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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q

/X/     QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarter period ended September 30, 2003

/  /     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______ to _______

Commission File Number: 33-81890

Community Bankshares, Inc.
(Exact name of registrant as specified in its charter)

(706) 778-2265
(Registrant’s telephone number, including area code)

N/A
(Former name, former address and former fiscal
year, if changed since last report)

Indicate by check mark whether the registrant has (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes  þ   No  ¨

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of November 5, 2003:  2,144,195

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COMMUNITY BANKSHARES, INC.
AND SUBSIDIARIES
INDEX

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PART I - FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

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COMMUNITY BANKSHARES, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
AND COMPREHESIVE INCOME
THREE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 AND
NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(Dollars in thousands, except per share amounts)
(Unaudited)

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 See Notes to Consolidated Financial Statements

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COMMUNITY BANKSHARES, INC.
AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1.             BASIS OF PRESENTATION

The consolidated financial information included herein is unaudited; however, such information reflects all adjustments (consisting solely of normal recurring adjustments) which are, in opinion of management, necessary for a fair statement of results for the interim periods.

The results of operations for the three and nine month periods ending September 30, 2003 are not necessarily indicative of the results to be expected for the full year.

NOTE 2.  STOCK COMPENSATION PLAN

As of September 30, 2003, the Company had a stock-based employee compensation plan.  The Company accounts for the plan under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations.  No stock-based employee compensation cost is reflected in net income, as all options granted under the plan had an exercise price equal to the market value of the underlying stock on the date of grant.  The following table illustrates the effect on net income and earnings per share, dollars in thousands, if the Company had applied the fair value recognition provisions of Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation.

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NOTE 3.              EARNINGS PER COMMON SHARE

The following is a reconciliation of net income (the numerator) and weighted-average shares outstanding (the denominator) used in determining basic and diluted earnings per common share (EPS).

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NOTE 4.            SEGMENT INFORMATION

Selected segment information by industry segment for the three and nine month periods ended September 30, 2003 and 2002 is as follows:

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NOTE 5.  RECENT DEVELOPMENTS

Recent Developments

In November 2002, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others”.  The interpretation addresses the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees.  The interpretation also clarifies the requirements related to the recognition of a liability by a guarantor at the inception of a guarantee, for the fair value of the obligation undertaken in issuing the guarantee.  The initial recognition and initial measurement provisions of the interpretation are to be applied to guarantees issued or modified after December 31, 2002.  As of September 30, 2003, the interpretation has not had a material effect on the financial condition or results of operations, and there are no guarantees required to disclose. 

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COMMUNITY BANKSHARES, INC.
AND SUBSIDIARIES

ITEM 2.  MANAGEMENT DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Forward Looking Statements

This discussion contains forward-looking statements under the Private Securities Litigation Reform Act of 1995 that involve risks and uncertainties.  Although the Company believes the assumptions underlying the forward-looking statements contained in the discussion are reasonable, any of the assumptions could be inaccurate, and therefore, no assurance can be made that any of the forward-looking statements included in this discussion will be accurate.  Factors that could cause actual results to differ from results discussed in forward-looking statements include, but are not limited to:  economic conditions (both generally and in the markets where the Company operates); competition from other providers of financial services; government regulation and legislation; changes in interest rates; and material unforeseen changes in the financial stability and liquidity of the Company’s credit customers; all of which are difficult to predict and which may be beyond the control of the Company.  The Company undertakes no obligation to revise forward-looking statements to reflect events or changes after the date of this discussion or to reflect the occurrence of unanticipated events.

Management’s Discussion and Analysis

The following is management’s discussion and analysis of certain significant factors which have affected our financial position and operating results during the periods included in the accompanying consolidated financial statements.

Financial Condition

As of September 30, 2003, we continue to experience growth in total assets, total loans and total deposits as compared to December 31, 2002.  Total assets, loans, and deposits increased by 5.0%, 5.24% and 5.55% respectively.  The growth in total assets and deposits, although less than the same period in 2002, is consistent with management’s expectations.  The growth in assets is attributable to growth in deposits and retention of earnings.  Management expects the growth to continue in the future.

Liquidity

As of September 30, 2003, the liquidity ratio was 21.76% which is within our target range of 20 - 25%.    Liquidity is measured by the ratio of net cash, short term and marketable securities to net deposits and short term Liabilities.  Our Banks have available lines of credit to meet unexpected liquidity needs.

Interest Rate Risk

Our guideline is to allow no more than 8% change in net interest income when interest rates rise or fall 200 basis points or more.  Our overall interest rate risk was less than 4% of net interest income; therefore, we are within policy guidelines.  We have attempted to position ourselves to minimize the impact of further changes in rates in either direction.

