F&M BANK CORP - Quarter Report: 2009 June (Form 10-Q)

F & M BANK CORP.

		June 30,				December 31,
		2009				2008
		(Unaudited)				(Audited)
Assets
Cash and due from banks		$	5,407			$	5,687
Federal funds sold			4,106				8,979
Cash and cash equivalents			9,513				14,666
Interest bearing deposits in banks			857				1,162
Securities:
Held to maturity – fair value of $110,000 in 2009 and 2008, respectively (note 2)			110				110
Available for sale (note 2)			16,762				22,237
Other investments			9,127				8,439
Loans held for sale			20,364				3,780
Loans held for investment (note 3)			416,316				399,233
Less allowance for loan losses (note 4)			(2,556	)			(2,189	)
Net loans held for investment			413,760				397,044
Bank premises and equipment			7,343				7,457
Interest receivable			2,021				2,056
Core deposit intangible			460				598
Goodwill			2,670				2,670
Bank owned life insurance			6,447				6,304
Other assets			5,039				5,535
Total assets		$	494,473			$	472,058
Liabilities
Deposits:
Noninterest bearing		$	51,620			$	49,786
Interest bearing:
Demand			55,211				39,773
Money market accounts			21,870				22,779
Savings			33,531				29,367
Time deposits over $100,000			76,578				63,855
All other time deposits			137,624				136,665
Total deposits			376,434				342,225
Short-term debt			7,143				20,510
Accrued liabilities			7,791				7,687
Long-term debt			65,176				65,331
Total liabilities			456,544				435,753
Minority interest in consolidated subsidiary			93				47
Stockholders’ Equity
Common stock, $5 par value, 6,000,000 shares authorized, 2,294,140 and 2,289,497 shares issued and outstanding in 2009 and 2008, respectively			11,471				11,447
Retained earnings			28,683				27,687
Accumulated other comprehensive income (loss)			(2,318	)			(2,876	)
Total stockholders’ equity			37,836				36,258
Total liabilities and stockholders’ equity		$	494,473			$	472,058

The accompanying notes are an integral part of these statements.

F & M BANK CORP.

		Six Months Ended
		June 30,
		2009				2008
Cash Flows from Operating Activities
Net income		$	1,975			$	2,148
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation			315				307
Amortization (accretion) of security premiums (discounts)			16				(21	)
Net (increase) decrease in loans held for sale			(16,584	)			(20,867	)
Provision for loan losses			520				265
Intangible amortization			138				138
(Increase) decrease in interest receivable			35				114
(Increase) decrease in other assets			527				802
Increase in accrued expenses			(133	)			(989	)
(Gain) loss on security transactions			831				31
Amortization of limited partnership investments			182				250
Income from life insurance investment			(143	)			(148	)
Net Adjustments			(14,296	)			(20,118	)
Net Cash Provided by (Used in) Operating Activities			(12,321	)			(17,970	)
Cash Flows from Investing Activities
Purchase of investments available for sale			(924	)			(17,837	)
Proceeds from sales of investments available for sale			16				971
Proceeds from maturity of investments available for sale			5,481				18,930
Net increase in loans held for investment			(17,237	)			(37,508	)
Purchase of property and equipment			(200	)			(618	)
Change in federal funds sold			4,873
Net (increase) decrease in interest bearing bank deposits			305				906
Net Cash Used in Investing Activities			(7,686	)			(35,156	)
Cash Flows from Financing Activities
Net change in demand and savings deposits			20,528				5,026
Net change in time deposits			13,681				(4,626	)
Net change in short-term debt			(13,367	)			32,428
Cash dividends paid			(1,057	)			(1,041	)
Repurchase of common stock			(54	)			(713	)
Change in federal funds purchased							2,435
Proceeds of long-term debt			7,400				27,500
Proceeds from issuance of common stock			152				118
Repayment of long-term debt			(7,556	)			(6,786	)
Net Cash Provided (Used) by Financing Activities			19,727				54,341
Net Decrease (Increase) in Cash and Cash Equivalents			(280	)			1,215
Cash and Cash Equivalents, Beginning of Period			5,687				8,705
Cash and Cash Equivalents, End of Period		$	5,407			$	9,920
Supplemental Disclosure
Cash paid for:
Interest expense		$	5,420			$	5,169
Income taxes			520				400

The accompanying notes are an integral part of these statements.

F & M BANK CORP.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
(In Thousands of Dollars)
(Unaudited)

		Six Months Ended
		June 30,
		2009				2008
Balance, beginning of period		$	36,258			$	39,165
Comprehensive Income
Net income			1,975				2,148
Net change in unrealized appreciation on securities available for sale, net of taxes (note 1)			558				(1,010	)
Total comprehensive income			2,533				1,138
Repurchase of common stock			(54	)			(713	)
Common stock sold			152				117
Dividends declared			(1,053	)			(1,027	)
Balance, end of period		$	37,836			$	38,680

The accompanying notes are an integral part of these statements.

F & M BANK CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1		ACCOUNTING PRINCIPLES:

The consolidated financial statements include the accounts of F & M Bank Corp. and its subsidiaries (the “Company”). Significant intercompany accounts and transactions have been eliminated in consolidation.

The consolidated financial statements conform to accounting principles generally accepted in the United States and to general industry practices. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring accruals) necessary to present fairly the financial position as of June 30, 2009 and the results of operations for the six month periods ended June 30, 2009 and June 30, 2008. The notes included herein should be read in conjunction with the notes to financial statements included in the 2008 annual report to stockholders of the F & M Bank Corp.

The Company does not expect the anticipated adoption of any newly issued accounting standards to have a material impact on future operations or financial position.

