                                                                   21,430            16,467
                                                                                    -------------    --------------
                                                                                          147,573           114,488

Unearned loan origination costs, net of fees                                                  (22)              (51)
Allowance for loan losses                                                                  (1,468)           (1,190)
                                                                                    -------------    --------------
                                                                                    $     146,083    $      113,247
                                                                                    =============    ==============
</TABLE>

Substantially all one-four family residential and commercial real estate loans
collateralize the line of credit available from the Federal Home Loan Bank.

Note 5.  Allowance for Loan Losses

Changes in the allowance for loan losses are as follows:
<TABLE>
<CAPTION>

                                                                                        2001              2000
                                                                                    -------------    --------------

<S>                                                                                 <C>              <C>
Balance, beginning                                                                  $       1,190    $          910

Provision charged to expense                                                                  301               281
Recoveries of amounts charged off                                                               -                 -
Amounts charged off                                                                           (23)               (1)
                                                                                    -------------    --------------
Balance, ending                                                                     $       1,468    $        1,190
                                                                                    =============    ==============
</TABLE>

An allowance determined in accordance with SFAS No. 114 and No. 118 is provided
for all impaired loans. The total recorded investment in impaired loans and the
related allowance for loan losses at December 31, 2001 and 2000 is as follows:
<TABLE>
<CAPTION>

                                                                                        2001              2000
                                                                                    -------------    --------------

<S>                                                                                 <C>              <C>
Impaired loans without a valuation allowance                                        $         466    $          749
Impaired loans with a valuation allowance                                                      73               102
                                                                                    -------------    --------------
          Total impaired loans                                                      $         539    $          851
                                                                                    =============    ==============

Valuation allowance related to impaired loans                                       $          30    $           55

                                                                                    =============    ==============

</TABLE>

                                       52

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 5.  Allowance for Loan Losses, continued

The average annual recorded investment in impaired loans and interest income
recognized on impaired loans for the years ended December 31, 2001 and 2000 (all
approximate) is summarized below:
<TABLE>
<CAPTION>

                                                                                        2001              2000
                                                                                    -------------    --------------

<S>                                                                                 <C>              <C>
Average investment in impaired loans                                                $         779    $        1,160
                                                                                    =============    ==============
Interest income recognized on impaired loans                                        $          43    $           50
                                                                                    =============    ==============
Interest income recognized on a cash basis on impaired loans                        $          43    $           50
                                                                                    =============    ==============
</TABLE>

No additional funds are committed to be advanced in connection with impaired
loans.

Note 6.  Premises and Equipment

Components of premises and equipment and total accumulated depreciation and
amortization as of December 31, 2001 and 2000 are as follows:
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------

<S>                                                                                   <C>            <C>
Land and improvements                                                                 $         953  $          654
Building                                                                                      1,697           1,260
Furniture, fixtures and equipment                                                             1,508           1,226
Leasehold improvements                                                                          348             346
Construction in progress                                                                        747             516
                                                                                      -------------  --------------
                                                                                              5,253           4,002

Less accumulated depreciation and amortization                                               (1,169)           (927)
                                                                                      -------------  --------------
                                                                                      $       4,084  $        3,075
                                                                                      =============  ==============
</TABLE>

The Company currently leases its main office location under a non-cancelable
operating lease. The lease for the main office has an original term of five
years with the option of two additional renewal terms of five years each. In
addition, the Company has entered into a lease for a branch location. Rental
expenses under operating leases were approximately $165 and $134 for 2001 and
2000, respectively. Future minimum lease payments under non-cancelable operating
leases at December 31, 2001 were as follows:
<TABLE>
<CAPTION>

<S>                        <C>                                                        <C>
                           2002                                                       $         165
                           2003                                                                 166
                           2004                                                                 166
                           2005                                                                  14
                           2006                                                                  14
                           Subsequent years                                                      30
                                                                                      -------------
                                                                                      $         555
                                                                                      =============
</TABLE>

                                       53

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 7.  Time Deposits

The aggregate amount of time deposits in denominations of $100,000 or more at
December 31, 2001 and 2000 was $25,591 and $16,668, respectively. At December
31, 2001 the approximate scheduled maturities of time deposits are as follows:
<TABLE>
<CAPTION>

                            <S>                                                              <C>
                           Three months or less                                       $      19,936
                           Four to twelve months                                             46,526
                           One to three years                                                 9,675
                           Over three years                                                   1,802
                                                                                      -------------
                                                                                      $      77,939
                                                                                      =============
</TABLE>

Note 8.  Other Borrowed Funds

Short-term debt

Short-term debt consists of securities sold under agreements to repurchase and
federal funds purchased, which generally mature within one to seven days from
the transaction date. Additional information is summarized below:
<TABLE>
<CAPTION>

                                                                                       2001              2000
                                                                                  ---------------  ----------------