Capital

Banking regulation requires the Company and the Banks to maintain minimum capital levels in relation to our assets.  At September 30, 2003, the Company’s and the Bank’s capital ratios were considered well capitalized based on regulatory minimum capital requirements.  The minimum capital requirements and the actual consolidated capital ratios at September 30, 2003 were as follows:

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A.  Results of Operation

Net Income

Net income for the nine month period ended September 30, 2003, was $4,056,000 or a decrease of 29.62% and for the three month period ended September 30, 2003 was $1,425,000 or a decrease of 43.79% over the same period for 2002.  These decreases are directly attributable to the decrease in revenue of our nonbank subsidiary.

Net Interest Income

Net interest income for the nine month period ended September 30, 2003 is up 10.79% over the same period for 2002, from $20,059,000 to $22,223,000, and is up 10.02% for the three month period ending September 30, 2003 from $6,935,000 in the same period in 2002 to $7,630,000 for 2003.   Interest income was down by .63% for the nine month period ending September 30, 2003 from $32,678,000 to $32,471,000 and down 1.28% for the three month period ending September 30, 2003 from $10,953,000 to $10,813,000.  The decrease was caused by the continued decline in the yield on earning assets from 7.39% during the first nine months of 2002 to 6.31% during the first nine months of 2003 offset by the increase in the volume of earning assets.  Earning assets had increased by 9.188% or $56,573,000 at September 30, 2003 as compared to September 30, 2002.  The largest increase in earning assets since September 30, 2002 was the increase in loans of $37,498,000 or 7.82%.  Securities increased by $67,000 while federal funds increased by $19,055,000.

Interest expense was down 18.79% or $2,371,000 for the nine month period ended September 30, 2003, over the same period in 2002 and down 20.28% or $835,000 for the three month period ending September 30, 2003, as compared to 2002.  These decreases were related directly to the lower interest rate environment.

The Company’s net interest margin was 4.72% for the nine month period ended September 30, 2003 compared to 4.64% for the same period in 2002.  Management anticipates a stable net interest margin over the next twelve months.  Any increase in rates would have a slight positive effect on our net interest margin.

Other Income

Other income decreased by $4,714,000 or 36.27% during the nine month period ended September 30, 2003 as compared to the same period for 2002 and the three month period ending September 30, 2003 showed a decrease of  $2,308,000 or 45.53% for the same three month period in 2002.  This decrease is primarily due to the termination of an agreement to establish banking pavilions between Financial Supermarkets, Inc. (“FSI”), a nonbank subsidiary, and the Canadian Imperial Bank of Commerce (“CIBC”).  It will take time and approximately 150-200 new unit sales to replace this income.  At this time, management is uncertain as to when this may be accomplished.  Management anticipates fewer sales of supermarket bank units and thus anticipates no revenue from this segment of our business during 2003.

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Service charges on deposit accounts increased by $194,000 or 5.08% for the nine month period ended September 30, 2003 as compared to the same period in 2002.  Service charges on deposits increased primarily as a result of the Company’s continued growth in checking accounts.  Other service charges, commissions and fees increased by 28.26% or $325,000 for the nine month period ending September 30, 2003 and 6.70% or $30,000 for the three month period during September 30, 2003 compared to the same periods in 2002.  The majority of this increase is attributed to the renegotiation of fees with our debit card service provider and the increase in volume of debit card transactions.  The gains on sale of loans increased by $25,000 during the nine month period ending September 30, 2003 as compared to the same period for 2002. 

Non Interest Expenses

Non interest expenses increased by 1.56% or $364,000 for the nine month period ending September 30, 2003 and 2.06% or $161,000 for the three month period ending September 30, 2003 compared to the same periods in 2002.  Full time equivalent employees increased from 387 at the end of  September 2002 to 396 at the end of September 2003.  The increase in full time equivalent employees was influenced by the addition of two new supermarket banking centers and one new stand-alone branch during the past year as well as the overall growth of the Company’s banking operations.  The decline in salaries and benefits by 1.01% or $37,000 was a result of a reduced level of accrual of incentive compensation associated with the reduced level of sales activity at FSI.   Due to ongoing branching activity, equipment and occupancy expenses were up by 5.18% or $195,000 for the nine month period ending September 30, 2003 and 1.78% or $23,000 for the three month period ending September 30, 2003 as compared to the same periods in 2002.  Other operating expenses increased by 3.59% or $236,000 for the nine month period ending September 30, 2003 and 7.02% or $154,000 for the three month period ending September 30, 2003 as compared to the same periods in 2002.  The majority of this increase is attributed to the change in our fee structure with our debit card provider and an increased effort in business development and marketing of our nonbank subsidiary.  In addition, legal fees have increased by $53,000 or 42.74% due to legal services related to past due loans and other real estate owned.