Comprehensive Income

Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities and gains or losses on certain derivative contracts, are reported as a separate component of the equity section of the balance sheet. Such items, along with operating net income, are components of comprehensive income.

The components of other comprehensive income and related tax effects are as follows:

		June 30,				December 31,
		2009				2008
Changes in:
Adjustment for initial adoption of SFAS 158		$				$
Funded Status Adjustment							(1,835,082	)
Tax effect							623,928
Pension plan adjustment, net of tax							(1,211,154	)
Unrealized holding gains (losses) on available-for-sale securities:			1,666,714				(2,742,769	)
Other than temporary impairment losses			825,707				1,758,730
Reclassification adjustment for (gains) losses realized in income			4,899				(78,173	)
Net unrealized gains (losses)			845,906				(1,062,212	)
Tax effect			287,608				361,152
Unrealized holding gain (losses), net of tax			558,298				(701,060	)
Net change in other comprehensive income		$	558,298			$	(1,912,214	)

Subsequent Events

In preparing these financial statements, the Company has evaluated events and transactions for potential recognition or disclosure through August, 13, 2009, the date the financial statements were issued.

F & M BANK CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENT

NOTE 2		INVESTMENT SECURITIES:

The amounts at which investment securities are carried in the consolidated balance sheets and their approximate market values at June 30, 2009 and December 31, 2008 are as follows:

		2009								2008
						Market								Market
		Cost				Value				Cost				Value
Securities Held to Maturity
U. S. Treasury and agency obligations		$	110			$	110			$	110			$	110
Total		$	110			$	110			$	110			$	110

		2009								2008
		Market								Market
		Value				Cost				Value				Cost
Securities Available for Sale
Government sponsored enterprises		$	6,059			$	5,997			$	10,194			$	10,013
Equity securities			3,067				4,639				3,064				5,430
Mortgage-backed securities			7,236				7,034				8,573				8,391
Corporate Bonds			400				281				281				281
Municipals											125				125
Total		$	16,762			$	17,951			$	22,237			$	24,240

The amortized cost and fair value of securities at June 30, 2009, by contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

		Securities Held to Maturity								Securities Available for Sale
		Amortized				Fair				Amortized				Fair
		Cost				Value				Cost				Value
Due in one year or less		$	110			$	110			$	1,999			$	2,000
Due after one year through five years											3,998				4,059
Due after five years											7,315				7,636
			110				110				13,312				13,695
Marketable equities											4,639				3,067
Total		$	110			$	110			$	17,951			$	16,762

There were no sales of debt securities during the first half of 2009 or in all of 2008. Following is a table reflecting gains and losses on sales of equity securities:

		2009				2008
Gains		$				$	244,181
Losses			(4,899	)			(166,008	)
Net Gains (Losses)		$	(4,899	)		$	78,173

F & M BANK CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENT

NOTE 2		INVESTMENT SECURITIES (CONTINUED):

The primary purpose of the investment portfolio is to generate income and meet liquidity needs of the Company through readily saleable financial instruments. The portfolio includes fixed rate bonds, whose prices move inversely with rates, variable rate bonds and equity securities. At the end of any accounting period, the investment portfolio has unrealized gains and losses. The Company monitors the portfolio, which is subject to liquidity needs, market rate changes and credit risk changes, to see if adjustments are needed. The primary concern in a loss situation is the credit quality of the business behind the instrument. Bonds deteriorate in value due to credit quality of the individual issuer and changes in market conditions. These losses relate to market conditions and the timing of purchases.

A summary of these losses (in thousands) is as follows:

		Less than 12 Months								More than 12 Months								Total
		Fair				Unrealized				Fair				Unrealized				Fair				Unrealized
		Value				Losses				Value				Losses				Value				Losses
2009
Government sponsored enterprises		$				$				$				$				$				$
Mortgage backed obligations											344				(3	)			344				(3	)
Marketable equities			1,091				(383	)			1,421				(1,266	)			2,512				(1,649	)
Total		$	1,091			$	(383	)		$	1,765			$	(1,269	)		$	(2,856	)		$	(1,652	)

NOTE 3		LOANS HELD FOR INVESTMENT:

Loans outstanding at June 30, 2009 and December 31, 2008 are summarized as follows:

		2009				2008
Real Estate
Construction		$	82,752			$	71,259
Residential			178,218				169,122
Commercial and agricultural			133,137				134,008
Installment loans to individuals			20,124				22,792
Credit cards			1,956				1,940
Other			129				112
Total		$	416,316			$	399,233

F & M BANK CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENT

NOTE 4		ALLOWANCE FOR LOAN LOSSES:

A summary of transactions in the allowance for loan losses follows:

		Six Months Ended								Three Months Ended
		June 30,								June 30,
		2009				2008				2009				2008
Balance, beginning of period		$	2,189			$	1,703			$	2,381			$	1,531
Provisions charged to operating expenses			520				265				310				175
Net (charge-offs) recoveries:
Loan recoveries			29				41				18				20
Loan charge-offs			(182	)			(302	)			(153	)			(19	)
Total Net Charge-Offs *			(153	)			(261	)			(135	)			1
Balance, End of Period		$	2,556			$	1,707			$	2,556			$	1,707
* Components of Net Charge-Offs
Real Estate			(87	)			1				(87	)			1
Commercial			(44	)			(260	)			(44	)			(2	)
Installment			(22	)			(2	)			(4	)			2
Total		$	(153	)		$	(261	)		$	(135	)		$	1

NOTE 5		EMPLOYEE BENEFIT PLAN

The Bank has a qualified noncontributory defined benefit pension plan that covers substantially all of its employees. The benefits are primarily based on years of service and earnings. The following is a summary of net periodic pension costs for the six-month periods ended June 30, 2009 and 2008.