<S>                                                                               <C>              <C>
Outstanding balance at December 31                                                $         7,171  $          3,745
                                                                                  ===============  ================
Year-end weighted average rate                                                              1.59%             5.60%
                                                                                  ===============  ================
Daily average outstanding during the period                                       $         6,168  $          5,911
                                                                                  ===============  ================
Average rate for the period                                                                 3.39%             5.66%
                                                                                  ===============  ================
Maximum outstanding at any month-end during the period                            $       10,555   $        10,217
                                                                                  ==============   ================
</TABLE>

Long-term debt

At December 31, 2001 and 2000, long-term debt was $30,000 and $10,000,
respectively and consisted of advances from the Federal Home Loan Bank. These
advances are convertible to a floating rate of three month LIBOR by the FHLB on
the dates indicated. The weighted average rate at December 31, 2001 is 4.11%.

Details related to long-term debt at December 31, 2001 is as follows:
<TABLE>
<CAPTION>

                                                                      FHLB
                                                  Maturity         Conversion        Interest           Advance
                                                    Date              Date             Rate             Amount
                                               ---------------  ----------------  ---------------  ----------------

<S>                                                 <C>                 <C>             <C>            <C>
                                                    2002            Quarterly          1.93        $         10,000
                                                    2009            Quarterly          5.46                   5,000
                                                    2010            Quarterly          6.49                   5,000
                                                    2011          Feb. 9, 2004         4.97                   5,000
                                                    2011          Nov. 7, 2006         3.91                   5,000
                                                                                                   ----------------
                                                                                                   $         30,000
                                                                                                   ================
</TABLE>

                                       54

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 9.  Fair Value of Financial Instruments

The carrying amounts and approximate fair values of the Corporation's financial
instruments are as follows at December 31, 2001 and 2000:
<TABLE>
<CAPTION>

                                                                   2001                          2000
                                                       -----------------------------  -----------------------------
                                                                       Approximate    Approximate
                                                          Carrying         Fair          Carrying         Fair
                                                           Amounts        Values          Amounts        Values
                                                       --------------  -------------  -------------  --------------

<S>                                                     <C>             <C>             <C>             <C>
Financial assets

    Cash and due from banks                            $        6,235  $       6,235  $       3,988  $        3,988
    Money market investments                                      143            143            113             113
    Securities available-for-sale                              31,338         31,338         36,873          36,873
    Restricted equity securities                                1,927          1,927          1,010           1,010
    Loans, net                                                146,083        149,373        113,247         111,569

Financial liabilities

    Deposits                                                  138,866        139,873        129,874         130,388
    Federal Home Loan Bank advances                            30,000         31,286         10,000          10,000
    Other borrowings                                            7,171          7,171          3,745           3,745

Off-balance-sheet assets (liabilities)
    Commitments to extend credit and
      standby letters of credit                                     -              -              -               -
</TABLE>

10. Earnings per Share

The following table details the computation of basic and diluted earnings per
share for each year ended December 31.

<TABLE>
<CAPTION>

                                                                                                           Per
                                                                            Net                           Share
                                                                          Income          Shares         Amount
                                                                       -------------     ----------  --------------

<S>                                                                     <C>               <C>         <C>
Year Ended December 31, 2001

     Basic net income per share                                        $       1,712      1,213,207  $         1.41
                                                                                                     ==============
     Effect of dilutive stock options                                              -         32,179
                                                                       -------------  -------------
     Diluted net income per share                                      $       1,712      1,245,386  $         1.37
                                                                       =============  =============  ==============

Year Ended December 31, 2000

     Basic net income per share                                        $       1,467      1,037,797  $         1.41
                                                                                                     ==============
     Effect of dilutive stock options                                              -         45,825
                                                                       -------------  -------------
     Diluted net income per share                                      $       1,467      1,083,622  $         1.35
                                                                       =============  =============  ==============
</TABLE>


                                       55

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 11.  Employee Benefit Plan

The Corporation has a defined contribution plan (the Plan) qualifying under IRS
Code Section 401(k). Eligible participants in the Plan can contribute up to 15
percent of their total annual compensation to the Plan. Employee contributions
are matched by the Corporation based on 75 percent of the employee's
contribution up to a total of six percent of the employee's salary. For the
years ended December 31, 2001, and 2000 the Corporation contributed $54 and $47
to the Plan, respectively.

Note 12.  Stock Options

The Company has an Incentive Stock Plan (the Plan) pursuant to which the Human
Resources Committee of the Company's Board of Directors may grant stock options
to officers and key employees. The Plan authorizes grants of options to purchase
up to 103,950 shares (adjusted for stock split) of the Company's authorized, but
unissued common stock. Accordingly, 103,950 shares of authorized, but unissued
common stock are reserved for use in the Plan. All stock options have been
granted with an exercise price equal to the stock's fair market value at the
date of grant. Stock options generally have 10-year terms, vest at the rate of
20 percent per year, and become fully exercisable five years from the date of
grant. In addition, certain options for 60,732 shares (adjusted for stock split)
based on meeting certain performance criteria have been granted to executive
officers.