Income Taxes

We incurred income tax expenses of $437,000 which represents an effective rate of 23.47% for the three month period ended September 30, 2003 as compared to $1,006,000 which represents an effective tax rate of 28.41% for the same period in 2002.  In addition, we incurred income tax expenses of $1,061,000 which represents an effective rate of 20.73% for the nine month period ended September 30, 2003 as compared to $2,259,000 which represents an effective tax rate of 28.16% for the same period in 2002.  The decrease is due to a smaller portion of our income being fully taxable.

We are not aware of any other known trends, events or uncertainties, other than the effect of events as described above, that will have or that are reasonably likely to have a material effect on its liquidity, capital resources or operations.  We are also not aware of any current recommendations by the regulatory authorities which, if they were implemented, would have such an effect.

B.  Asset Quality

Provision for Loan Loss

The provision for loan losses was $1,686,000 and $1,694,000 for the first nine months of 2003 and 2002 respectively.  The provision for loan losses for the nine month period ended September 30, 2003 represented 98.83% of net charge offs for the same period, while the provision for the first nine months of 2002 represented 127.5% of the net charge offs recorded in that period.  The reserve at September 30, 2003 represented 476% of non-accrual loans while the reserve at September 30, 2002 represented 180% of non-accrual loans.  Non accrual loans have decreased from $3,997,000 at September 30, 2002 to $1,658,000 as of September 30, 2003.  Past due loans greater than 90 days and accruing interest have decreased from $2,367,000 in 2002 to $2,270,000 in 2003.

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Repossessed real estate owned by the bank increased from $3,751,000 in September 2002 to $5,828,000 in September 2003 or 55%.  Other real estate is carried in the books at the lesser of cost or fair market value with no loss anticipated.  During early April 2003 the Company moved approximately $2,000,000 from non-accrual loan status to other real estate. 

Non-accrual, Past Due and Restructured Debt

The following table is a summary, dollars in thousands, of Non Accrual, Past due and Restructured Debt

September 30, 2003

September 30, 2002

Loans classified for regulatory purposes as loss, doubtful, substandard, or special mention that have not been included in the table above do not represent or result from trends or uncertainties which management reasonably expects will materially impact future operating results, liquidity or capital resources.  These classified loans do not represent material credits about which management is aware of any information which causes management to have doubts concerning the collectibility of such credits.

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The accrual of interest on loans is discontinued when, in management’s opinion, the borrower may be unable to meet payments as they become due, unless the loan is well-secured.  All interest accrued but not collected for loans that are placed on nonaccrual or charged off is reversed against interest income.  Interest income on nonaccrual loans is subsequently recognized only to the extent cash payments are received, until the loans are returned to accrual status.

Allowance for Loan Loss

The loan loss reserve is evaluated monthly and adjusted to reflect the risk in the portfolio in the following manner.  We use two different methods of measuring risk in the portfolio:  we evaluate the (a) risk in our watch list of loans and past due ratios and (b) percentage of classified loans.  We then compare results to reserve balances to assure any and all identified risk is covered.

The following table furnishes information on the loan loss reserve for the current nine month reporting period and the same period for 2002.

The increase in charged off real estate loan is due primarily to three loans totaling approximately $343,000.

Our Company operates in three distinct markets, northeast Georgia, midwest Georgia and mideast Alabama.  Each of these markets has seen a modest increase in unemployment and bankruptcy filings.  These increases however have been lower than those experienced by the national economy as a whole.

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Management has reviewed the non-accrual loans individually and determined that the likelihood of any significant loss of principal is mitigated due to the value of the collateral securing these loans.  As of September 30, 2003, non-accrual loans and other real estate owned totaled approximately $7,486,000 as compared to $7,748,000 as of September 30, 2002.  The ratio of the loan loss reserve balance to the total loan balance at September 30, 2003 was 1.53% as compared to 1.50% at September 30, 2002.  As of  September 30, 2003, management considered our allowance for loan losses adequate to cover any anticipated losses.

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   ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company is exposed only to U.S. dollar interest rate changes and the Company manages this exposure by considering the possible changes in the net interest margin.  The Company does not have any trading instruments nor does it classify any portion of the investment portfolio as held for trading.  The Company does not engage in any hedging activities or enter into any derivative instruments other than mortgage backed securities, which are commonly pass through securities.   Finally, the Company has no exposure to foreign currency exchange rate risk, commodity price risk, and other market risks. 

Interest rates play a major part in the net interest income of a financial institution.  The sensitivity to rate changes is known as “interest rate risk”.  The repricing of interest earning assets and interest-bearing liabilities can influence the changes in net interest income.  As part of the Company’s asset/liability management program, the timing of repriced assets and liabilities is referred to as Gap management. 

The Company’s objective in Gap management is to manage assets and liabilities to maintain satisfactory and consistent profitability.  Officers of each bank are charged with monitoring policies and procedures designed to ensure an acceptable asset/liability mix.  Management’s philosophy is to support asset growth primarily through growth of core deposits within the banks’ market areas.