		2009				2008
Service cost		$	179,400			$	161,190
Interest cost			136,666				128,108
Expected return on plan assets			(156,856	)			(188,356	)
Amortization of net obligation at transition
Amortization of prior service cost			(2,650	)			(2,650	)
Amortization of net (gain) or loss			62,102				5,894
Net periodic benefit cost		$	218,662			$	104,186

F & M BANK CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 6		FAIR VALUE

FASB Statement No. 157, “Fair Value Measurements” (“SFAS No. 157”), defines fair value, establishes a framework for measuring fair value, establishes a three-level valuation hierarchy for disclosure of fair value measurement and enhances disclosure requirements for fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The three levels are defined as follows:

Level 1 – Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2 – Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

Level 3 – Inputs to the valuation methodology are unobservable and significant to the fair value measurement.

The following sections provide a description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy:

Securities: Where quoted prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities would include highly liquid government bonds, mortgage products and exchange traded equities. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, or discounted cash flow. Level 2 securities would include U.S. agency securities, mortgage-backed agency securities, obligations of states and political subdivisions and certain corporate, asset backed and other securities. In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy. Currently, all of the Company’s securities are considered to be Level 2 securities.

Impaired Loans: SFAS No. 157 applies to loans measured for impairment using the practical expedients permitted by SFAS No. 114, “Accounting by Creditors for Impairment of a Loan,” including impaired loans measured at an observable market price (if available), or at the fair value of the loan’s collateral (if the loan is collateral dependent). Fair value of the loan’s collateral, when the loan is dependent on collateral, is determined by appraisals or independent valuation which is then adjusted for the cost related to liquidation of the collateral. Other Real Estate Owned: Certain assets such as other real estate owned (OREO) are measured at fair value less cost to sell. We believe that the fair value component in its valuation follows the provisions of SFAS No. 157

Assets and Liabilities Recorded at Fair Value on a Recurring Basis

The table below presents the recorded amount of assets and liabilities measured at fair value on a recurring basis.

June 30, 2009		Total				Level 1				Level 2				Level 3
Investment securities available-for-sale		$	16,762			$	3,607			$	13,155
Loans held for sale			20,364								20,364
Impaired loans			1,644								1,644
Total assets at fair value			38,770				3,607				35,163
Total liabilities at fair value

There were no assets or liabilities recorded at fair value on a non-recurring basis.

F & M BANK CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 7  DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS:

Statement of Financial Accounting Standards No. 107 (SFAS 107) “Disclosures about the Fair Value of Financial Statements” defines the fair value of a financial instrument as the amount at which a financial instrument could be exchanged in a current transaction between willing parties, other than in a forced liquidation or sale. As the majority of the Bank’s financial instruments lack an available trading market, significant estimates, assumptions and present value calculations are required to determine estimated fair value. Estimated fair value and the carrying value of financial instruments at December 31, 2008 and 2007 are as follows (in thousands):

		June 30, 2009								December 31, 2008
		Estimated				Carrying				Estimated				Carrying
		Fair Value				Value				Fair Value				Value
Financial Assets
Cash		$	5,407			$	5,407			$	5,687			$	5,687
Interest bearing deposits			857				857				1,164				1,162
Federal funds sold			4,106				4,106				8,979				8,979
Securities available for sale			16,762				16,762				22,237				22,237
Securities held to maturity			110				110				110				110
Other investments			9,127				9,127				8,439				8,439
Loans			447,205				416,316				418,630				399,233
Loan held for sale			20,364				20,364				3,780				3,780
Bank owned life insurance			6,447				6,447				6,304				6,304
Accrued interest receivable			2,021				2,021				2,056				2,056
Financial Liabilities
Demand Deposits:
Non-interest bearing			51,620				51,620				49,786				49,786
Interest bearing			77,081				77,081				62,552				62,552
Savings deposits			33,531				33,531				29,367				29,367
Time deposits			217,067				214,202				202,082				200,521
Accrued liabilities			7,791				7,791				7,687				7,687
Short-term debt			7,143				7,143				20,569				20,510
Long-term debt			65,138				65,176				68,846				65,331

The carrying value of cash and cash equivalents, other investments, deposits with no stated maturities, short-term borrowings, and accrued interest approximate fair value. The fair value of securities was calculated using the most recent transaction price or a pricing model, which takes into consideration maturity, yields and quality. The remaining financial instruments were valued based on the present value of estimated future cash flows, discounted at various rates in effect for similar instruments entered into during the month of December of each year.

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

F & M Bank Corp. (Company) incorporated in Virginia in 1983, is a one-bank holding company pursuant to section 3(a)(1) of the Bank Holding Company Act of 1956, which provides financial services through its wholly-owned subsidiary Farmers & Merchants Bank (Bank). TEB Life Insurance Company (TEB) and Farmers & Merchants Financial Services (FMFS) are wholly-owned subsidiaries of the Bank. Ownership of TEB was transferred from the Company to the Bank during the first quarter of 2009. The Bank also holds a majority ownership in VBS Mortgage LLC (VBS).

The Bank is a full service commercial bank offering a wide range of banking and financial services through its nine branch offices. TEB reinsures credit life and accident and health insurance sold by the Bank in connection with its lending activities. FMFS provides title insurance, brokerage services and property/casualty insurance to customers of the Bank. VBS provides a variety of mortgage products including FHA, VA and VHDA loans. VBS was founded in Harrisonburg, VA in 1999. VBS has three offices, located in Harrisonburg, Broadway and Roanoke, Virginia.