The per share weighted average fair value of stock options granted during 2001
was $4.29, on the date of grant utilizing the Black-Scholes option-pricing model
using the assumptions noted below. There were no stock options granted during
2000.
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------

<S>                                                                                             <C>             <C>
Expected split yield                                                                             -              N/A
Risk-free interest rate                                                                       3.25%             N/A
Expected life of options (in years)                                                              10             N/A
Expected volatility of stock price                                                             .45%             N/A
</TABLE>

As previously mentioned, the Company applies APB Opinion No. 25 in accounting
for its Plan and, accordingly, no compensation cost has been recognized for its
stock options in the consolidated financial statements. Had the Company
determined compensation cost based on the fair value of its stock options at the
grant date under SFAS No. 123, the Company's net income and net income per share
would have decreased to the pro forma amounts indicated below:

                                       56

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 12.  Stock Options, continued
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------
<S>                                                                                     <C>           <C>
Net income:
   As reported                                                                        $       1,712  $        1,467
   Pro forma                                                                          $       1,605  $        1,415

Basic net income per share:
   As reported                                                                        $        1.41  $         1.41
   Pro forma                                                                          $        1.32  $         1.36

Diluted net income per share:
   As reported                                                                        $        1.37  $         1.35
   Pro forma                                                                          $        1.29  $         1.31
</TABLE>

Stock option activity during the years ended December 31, 2001 and 2000
(adjusted for stock split) is as follows:
<TABLE>
<CAPTION>

                                                                                                        Exercise
                                                                                          Shares         Prices
                                                                                        -----------  ------------

<S>                                                                                        <C>         <C>
Balance at December 31, 1999                                                            $   119,795  $      11.29

Granted                                                                                           -              -
Exercised                                                                                         -              -
Expired/forfeited                                                                                 -              -
                                                                                      -------------  -------------
Balance at December 31, 2000                                                                119,795          11.29

Granted                                                                                      12,000          15.58
Exercised                                                                                         -              -
Expired/forfeited                                                                                 -              -
                                                                                      -------------  -------------
Balance at December 31, 2001                                                           $    131,795   $      11.68
                                                                                      =============  =============
</TABLE>

At December 31, 2001, the range of exercise prices was $8.33 - $16.67 and the
weighted average remaining contractual life of outstanding options was 6.1 years
(adjusted for stock split). The grant date fair value of options issued in 2001
is $51,534.

At December 31, 2000, the range of exercise prices and weighted average
remaining contractual life of outstanding options was $8.33 - $16.67 and 6.8
years, respectively (adjusted for stock split).

At December 31, 2001 and 2000, the number of options exercisable was 96,905 and
86,299, respectively, and the weighted average exercise price of those options
was $10.40 and $10.02, respectively (adjusted for stock split). There was no
compensation cost recognized in income related to stock-based compensation on
2001 or 2000.

                                       57

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 13.  Income Taxes

Current and Deferred Income Tax Components

Total income tax expense (benefit) for the years ended December 31, 2001 and
2000 consists of the following:
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------

<S>                                                                                   <C>            <C>
Current                                                                               $         832  $          674
Deferred                                                                                        (94)            (73)
                                                                                      -------------  --------------
                                                                                      $         738  $          601
                                                                                      =============  ==============
</TABLE>

Rate Reconciliation

Total income tax expense (benefit) differed from the "expected" amount computed
by applying the U.S. Federal income tax rate of 34 percent to income before
income taxes as a result of the following:
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------

<S>                                                                                   <C>            <C>
Tax at statutory federal rate                                                         $         833  $          703
Tax-exempt interest income                                                                     (111)           (132)
Tax-exempt interest disallowance                                                                 17              25
Other                                                                                            (1)              5
                                                                                      -------------  --------------
                                                                                      $         738  $          601
                                                                                      =============  ==============
</TABLE>

Deferred Income Tax Analysis

The tax effects of temporary differences that give rise to significant portions
of the deferred tax assets and deferred tax liabilities at December 31, 2001 and
2000 are as follows:
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------

Deferred tax assets:

<S>                                                                                   <C>            <C>
   Net unrealized losses on available-for-sale securities                             $          54  $           23
   Allowance for loan losses                                                                    465             371
   Depreciation                                                                                   7               5
                                                                                      -------------  --------------
       Total deferred tax assets                                                                526             399
                                                                                      -------------  --------------

Deferred tax liabilities:

   Accretion of bond discount                                                                    (7)             (5)
                                                                                      -------------  --------------
       Net deferred tax assets                                                        $         519  $          394
                                                                                      =============  ==============
</TABLE>


                                       58

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 14.  Commitments and Contingencies

Concentrations of Credit Risk

The Bank grants commercial, residential and consumer loans to customers
primarily in the Roanoke Valley area. The Bank has a diversified loan portfolio
which is not dependent upon any particular economic or industry sector. As a
whole, the portfolio could be affected by general economic conditions in the
Roanoke Valley region.