The Company’s asset/liability mix is monitored regularly with a report reflecting the interest rate sensitive assets and interest rate sensitive liabilities that is prepared and presented to the Board of Directors of each bank on at least a quarterly basis.  Management’s objective is to monitor interest rate sensitive assets and liabilities so as to minimize the impact on earnings of substantial fluctuations in interest rates.  An asset or liability is considered to be interest rate-sensitive if it will reprice or mature within the time period analyzed, usually one year or less.  The interest rate-sensitivity gap is the difference between the interest-earning assets and interest-bearing liabilities scheduled to mature or reprice within the relevant period.  A gap is considered positive when the amount of interest rate-sensitive assets exceeds the amount of interest rate-sensitive liabilities.  A gap is considered negative when the amount of interest rate-sensitive liabilities exceeds the interest rate-sensitive assets.  During a period of rising interest rates, a negative gap would tend to adversely affect net interest income, while a positive gap would tend to result in an increase in net interest income.  Conversely, during a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a positive gap would tend to adversely affect net interest income.  If the Company’s assets and liabilities were equally flexible and moved concurrently, the impact of any increase or decrease in interest rates on net interest income would be minimal.

A simple interest rate “gap” analysis by itself may not be an accurate indicator of how net interest income will be affected by changes in interest rates.  For example, while interest-bearing transaction accounts are by their terms immediately repricable, competitive conditions and other circumstances usually preclude repricing such deposits proportionately with changes in rates affecting interest-earning assets.  Accordingly, the Company also evaluates how changes in interest rates impacts the repayment of particular assets and liabilities.  Income associated with interest-earning assets and costs associated with interest-bearing liabilities may not be affected uniformly by changes in interest rates.  In addition, the magnitude and duration of changes in interest rates may significantly affect net interest income.  For example, although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees to changes in market interest rates.  Interest rates on certain types of assets and liabilities fluctuate in advance of changes in general market rates, while interest rates on other types may lag behind changes in general market rates.  In addition, certain assets have features (generally referred to as “interest rate caps and floors”) which limit changes in interest rates.  Also, prepayments and early withdrawal levels could deviate significantly from those reflected in the interest rate gap.  The Company prepares a report monthly that measures the potential impact on net interest margin by rising or falling rates.  This report is reviewed monthly by the Asset/Liability Committee and quarterly by each Board of Director.

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At September 30, 2003, the Company’s cumulative interest rate sensitivity gap ratio for the next twelve months was 112% which was within its targeted range of 80% to 120%.

Gap management alone is not enough to properly manage interest rate sensitivity because interest rates do not respond at the same speed or at the same level to market rate changes.  For example, savings and money market rates are more stable than loans tied to a “Prime” rate and thus respond with less volatility to a market rate change.  Thus, the Company uses a simulation model to monitor changes in net interest income due to changes in market rates.  The model of rising, falling and stable interest rate scenarios allows management to monitor and adjust interest rate sensitivity to minimize the impact of market rate swings.  The analysis of impact on net interest margins as well as market value of equity over a twelve-month period is subjected to a 200 basis point increase and decrease in rate.  The September 2003 model reflects an increase of  2.75% in net interest income and a 15.36% decrease in market value equity for a 200 basis point increase in rates.  The same model shows a 3.63% decrease in net interest income and a 20.58% increase in market value equity for a 200 basis point decrease in rates.  The Company’s policy is to allow no more than +-8% change in net interest income and no more than +-25% change in market value equity for these scenarios. Therefore, the Company is within its policy guidelines.

ITEM 4.                 CONTROLS & PROCEDURES

Our management, including the chief executive and chief financial officers, supervised and participated in an evaluation of our disclosure controls and procedures (as defined in federal securities rules) as of the end of the period covered by this report.  Based on, and as of the date of,  that evaluation, our CEO and CFO have concluded that our disclosure controls and procedures are effective in accumulating and communicating information to our management, including our  CEO and CFO, as appropriate to allow timely decisions regarding required disclosures of that information under the Securities and Exchange Commission rules and forms and that our disclosure controls and procedures are designed to ensure that the information we are required to disclose in reports that we file or submit under all applicable federal securities laws is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms.

There were no significant changes in our internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation.

                                                                     PART II – OTHER INFORMATION

ITEM 6.  Exhibits and Reports on Form 8-K

(a)  Exhibits

           31.1 and 31.2 - Rule 13a-15(e) and 15d-15(e) Certifications

           32.1 and 32.2 - Certifications of Chief Executive Officer, and Chief Financial Officer,
                   Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant To Section 906 of the Sarbanes- Oxley Act of 2002.

(b)  Reports on Form 8-K

      None.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.