The Company’s primary trade area services customers in Rockingham County, Shenandoah County, Page County and the northern part of Augusta County.

Management’s discussion and analysis is presented to assist the reader in understanding and evaluating the financial condition and results of operations of the Company. The analysis focuses on the consolidated financial statements, footnotes, and other financial data presented. The discussion highlights material changes from prior reporting periods and any identifiable trends which may affect the Company. Amounts have been rounded for presentation purposes. This discussion and analysis should be read in conjunction with the Consolidated Financial Statements and the Notes to the Consolidated Financial Statements presented in Item 1, Part 1 or this Form 10Q.

Forward-Looking Statements

Certain statements in this report may constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements that include projections, predictions, expectations or beliefs about future events or results or otherwise are not statements of historical fact. Such statements are often characterized by the use of qualified words (and their derivatives) such as “expect,” “believe,” “estimate,” “plan,” “project,” or other statements concerning opinions or judgment of the Company and its management about future events.

Although the Company believes that its expectations with respect to certain forward-looking statements are based upon reasonable assumptions within the bounds of its existing knowledge of its business and operations, there can be no assurance that actual results, performance or achievements of the Company will not differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements. Actual future results and trends may differ materially from historical results or those anticipated depending on a variety of factors, including, but not limited to, the effects of and changes in: general economic conditions, the interest rate environment, legislative and regulatory requirements, competitive pressures, new products and delivery systems, inflation, changes in the stock and bond markets, technology, and consumer spending and savings habits.

We do not update any forward-looking statements that may be made from time to time by or on behalf of the Company.

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

Critical Accounting Policies

General

The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States (“GAAP”). The financial information contained within the statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. The Company uses historical loss factors as one factor in determining the inherent loss that may be present in its loan portfolio. Actual losses could differ significantly from the historical factors that are used. The fair value of the investment portfolio is based on period end valuations but changes daily with the market. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of these transactions would be the same, the timing of events that would impact these transactions could change.

Allowance for Loan Losses

The allowance for loan losses is an estimate of the losses that may be sustained in the loan portfolio. The allowance is based on two basic principles of accounting: (i) Statement of Financial Accounting Standard (“SFAS”) No. 5, Accounting for Contingencies, which requires that losses be accrued when they are probable of occurring and estimable and (ii) SFAS No. 114, Accounting by Creditors for Impairment of a Loan, which requires that losses be accrued based on the differences between the value of collateral, present value of future cash flows or values that are observable in the secondary market and the loan balance.

Goodwill and Intangibles

In June 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard (SFAS) No. 141, Business Combinations and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001. Additionally, it further clarifies the criteria for the initial recognition and measurement of intangible assets separate from goodwill. SFAS No. 142 is effective for fiscal years beginning after December 15, 2001 and prescribes the accounting for goodwill and intangible assets subsequent to initial recognition. The provisions of SFAS No. 142 discontinue the amortization of goodwill and intangible assets with indefinite lives. Instead, these assets will be subject to at least an annual impairment review and more frequently if certain impairment indicators are in evidence. SFAS No. 142 also requires that reporting units be identified for the purpose of assessing potential future impairments of goodwill.

Core deposit intangibles are amortized on a straight-line basis over ten years. The Company adopted SFAS 147 on January 1, 2002 and determined that the core deposit intangible will continue to be amortized over the estimated useful life.

Securities Impairment

The Company evaluates each of its investments in securities, debt and equity, under guidelines contained in SFAS 115 and FSP 115-1, Accounting for Certain Investments in Debt and Equity Securities. These guidelines require the Company to determine whether a decline in value below adjusted cost is other than temporary. In making its determination, management considers current market conditions, historical trends in the individual securities, length and severity of impairment and historical trends in the total market. Expectations are developed regarding potential returns from dividend reinvestment and price appreciation over a reasonable holding period (five years).

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

Overview

Net income for the second quarter of 2009 was $1,091,000 or $.48 per share, compared to $1,144,000 or $.49 per share in the second quarter of 2008, a decrease of 4.63%. Noninterest income, exclusive of securities transactions, increased 2.70% and noninterest expense increased 11.84% during the same period.

Earnings from Bank Operations are reflected in table below, these represent the core earnings from banking operations for the first six months of 2009 and 2008, respectively. These amounts are exclusive of gains or losses on the Parent’s equity portfolio and historic rehabilitation credits related to the investment in low income housing projects.

		2009				2008
Net Income from Bank Operations		$	2,391			$	2,131
Income or loss from Parent Company Activities			(416	)			17
Net Income for the year			1,975				2,148

Results of Operations

The 2009 year to date tax equivalent net interest margin increased $1,331,000 or 18.42% compared to the same period in 2008. The yield on earning assets decreased .71%, while the cost of funds decreased .66% compared to the same period in 2008. In response to the economic slowdown, the Federal Reserve’s Federal Open Market Committee (FOMC) began lowering short-term interest rates in September 2007. In December 2008, the FOMC lowered the Federal Funds Rate to an historic low of 0 to 25 BP. The Prime Rate, which typically tracks at 3.00% above the Federal Funds Rate, currently stands at 3.25%

The Interest Sensitivity Analysis on page 23 indicates the Company is in a slightly asset sensitive position in the one year time horizon (.76%), the recent decrease in rates and asset growth has resulted in a .23% decrease in the net interest margin compared to the same period in 2008. This has resulted due to the fact that a large portion of rate sensitive liabilities (primarily interest bearing demand deposits and savings) have reached a virtual rate floor (due to the current level of market rates), while rate sensitive assets continue to reprice at lower rates.