A detailed composition of the Bank's loan portfolio is provided in the
consolidated financial statements. The Bank's commercial loan portfolio is
diversified, with no significant concentrations of credit. Commercial real
estate loans are generally collateralized by the related property. The
residential real estate loan portfolio consists principally of loans
collateralized by 1-4 family residential property. The loans to individuals
portfolio consists of consumer loans primarily for home improvements,
automobiles, personal property and other consumer purposes. These loans are
generally collateralized by the related property. Overall, the Bank's loan
portfolio is not concentrated within a single industry or group of industries,
the loss of any one or more of which would generate a materially adverse impact
on the business of the Bank.

The Bank has established operating policies relating to the credit process and
collateral in loan originations. Loans to purchase real and personal property
are generally collateralized by the related property. Credit approval is
principally a function of collateral and the evaluation of the creditworthiness
of the borrower based on available financial information.

Litigation

In the normal course of business the Bank is involved in various legal
proceedings. After consultation with legal counsel, management believes that any
liability resulting from such proceedings will not be material to the financial
statements.

Financial Instruments with Off-Balance-Sheet Risk

The Bank is a party to financial instruments with off-balance-sheet risk in the
normal course of business to meet the financing needs of its customers. These
financial instruments include commitments to extend credit and standby letters
of credit. These instruments may involve, to varying degrees, credit risk in
excess of the amount recognized in the balance sheets. The contract amounts of
these instruments reflect the extent of involvement the Bank has in particular
classes of financial instruments.

Credit risk is defined as the possibility of sustaining a loss because the other
parties to a financial instrument fail to perform in accordance with the terms
of the contract. The Bank's maximum exposure to credit loss under commitments to
extend credit and standby letters of credit is represented by the contractual
amount of these instruments. The Bank uses the same credit policies in making
commitments and conditional obligations as it does for on-balance-sheet
instruments.

                                       59

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 14.  Commitments and Contingencies, continued

The Bank requires collateral to support financial instruments when it is deemed
necessary. The Bank evaluates customers' creditworthiness on a case-by-case
basis. The amount of collateral obtained upon extension of credit is based on
management's credit evaluation of the customer. Collateral may include deposits
held in financial institutions, U.S. Treasury securities, other marketable
securities, real estate, accounts receivable, inventory, and property, plant and
equipment. Financial instruments whose contract amounts represent credit risk as
of December 31 are as follows:
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------

<S>                                                                                   <C>            <C>
                 Commitments to extend credit                                         $      42,688  $       32,166
                 Standby letters of credit                                                    6,120             643
                                                                                      -------------  --------------
                                                                                      $      48,808  $       32,809
                                                                                      =============  ==============
</TABLE>

Commitments to extend credit are agreements to lend to a customer 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. Commitments may be at fixed or variable rates and
generally expire within one year. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements.

Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third party. These guarantees are
primarily issued to support public and private borrowing arrangements, including
bond financing and similar transactions. Unless renewed, substantially all of
the Bank's credit commitments at December 31, 2001 will expire within one year.
Management does not anticipate any material losses as a result of these
transactions. The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loans to customers.

Note 15.  Regulatory Restrictions

Dividends

The Company's principal source of funds for dividend payments is dividends
received from the Bank. The amount of dividends that may be paid by the Bank to
the Company will depend on the Bank's earnings and capital position and is
limited by state law, regulations and policies. A state bank may not pay
dividends from its capital; all dividends must be paid out of net undivided
profits then on hand. Before any dividend is declared, any deficit in capital
funds originally paid in shall have been restored by earnings to their initial
level, and no dividend shall be declared or paid by any bank which would impair
the paid-in-capital of the bank. As of December 31, 2001 and 2000, the amount
available for payment of dividends was $4,113 and $2,401, respectively.

Capital Requirements

The Company and the Bank are subject to various regulatory capital requirements
administered by the federal and state banking agencies. Failure to meet minimum
capital requirements can initiate certain mandatory and possibly additional
discretionary actions by regulators that, if undertaken, could have a direct
material effect on the Company's consolidated financial statements. Under
capital adequacy guidelines and the regulatory framework for prompt corrective
action, the Company and the Bank must meet specific capital guidelines that
involve quantitative measures of their assets, liabilities and certain
off-balance-sheet items as calculated under regulatory accounting practices. The
Company's and the Bank's capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings and
other factors.

                                       60

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 15.  Regulatory Restrictions, continued

Capital Requirements, continued

Quantitative measures established by regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios (set
forth in the table below) of total and Tier I capital (as defined in the
regulations) to risk-weighted assets (as defined), and of Tier I capital (as
defined) to average assets (as defined). Management believes, as of December 31,
2001 and 2000, that the Company and the Bank meet all capital adequacy
requirements to which they are subject.