A schedule of the net interest margin for 2009 and 2008 can be found in Table I on page 22.

Noninterest income, exclusive of securities transactions, increased $9,000 or .56% through June 30, 2009. Items contributing to the increase include a $63,000 increase in debt card, ATM surcharge and merchant credit card income and a $66,000 increase in revenue from FMFS (title, property and casualty insurance commissions and brokerage commissions), TEB Life Insurance Co. and VBS Mortgage. These increases were offset by a $99,000 decrease in secondary market fee income (became part of VBS with merger) and a $39,000 decrease in service charges.

Noninterest expense increased $468,000 (8.64%) in 2009. The increase is the result of a $148,000 increase in salaries and benefits expense (4.60%). The increase in salaries and benefits includes is due primarily to increase in pension expense. Exclusive of personnel expenses, other noninterest expenses increased at an annualized rate of 14.59% in 2009 compared to 2008. Areas that increased include a $74,000 increase in data processing expense and a $248,000 increase in FDIC assessment fees.

Data processing expense increased due primarily to the support of our rewards checking products, which have generated approximately $30 million in new deposits in the last year. The FDIC assessment increased due to an increase in our insured deposits and the accrual for the FDIC special assessment due in the third quarter. Operating costs continue to compare very favorably to the peer group. As stated in the most recently available Bank Holding Company Performance Report, the Company’s and peer group noninterest expenses averaged 2.29% and 3.42% of average assets, respectively. The Company’s operating costs have always compared favorably to the peer group due to an excellent asset to employee ratio and below average facilities costs.

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

Financial Condition

Federal Funds Sold and Interest Bearing Bank Deposits

The Company’s subsidiary bank invests a portion of its excess liquidity in either federal funds sold or interest bearing bank deposits. Federal funds sold offer daily liquidity and pay market rates of interest that at quarter end was benchmarked at 0% to .25% by the Federal Reserve. Actual rates received vary slightly based upon money supply and demand among banks. Interest bearing bank deposits are held either in money market accounts or as short-term certificates of deposits. Combined balances in fed funds sold and interest bearing bank deposits have decreased due to growth in the loan portfolio.

Securities

The Company’s securities portfolio serves several purposes. Portions of the portfolio are held to assist the Company with liquidity, asset liability management, as security for certain public funds and repurchase agreements and for long-term growth potential.

The securities portfolio consists of investment securities (commonly referred to as “securities held to maturity”) and securities available for sale. Securities are classified as investment securities when management has the intent and ability to hold the securities to maturity. Investment securities are carried at amortized cost. Securities available for sale include securities that may be sold in response to general market fluctuations, liquidity needs and other similar factors. Securities available for sale are recorded at market value. Unrealized holding gains and losses on available for sale securities are excluded from earnings and reported (net of deferred income taxes) as a separate component of shareholders’ equity.

As of June 30, 2009, the cost of securities available for sale exceeded their market value by $1,189,000. This includes decreases in value in the equity securities portfolio held by the Company and a decrease in the value of government obligations held by the Bank. Management has traditionally held debt securities (regardless of classification) until maturity and thus it does not expect the fluctuations in value of these securities to have a direct impact on earnings.

Investments in debt securities have decreased approximately $5.5 million in 2009. The portfolio is made up of primarily government sponsored enterprises and mortgage-backed securities with an average portfolio life of approximately two years. This short average life results in less portfolio volatility and positions the Bank to redeploy assets in response to rising rates. Given the historically low interest rates proceeds from bond maturities and mortgage-backed securities pay downs have been used to support the growth of the loan portfolio. Scheduled maturities for the remainder of 2009 total $3,881,000 and these bonds have an average yield of approximately 5.18%. Based on current market rates, as these bonds mature, the funds will be reinvested at rates that are significantly lower.

The Company’s equity securities portfolio was $1,236,000 below cost at June 30, 2009. The decrease in the value of the equities portfolio is spread over a number of asset sectors including holdings in the financial sector. To minimize risk the Company holds a diversified portfolio of equity investments in a number of large, regional financial institutions and a variety of other predominantly blue-chip securities. Management continues to believe that these investments offer adequate current returns (dividends) and have the potential for future increases in value.

A review of these investments as of June 30, 2009, revealed several securities that appeared to be impaired as of quarter end. The write down for the second quarter totaled $496,000, or $327 net of deferred tax. This results in a year to date write down on equity securities for book purposes of $825,000, or $545,000 net of deferred tax. Management continues to re-evaluate the portfolio for impairment on a quarterly basis. The Company also sustained losses of $6,000 year to date from the sale of securities.

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

Loan Portfolio

The Company operates in a predominately rural area that includes the counties of Rockingham, Page and Shenandoah in the western portion of Virginia. The local economy benefits from a variety of businesses including agri-business, manufacturing, service businesses and several universities and colleges. The Bank is an active residential mortgage and residential construction lender and generally makes commercial loans to small and mid size businesses and farms within its primary service area.

The allowance for loan losses (see subsequent section) provides for the risk that borrowers will be unable to repay their obligations and is reviewed quarterly for adequacy. The risk associated with real estate and installment notes to individuals is based upon employment, the local and national economies and consumer confidence. All of these affect the ability of borrowers to repay indebtedness. The risk associated with commercial lending is substantially based on the strength of the local and national economies.

While lending is geographically diversified within the service area, the Company does have loan concentrations in agricultural (primarily poultry farming), construction, hotels, churches, assisted living facilities and multi-family residential properties. Management and the Board of Directors review these concentrations quarterly. The first six months of 2009 resulted in an increase of $17,083,000 in the Bank’s core loan portfolio.

Nonperforming loans include nonaccrual loans, loans 90 days or more past due and restructured loans. Nonaccrual loans are loans on which interest accruals have been suspended or discontinued permanently. Restructured loans are loans which have had the original interest rate or repayment terms changed due to financial hardship. Nonperforming loans totaled $6,461,000 at June 30, 2009 compared to $4,766,000 at December 31, 2008. Approximately 91% of these non-performing loans are secured by real estate. Although management expects that there will be some loan losses, the bank is generally well secured and continues to actively work with its customers to effect payment. As of June 30, 2009, the Company does not hold any real estate which was acquired through foreclosure.

The following is a summary of information pertaining to risk elements and impaired loans:

		June 30,				December 31,
		2009				2008
Nonaccrual loans		$	1,949			$	1,374
Loans past due 90 days or more and still accruing interest			4,512				3,392
		$	6,461			$	4,766
As a percentage of loans held for investment			1.55	%			1.19	%

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

Allowance for Loan Losses

Management evaluates the allowance for loan losses on a quarterly basis in light of national and local economic trends, changes in the nature and volume of the loan portfolio and the trend of past due and criticized loans. Specific factors evaluated include internally generated loan review reports, past due reports, historical loan loss experience and changes in the financial strength of individual borrowers that have been included on the Banks watch list or schedule of classified loans.

In evaluating the portfolio, loans are segregated into loans with identified potential losses and pools of loans by type (commercial, residential, consumer, credit cards). Loans with identified potential losses include examiner and bank classified loans. Classified relationships in excess of $100,000 are reviewed individually for impairment under FAS 114. A variety of factors are taken into account when reviewing these credits including borrower cash flow, payment history, fair value of collateral, company management, the industry in which the borrower is involved and economic factors. Loan relationships that are determined to have no impairment are placed back into the appropriate loan pool and reviewed under FAS 5.

Loan pools are further segmented into watch list, past due over 90 days and all other loans by type. Watch list loans include loans that are 60 days past due, and may include restructured loans, borrowers that are highly leveraged, loans that have been upgraded from classified or loans that contain policy exceptions (term, collateral coverage, etc.). Loss estimates on these loans reflect the increased risk associated with these assets due to any of the above factors. The past due pools contain loans that are currently 90 days or more past due. Loss rates assigned reflect the fact that these loans bear a significantly higher risk of charge-off. Loss rates vary by loan type to reflect the likelihood that collateral values will offset a portion of the anticipated losses.

The remainder of the portfolio falls into pools by type of homogenous loans that do not exhibit any of the above described weaknesses. Loss rates are assigned based on historical loss rates over the prior five years. A multiplier has been applied to these loss rates to reflect the time for loans to season within the portfolio and the inherent imprecision of these estimates.

All potential losses are evaluated within a range of low to high. A general reserve has been established to reflect other unidentified losses within the portfolio. This helps to offset the increased risk of loss associated with fluctuations in past due trends, changes in the local and national economies, and other unusual events. The Board approves the loan loss provision for the following quarter based on this evaluation and an effort is made to keep the actual allowance at or above the midpoint of the range established by the evaluation process.

The allowance for loan losses of $2,556,000 at June 30, 2009 is equal to .61% of loans held for investment. This compares to an allowance of $2,189,000, or .55%, at December 31, 2008. Management has funded the allowance a total of $520,000 through June 30, 2009. Total charge-offs exceed recoveries by $153,000 year to date, annualized this equates to a loss rate of slightly less than .07%. In recent years, the company has had an average loss rate of .08% which is significantly less than the rate of its peer group. The most recently available public information (as of March 31, 2009) lists an average loss rate for the Company’s peer group at almost 1%

The overall level of the allowance is well below its peer group average. Management feels this is appropriate based on its loan loss history and the composition of its loan portfolio; the current allowance for loan losses is equal to approximately eight years of average loan losses. Based on historical losses, delinquency rates, collateral values of delinquent loans and a thorough review of the loan portfolio, management is of the opinion that the allowance for loan losses fairly states the estimated losses in the current portfolio.

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

Deposits and Other Borrowings

The Company’s main source of funding is comprised of deposits received from individuals, governmental entities and businesses located within the Company’s service area. Deposit accounts include demand deposits, savings, money market and certificates of deposit. Total deposits have increased $34,209,000 since December 31, 2008. Time deposits increased $13,682,000 during this period while demand deposits and savings deposits increased $20,527,000. Certificates of deposit increased as a result of the Bank’s membership in the CDARS program. CDARS (Certificate of Deposit Account Registry Service) is a program that allows the bank to accept customer deposits in excess of FDIC limits and through reciprocal agreements with other network participating banks offer FDIC insurance up to as much as $50 million in deposits. The CDARS program also allows the Bank to purchase funds through its One-Way Buy program. At June 30 the Bank had obtained a total of $24,570,000 in CDARS funding.

Short-term debt

Short-term debt consists of federal funds purchased, commercial repurchase agreements (repos.) and daily rate credit from the Federal Home Loan Bank (FHLB). Commercial customers deposit operating funds into their checking account and by mutual agreement with the bank their excess funds are swept daily into the repurchase accounts. These accounts are not considered deposits and are not insured by the FDIC. The Bank pledges securities held in its investment portfolio as collateral for these short-term loans. Federal funds purchased are overnight borrowings obtained from the Bank’s primary correspondent bank to manage short-term liquidity needs. Daily rate credit from the FHLB has been used to finance loans held for sale and also to finance the increase in short-term residential and commercial construction loans.