As of December 31, 2001 and 2000, the Company and the Bank were categorized as
well capitalized as defined by applicable regulations. To be categorized as well
capitalized the Company and Bank must maintain minimum total risk-based, Tier I
risk-based and Tier I leverage ratios as set forth in the table below. There are
no conditions or events since that date that management believes have changed
the Company's or the Bank's category.

The Company's and the Bank's actual capital amounts and ratios are also
presented in the table below.
<TABLE>
<CAPTION>

                                                                                                      Minimum
                                                                                                     To Be Well
                                                                           Minimum                Capitalized Under
                                                                           Capital                Prompt Corrective
                                                 Actual                    Required               Action Provisions
                                             ---------------        ----------------------      ---------------------
                                             Amount    Ratio        Amount           Ratio      Amount          Ratio
                                             ------    -----        ------           -----      ------          -----

As of December 31, 2001:

<S>                                     <C>             <C>             <C>          <C>    <C>                 <C>
    Total Capital
     (to Risk Weighted Assets):

        Consolidated                   $    17,876     11.07%   $   12,923           8.0%   $     n/a             n/a
        Valley Bank                         17,668     10.94%       12,916           8.0%      16,145           10.0%
    Tier I Capital
     (to Risk Weighted Assets):

        Consolidated                        16,408     10.16%        6,462           4.0%         n/a             n/a
        Valley Bank                         16,200     10.03%        6,458           4.0%       9,687            6.0%
    Tier I Capital (Leverage)
     (to Average Assets):
        Consolidated                        16,408      9.05%        7,248           4.0%         n/a             n/a
        Valley Bank                         16,200      8.95%        7,241           4.0%       9,051            5.0%

As of December 31, 2000:

    Total Capital
     (to Risk Weighted Assets):

        Consolidated                   $    15,888     12.64%   $   10,056           8.0%   $     n/a             n/a
        Valley Bank                         13,460     10.88%        9,901           8.0%      12,376           10.0%
    Tier I Capital
     (to Risk Weighted Assets):

        Consolidated                        14,698     11.69%        5,028           4.0%         n/a             n/a
        Valley Bank                         12,270      9.91%        4,950           4.0%       7,426            6.0%
    Tier I Capital (Leverage)
     (to Average Assets):
        Consolidated                        14,698      9.30%        6,320           4.0%         n/a             n/a
        Valley Bank                         12,270      7.86%        6,248           4.0%       7,810            5.0%
</TABLE>


                                       61

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 15.  Regulatory Restrictions, continued

Inter-company transactions

Legal lending limits on loans by the Bank to the Company are governed by Federal
Reserve Act 23A, and differ from legal lending limits on loans to external
customers. Generally, a bank may lend up to 10% of its capital and surplus to
its parent, if the loan is secured. If collateral is in the form of stocks,
bonds, debentures or similar obligations, it must have a market value when the
loan is made of at least 20% more than the amount of the loan, and if
obligations of a state or political subdivision or agency thereof, it must have
a market value of at least 10% more than the amount of the loan. If such loans
are secured by obligations of the United States or agencies thereof, or by
notes, drafts, bills of exchange or bankers' acceptances eligible for rediscount
or purchase by a Federal Reserve Bank, requirements for collateral in excess of
loan amount do not apply. Under this definition, the legal lending limit for the
Bank on loans to the Company was approximately $1.6 million at December 31,
2001. There were no loans from the Bank to the Company at December 31, 2001.

Note 16.  Related Party Transactions

The Bank has entered into transactions with its directors, significant
shareholders and their affiliates (related parties). Such transactions were made
in the ordinary course of business on substantially the same terms and
conditions, including interest rates and collateral, as those prevailing at the
same time for comparable transactions with other customers, and did not, in the
opinion of management, involve more than normal credit risk or present other
unfavorable features.

Loans

Aggregate 2001 and 2000 loan transactions with related parties were as follows:
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------

<S>                                                                                   <C>            <C>
Balances at beginning of year                                                         $       4,480  $        4,427

Advances                                                                                      1,742           1,595
Repayments                                                                                   (1,107)         (1,542)
                                                                                      -------------  --------------
Balances at end of year                                                               $       5,115  $        4,480
                                                                                      =============  ==============
</TABLE>


                                       62

<PAGE>
================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 17.  Parent Company Financial Information

Condensed financial information of Valley Financial Corporation is presented
below:


                            Condensed Balance Sheets
                           December 31, 2001 and 2000
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------
<S>                                                                                     <C>                 <C>
        Assets

        Cash                                                                          $         122  $          161
        Securities available-for-sale                                                             -           2,221
        Investment in subsidiary, at equity                                                  16,096          12,219
        Other assets                                                                             86             496
                                                                                      -------------  --------------
                  Total assets                                                        $      16,304  $       15,097
                                                                                      =============  ==============