Long-term debt

Borrowings from the Federal Home Loan Bank of Atlanta (FHLB) continue to be an important source of funding real estate loan growth. The Company’s subsidiary bank borrows funds on a fixed rate basis. These borrowings are used to fund loan growth. By borrowing from the FHLB at various fixed rate terms, the program allows the Bank to match the maturity of its rate real estate portfolio with the maturity of its debt. This reduces the Company’s exposure to interest rate changes. Scheduled repayments totaled $7,408,000 through June 30, 2009. Additional borrowings of $7,250,000 were obtained to support loan growth and to refinance maturing debt at more favorable longer term rates.

In March 2008, the Company entered into an agreement with a correspondent bank (Silverton Bank) to provide a $5 million line of credit to be used for general corporate purposes, including capital contributions to the Bank and for the current stock repurchase program. The loan is unsecured and bears a rate of prime minus 1.25%. At June, 30, 2009, $5 million was owed on this line of credit. In September 2008 the Company entered into an agreement with Page Valley Bank to provide a $1 million term loan to be used for a capital contribution to the Bank. The loan is unsecured and bears a rate of prime. Repayment terms include quarterly payments of $250,000 plus interest beginning in December 2008, at June 30, 2009 the balance on this loan was $250,000.

Capital

The Company seeks to maintain a strong capital base to expand facilities, promote public confidence, support current operations and grow at a manageable level. As of June 30, 2009, the Company’s total risk based capital and total capital to total assets ratios were 10.01% and 9.35%, respectively. Both ratios are in excess of regulatory minimum. Bank only total risked based capital and total capital to total assets ratios were 10.67% and 10.00% , respectively.

Liquidity

Liquidity is the ability to meet present and future financial obligations through either the sale or maturity of existing assets or the acquisition of additional funds through liability management. Liquid assets include cash, interest-bearing deposits with banks, federal funds sold, investments and loans maturing within one year. The Company’s ability to obtain deposits and purchase funds at favorable rates determines its liquidity exposure. As a result of the Company’s management of liquid assets and the ability to generate liquidity through liability funding, management believes that the Company maintains overall liquidity sufficient to satisfy its depositors’ requirements and meet its customers’ credit needs.

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

Additional sources of liquidity available to the Company include, but are not limited to, loan repayments, the ability to obtain deposits through the adjustment of interest rates, the purchase of federal funds and funds raised the the CDARS One-Way Buy Program. To further meet its liquidity needs, the Company also maintains lines of credit with correspondent financial institutions. The Company’s subsidiary bank also has a line of credit with the Federal Home Loan Bank of Atlanta that allows for secured borrowings.

Interest Rate Sensitivity

In conjunction with maintaining a satisfactory level of liquidity, management must also control the degree of interest rate risk assumed on the balance sheet. Managing this risk involves regular monitoring of interest sensitive assets relative to interest sensitive liabilities over specific time intervals. The Company monitors its interest rate sensitivity periodically and makes adjustments as needed. There are no off balance sheet items that will impair future liquidity.

As of June 30, 2009, the Company had a cumulative Gap Rate Sensitivity Ratio of .76% for the one year repricing period. This generally indicates that earnings would increase in an increasing interest rate environment as assets reprice more quickly than liabilities. However, in actual practice, this may not be the case as loans tied to the prime rate of interest will reprice immediately with an increase in short term market rates, while deposit rates will remain stable until competitive market conditions dictate the necessity for an increase in rates. Management constantly monitors the Company’s interest rate risk and has decided the current position is acceptable for a well-capitalized community bank.

A summary of asset and liability repricing opportunities is shown in Table II, on page 20.

Stock Repurchase

On September 18, 2008, the Company’s Board of Directors approved an increase in the number of shares of common stock that the Company can repurchase under the share repurchase program from 150,000 to 200,000 shares. Shares repurchased through June 30, 2009 total 164,132; of this amount, 2,122 shares were repurchased in 2009, at an average cost of $25.58 per share.

Effect of Newly Issued Accounting Standards

In June 2009, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 168, “The FASB Accounting Standards Codification ^TM and the Hierarchy of Generally Accepted Accounting Principles – a replacement of FASB Statement No. 162,” (“SFAS 168”). SFAS 168 establishes the FASB Accounting Standards Codification ^TM (“Codification”) as the source of authoritative generally accepted accounting principles (“GAAP”) for nongovernmental entities. The Codification does not change GAAP. Instead, it takes the thousands of individual pronouncements that currently comprise GAAP and reorganizes them into approximately 90 accounting Topics, and displays all Topics using a consistent structure. Contents in each Topic are further organized first by Subtopic, then Section and finally Paragraph. The Paragraph level is the only level that contains substantive content. Citing particular content in the Codification involves specifying the unique numeric path to the content through the Topic, Subtopic, Section and Paragraph structure. FASB suggests that all citations begin with “FASB ASC,” where ASC stands for Accounting Standards Codification. SFAS 168, (FASB ASC 105-10-05, 10, 15, 65, 70) is effective for interim and annual periods ending after September 15, 2009 and will not have an impact on the Company’s financial position but will change the referencing system for accounting standards. The following pronouncements provide citations to the applicable Codification by Topic, Subtopic and Section in addition to the original standard type and number.