        Liabilities                                                                   $           -  $          442
                                                                                      -------------  --------------

        Commitments and other matters                                                             -

        Shareholders' equity:

             Preferred stock, no par value.  Authorized 10,000,000 shares;
               none issued and outstanding                                                        -               -
             Common stock no par value.  Authorized 10,000,000 shares;
               issued and outstanding 1,213,207 shares and 1,213,207
               shares in 2001 and 2000, respectively                                         12,295          12,299
             Retained earnings                                                                4,113           2,401
             Accumulated other comprehensive loss                                              (104)            (45)
                                                                                      -------------  --------------
                  Total shareholders' equity                                                 16,304          14,655
                                                                                      -------------  --------------
                  Total liabilities and shareholders' equity                          $      16,304  $       15,097
                                                                                      =============  ==============
</TABLE>


                         Condensed Statements of Income
                     Years Ended December 31, 2001 and 2000
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------
        Income:

<S>                                                                                   <C>            <C>
             Interest income                                                          $          88  $           86
             Dividends from subsidiary                                                            -              48
             Other income                                                                        18               -
                                                                                     --------------  --------------
                                                                                                106             134

        Expenses:

             Interest expense                                                                    36              94
             Other expenses                                                                      55              52
                                                                                      -------------  --------------
                                                                                                 91             146
                                                                                      -------------  --------------
             Income (loss) before income taxes and equity in
              undistributed net income of subsidiary                                             15             (12)
        Income tax (expense) benefit                                                             (4)              8
                                                                                      -------------  --------------
             Income (loss) before equity in undistributed
              net income of subsidiary                                                           11              (4)
             Equity in net income of subsidiary                                               1,701           1,471
                                                                                      -------------  --------------
             Net income                                                               $       1,712  $        1,467
                                                                                      =============  ==============
</TABLE>


                                       63

<PAGE>

================================================================================
Valley Financial Corporation
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(In thousands, except share and per share data)
--------------------------------------------------------------------------------

Note 17.  Parent Company Financial Information, continued

                       Condensed Statements of Cash Flows
                     Years Ended December 31, 2001 and 2000
<TABLE>
<CAPTION>

                                                                                           2001           2000
                                                                                      -------------  --------------
<S>                                                                                     <C>            <C>
        Cash flows from operating activities:

             Net income                                                               $       1,712  $        1,467
             Adjustments to reconcile net income to net
              cash (used in) operating activities:
                  Equity in net income of subsidiary                                         (1,701)         (1,471)
                  Amortization of bond premiums                                                   2               4
                  (Increase) decrease in other assets                                           410            (199)
                  Decrease in other liabilities                                                (442)            (75)
                                                                                      -------------  --------------
                         Net cash (used in) operating activities                                (19)           (274)
                                                                                      -------------  --------------

        Cash flows from investing activities:

             Purchases of securities available-for-sale                                           -          (1,815)
             Investment in subsidiary                                                           (16)         (1,019)
                                                                                      -------------  --------------
                         Net cash used in investing activities                                  (16)         (2,834)
                                                                                      -------------  --------------

        Cash flows from financing activities:

             Net proceeds from issuance of common stock                                          (4)          3,200
                                                                                      -------------  --------------
                         Net cash provided by  (used in) financing activities                    (4)          3,200
                                                                                      -------------  --------------
                         Net increase (decrease) in cash                                        (39)             92

        Cash at beginning of year                                                               161              69
                                                                                      -------------  --------------
        Cash at end of year                                                           $         122  $          161
                                                                                      =============  ==============
</TABLE>

                                       64

<PAGE>

Item 8. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure.

None.

                                    PART III.

Item 9. Directors, Executive Officers, Promoters and Control Persons; Compliance
with Section 16(a) of the Exchange Act.

The information required by Item 401 of Regulation S-B is set forth under the
caption "Information Concerning Directors and Nominees" on pages 3-6 of the
Company's Proxy Statement dated March 20, 2002 and is incorporated herein by
reference.

The information required by Item 405 of Regulation S-B is set forth under the
caption "Section 16(a) Beneficial Ownership Reporting Compliance" on page 8 of
the Company's Proxy Statement dated March 20, 2002 and is incorporated herein by
reference.

Item 10. Executive Compensation.

The information required by Item 402 of Regulation S-B is set forth under the
caption "Executive Compensation" on pages 9-11 of the Company's Proxy Statement
dated March 20, 2002 and is incorporated herein by reference.

Item 11. Security Ownership of Certain Beneficial Owners and Management.

The information required by item 403 of Regulation S-B is set forth under the
caption "Security Ownership of Certain Beneficial Owners" on page 3 of the
Company's Proxy Statement dated March 20, 2002 and under the caption
"Information Concerning Directors and Nominees" on pages 3-6 of the Company's
Proxy Statement dated March 20, 2002 and is incorporated herein by reference.

Item 12. Certain Relationships and Related Transactions.

The information required by Item 404 of Regulation S-B is set forth under the
caption "Certain Relationships and Related Transactions" on page 6 of the
Company's Proxy Statement dated March 20, 2002 and is incorporated herein by
reference.

Item 13. Exhibits and Reports on Form 8-K.

(a)   The following documents are filed as part of this Report:

      1.    Financial Statements:

            Independent Auditors' Report.

            Consolidated Balance Sheets as of December 31, 2001 and 2000.


                                       65

<PAGE>

            Consolidated Statements of Income for the Years Ended December 31,
            2001 and 2000.

            Consolidated Statements of Changes in Shareholders' Equity for the
            Years Ended December 31, 2001 and 2000.

            Consolidated Statements of Cash Flows for the Years Ended December
            31, 2001 and 2000.

            Notes to Consolidated Financial Statements.

      2.    Financial Statement Schedules:

            All schedules are omitted as the required information is
            inapplicable or the information is presented in the Financial
            Statements or related notes.

      3.    Exhibits:

            3.1   Articles of Incorporation (incorporated herein by reference to
                  Exhibit No. 3.1 of Registration Statement No. 33-77568, on
                  form S-1, as amended).

            3.2   Bylaws (incorporated herein by reference to Exhibit No. 3.2 of
                  Registration Statement No. 33-77568, on form S-1, as amended).

          *10.2   Employment Agreement dated April 8, 1994, by and between the
                  Company and A. Wayne Lewis (incorporated herein by reference
                  to Exhibit No. 10.2 of Registration Statement No. 33-77568, on
                  Form S-1, as amended).

          *10.3   Severance Agreement dated December 19, 1996, by and between
                  the Company and Ellis L. Gutshall (incorporated herein by
                  reference to Exhibit No. 10.3 of Form 10-KSB filed March 27,
                  1997, File No. 33-77568).

          *10.4   Stock Option Agreement dated December 19, 1996, by and between
                  the Company and Ellis L. Gutshall (incorporated herein by
                  reference to Exhibit No. 10.4 of Form 10-KSB filed March 27,
                  1997, File No. 33-77568).

            10.5  Office Lease dated February 28, 1994, by and between First
                  Federal Building, L.C. and Valley Financial Enterprises, L.C.
                  (incorporated herein by reference to Exhibit No. 10.5 of
                  Registration Statement No. 33-77568, on Form S-1, as amended).

           10.10  First amendment dated August 5, 1994, to the Office Lease
                  dated February 28, 1994, by and between First Federal
                  Building, L.C. and Valley Financial


                                       66

<PAGE>

                  Enterprises, L.C. (incorporated herein by reference to Exhibit
                  No. 10.10 of Form 10-K filed March 30, 1995, File No.
                  33-77568).

            10.12 Second amendment dated December 14, 1994, to the Office Lease
                  dated February 28, 1994, by and between First Federal
                  Building, L.C. and Valley Financial Enterprises, L.C.
                  (incorporated herein by reference to Exhibit No. 10.12 of Form
                  10-K filed March 30, 1995, File No. 33-77568).

            10.13 Lease agreement for office space dated September 20, 1996, by
                  and between Valley Bank, N.A. and Betty J. Burrows
                  (incorporated herein by reference to Exhibit No. 10.13 of Form
                  10-KSB filed March 27, 1997, File No. 33-77568).

            *10.6 Severance agreement dated February 9, 1998, by and between the
                  Company and J. Randall Woodson ( incorporated herein by
                  reference to Exhibit No. 10.6 of Form 10-KSB filed March 30,
                  2000, File No. 33-77568).

            *10.7 Employment agreement dated September 21, 2000, by and between
                  the Company and Ellis L. Gutshall (incorporated herein by
                  reference to Exhibit 10.2 of Form SB-2, filed September 27,
                  2000, and Form SB-2/A filed October 25, 2000).

            21.   Subsidiaries of the Registrant.

            24.   Power of Attorney.

*Management contract or compensatory plan or agreement required to be filed as
an Exhibit to this Form 10-KSB pursuant to Item 13(a).

(b)   Reports on Form 8-K filed during the last quarter of the period covered by
      this report:

      The Company filed one report on Form 8-K during the quarter ended December
      31, 2001. The report, dated October 22, 2001, reported the Company's
      consolidated financial results for the quarter ended September 30, 2001.


                                       67

<PAGE>

                                   SIGNATURES

      Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized on March 29, 2002.

                                         Valley Financial Corporation

                                         By:   /s/ Ellis L. Gutshall
                                            --------------------------------
                                                  Ellis L. Gutshall
                                                  President and Chief
                                                  Executive Officer

      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
following persons in the capacities indicated as of March 29, 2002.