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued)

FSP EITF 99-20-1, “Amendments to the Impairment Guidance of EITF Issue No. 99-20,” (FASB ASC 325-40-65) (“FSP EITF 99-20-1”) was issued in January 2009. Prior to the FSP, other-than-temporary impairment was determined by using either Emerging Issues Task Force (“EITF”) Issue No. 99-20, “Recognition of Interest Income and Impairment on Purchased Beneficial Interests and Beneficial Interests that Continue to be Held by a Transferor in Securitized Financial Assets,” (“EITF 99-20”) or SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” (“SFAS 115”) depending on the type of security. EITF 99-20 required the use of market participant assumptions regarding future cash flows regarding the probability of collecting all cash flows previously projected. SFAS 115 determined impairment to be other than temporary if it was probable that the holder would be unable to collect all amounts due according to the contractual terms. To achieve a more consistent determination of other-than-temporary impairment, the FSP amends EITF 99-20 to determine any other-than-temporary impairment based on the guidance in SFAS 115, allowing management to use more judgment in determining any other-than-temporary impairment. The FSP was effective for reporting periods ending after December 15, 2008. Management has reviewed the Company’s security portfolio and evaluated the portfolio for any other-than-temporary impairments.

The Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No. 111 (FASB ASC 320-10-S99-1) on April 9, 2009 to amend Topic 5.M., “Other Than Temporary Impairment of Certain Investments in Debt and Equity Securities” and to supplement FSP SFAS 115-2 and SFAS 124-2. SAB 111 maintains the staff’s previous views related to equity securities; however debt securities are excluded from its scope. The SAB provides that “other-than-temporary” impairment is not necessarily the same as “permanent” impairment and unless evidence exists to support a value equal to or greater than the carrying value of the equity security investment, a write-down to fair value should be recorded and accounted for as a realized loss. The SAB was effective upon issuance and the Company recognized pretax losses in the amount of $826,000 as of June 30, 2009.

SFAS 165 (FASB ASC 855-10-05, 15, 25, 45, 50, 55), “Subsequent Events,” (“SFAS 165”) was issued in May 2009 and provides guidance on when a subsequent event should be recognized in the financial statements. Subsequent events that provide additional evidence about conditions that existed at the date of the balance sheet should be recognized at the balance sheet date. Subsequent events that provide evidence about conditions that arose after the balance sheet date but before financial statements are issued, or are available to be issued, are not required to be recognized. The date through which subsequent events have been evaluated must be disclosed as well as whether it is the date the financial statements were issued or the date the financial statements were available to be issued. For nonrecognized subsequent events which should be disclosed to keep the financial statements from being misleading, the nature of the event and an estimate of its financial effect, or a statement that such an estimate cannot be made, should be disclosed. The standard is effective for interim or annual periods ending after June 15, 2009. See Note 1 for Management’s evaluation of subsequent events.

Existence of Securities and Exchange Commission Web Site

The Securities and Exchange Commission maintains a Web site that contains reports, proxy and information statements and other information regarding registrants that file electronically with the Commission, including F & M Bank Corp. and the address is (http: //www.sec.gov).

TABLE 1

F & M BANK CORP.
NET INTEREST MARGIN ANALYSIS
(ON A FULLY TAXABLE EQUIVALENT BASIS)
(Dollar Amounts in Thousands)

		Six Months Ended												Six Months Ended												Three Months Ended												Three Months Ended
		June 30, 2009												June 30, 2008												June 30, 2009												June 30, 2008
		Average				Income/								Average				Income/								Average				Income/								Average				Income/
		Balance				Expense				Rates				Balance				Expense				Rates				Balance				Expense				Rates				Balance				Expense				Rates
Rate related income
Loans held for investment1,2,3		$	409,421			$	12,670				6.19	%		$	330,486			$	11,253				6.81	%		$	418,967			$	6,451				6.16	%		$	338,466			$	5,668				6.70	%
Loans held for sale			28,003				551				3.94	%			5,838				120				4.11	%			32,750				324				3.96	%			9,951				99				3.98	%
Federal funds sold			2,316				2				.17	%			2,513				29				2.31	%			2,541				1				.16	%			2,607				13				1.99	%
Bank deposits			1,181				26				4.40	%			3,017				75				4.97	%			1,076				13				4.83	%			1,746				22				5.04	%
Investments
Taxable			17,888				436				4.87	%			20,130				557				5.53	%			17,113				211				4.93	%			19,085				270				5.66	%
Partially taxable 2			3,406				119				6.99	%			5,611				244				8.70	%			5,162				60				4.65	%			5,252				112				8.53	%
Tax exempt 2			77				3				7.87	%			214				5				4.67	%			30								.40	%			177				2				4.52	%
Total earning assets			462,292				13,807				5.97	%			367,809				12,283				6.68	%			477,639				7,060				5.91	%			377,284				6,186				6.56	%
Interest Expense
Demand deposits			68,698				515				1.50	%			57,762				380				1.32	%			73,223				281				1.54	%			59,127				162				1.10	%
Savings			31,532				108				.69	%			29,114				145				1.00	%			32,882				45				.55	%			29,538				72				.98	%
Time deposits			213,872				3,416				3.19	%			163,108				3,490				4.28	%			218,360				1,644				3.01	%			161,172				1,659				4.12	%
Short-term debt			21,816				56				.51	%			16,458				186				2.26	%			23,616				28				.47	%			22,186				109				1.97	%
Long-term debt			68,395				1,155				3.38	%			43,789				856				3.91	%			66,032				551				3.34	%			47,131				452				3.84	%
Total interest bearing liabilities			404,313				5,250				2.60	%			310,231				5,057				3.26	%			414,113				2,549				2.46	%			319,154				2,454				3.08	%
Net interest income 2						$	8,557											$	7,226											$	4,511											$	3,732
Net yield on interest earning assets 2											3.70	%											3.93	%											3.78	%											3.96	%