            Signature                                  Title
            ---------                                  -----

    /s/ Ellis L. Gutshall               President, Chief  Executive Officer
   ------------------------------         and Director (Chief Executive Officer)
   (Ellis L. Gutshall)

    /s/ A. Wayne Lewis                  Executive Vice President, Chief
   -----------------------------          Operating Officer and Director
   (A. Wayne Lewis)

    /s/ A. Wayne Lewis                  Chief Financial Officer
   -----------------------------          (Principal Financial Officer
   (A. Wayne Lewis)                       and Principal Accounting Officer)


    /s/ Abney S. Boxley, III    *       Director
   -----------------------------
   (Abney S. Boxley, III)

                                        Director
   -----------------------------
   (William D. Elliot)


                                       68

<PAGE>

    /s/ Mason Haynesworth       *        Director
   -----------------------------
   (Mason Haynesworth)

    /s/ Eddie F. Hearp          *        Director
   -----------------------------
   (Eddie  F. Hearp)

                                         Director
    ----------------------------
   (Anna L. Lawson)
                                         Director
   -----------------------------
   (Barbara B. Lemon)
                                         Director
   -----------------------------
   (George W. Logan)

    /s/ John W. Starr           *        Director
   -----------------------------
   (Dr. John W. Starr)

    /s/ Ward W. Stevens         *        Director
   -----------------------------
   (Ward W. Stevens)

                                         Director
   -----------------------------
   (Michael E. Warner)


*  By /s/ A. Wayne Lewis
     ---------------------------
         A. Wayne Lewis
         (Attorney in Fact)


                                       69

<PAGE>

                                INDEX TO EXHIBITS

<TABLE>
<CAPTION>
Exhibit                                                                                 Page
Number                 Description                                                      Number
------                 -----------                                                      ------
<S>                    <C>                                                              <C>
3.1                    Articles of Incorporation (incorporated herein by
                       reference to Exhibit No. 3.1 of Registration Statement
                       No. 33-77568, on Form S-1, as amended).

3.2                    Bylaws (incorporated herein by reference to Exhibit
                       No. 3.2 of Registration Statement No. 33-77568,
                       on Form S-1, as amended).

10.2                   Employment Agreement dated April 8, 1994,
                       by and between the Company and A. Wayne Lewis
                       (incorporated herein by reference to Exhibit No. 10.2
                       of Registration Statement No. 33-77568, on Form S-1,
                       as amended).

10.3                   Severance Agreement dated December 19, 1996,
                       by and between the Company and Ellis L. Gutshall
                       (incorporated herein by reference to Exhibit No.
                       10.3 of Form 10-KSB filed March 27, 1997, File
                       No. 33-77568).

10.4                   Stock Option Agreement dated December 19, 1996,
                       by and between the Company and Ellis L. Gutshall
                       (incorporated herein by reference to Exhibit No. 10.4
                       of Form 10-KSB filed March 27, 1997, File No.
                       33-77568).

10.5                   Office Lease dated February 28, 1994, by and between
                       First Federal Building, L.C. and Valley Financial
                       Enterprises, L.C. (incorporated herein by reference to
                       Exhibit No. 10.5 of Registration Statement No. 33-77568,
                       on Form S-1, as amended).

10.10                  First amendment dated August 5, 1994, to the Office
                       Lease dated February 28, 1994, by and between First
                       Federal Building, L.C. and Valley Financial Enterprises,
                       L.C.  (incorporated herein by reference to Exhibit No.
                       10.10 of Form 10-K filed March 30, 1995, File No. 33-77568).

10.12                  Second amendment dated December 14, 1994, to the Office
                       Lease dated February 28, 1994, by and between First
                       Federal Building, L.C. and Valley Financial Enterprises,
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<PAGE>

<TABLE>
<S>                    <C>                                                                <C>
                       L.C. (incorporated herein by reference to Exhibit No. 10.12
                       of Form 10-K filed March 30, 1995, File No. 33-77568).

10.13                  Lease agreement for office space dated September 20,
                       1996,by and between Valley Bank, N.A. and Betty J.
                       Burrows (incorporated herein by reference to Exhibit No.
                       10.13 of Form 10-KSB filed March 27, 1997, File No.
                       33-77568).

 10.6                  Severance agreement dated February 9, 1998, by and between
                       the Company and J. Randall Woodson (incorporated herein by
                       reference to Exhibit 10.6 of Form 10-KSB filed March 30, 2000,
                       File No. 33-77568).

10.7                   Employment agreement dated September 21, 2000, by and
                       between the Company and Ellis L. Gutshall (incorporated
                       herein by reference to Exhibit 10.2 of Form SB-2, filed
                       September 27, 2000, and Form SB-2/A filed October 25,
                       2000).

21                     Subsidiaries of the Registrant.                                    72

24                     Power of attorney.                                                 73
</TABLE>


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