BAY BANKS OF VIRGINIA INC (Form: 10-K, Received: 03/31/2003 13:20:48)

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

FORM 10-K

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

For the fiscal year ended December 31, 2002

Commission file no: 0-22955

BAY BANKS OF VIRGINIA, INC.
(Exact name of registrant as specified in its charter)

VIRGINIA		54-1838100
(State of Incorporation)		(I.R.S. Employer Identification no.)

100 SOUTH MAIN STREET, KILMARNOCK, VIRGINIA 22482
(Address of principal executive offices) (Zip Code)

Registrants telephone number: 804.435.1171

Securities registered under Section 12(b) of the Exchange Act: None

Securities registered under Section 12(g) of the Exchange Act:

Common Stock ($5.00 Par Value)
(Title of Class)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

YES x

NO o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).

YES o

NO x

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x

The aggregate market value of voting stock held by non-affiliates of the registrant based on the closing sale price of the registrant’s common stock on June 28, 2002, was $42,014,730.

The number of shares outstanding of the registrant’s common stock as of March 28, 2003: 2,311,189

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s 2002 Annual Report to Shareholders are incorporated by reference into Part II of this Form 10-K.

Portions of the registrant’s definitive Proxy Statement for its Annual Meeting of Shareholders to be held on May 19, 2003 are incorporated by reference into Part III of this Form 10-K.

Form 10-K
TABLE OF CONTENTS

ITEM NUMBER		ITEM	PAGE NUMBER

		PART I
	1.	BUSINESS	3

		STATISTICAL INFORMATION	9

	2.	PROPERTIES	13

	3.	LEGAL PROCEEDINGS	13

	4.	SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS	13

		PART II

	5.	MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS	13

	6.	SELECTED FINANCIAL DATA	15

	7.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	16

	7A.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	16

	8.	FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA	16

	9.	CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE	16

		PART III

	10.	DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT	17

	11.	EXECUTIVE COMPENSATION	17

	12.	SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS	17

	13.	CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS	17

	14.	CONTROLS AND PROCEDURES	17

		PART IV

	15.	EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K	17

		SIGNATURES	19

This report contains certain forward-looking statements with respect to the financial condition, results of operations, plans, objectives and business of Bay Banks of Virginia, Inc. and its subsidiaries. These forward-looking statements involve certain risks and uncertainties. Factors that may cause actual results to differ materially from those contemplated by such forward-looking statements include, among others, the following: (a) competitive pressure in the financial services industry increases significantly; (b) changes in the interest rate environment that reduce margins; (c) general economic conditions, either nationally or regionally, are less favorable than expected, resulting in, among other things, a deterioration in credit quality; (d) changes occur in the financial services regulatory environment; and (e) changes occur in the securities markets.

PART I

ITEM 1: BUSINESS

Nature of Business. Bay Banks of Virginia, Inc. (the “Company”) is a bank holding company that conducts substantially all of its operations through its subsidiaries, Bank of Lancaster (the “Bank”), and Bay Trust Company (the “Trust Company”). Bay Banks of Virginia, Inc. was incorporated under the laws of the Commonwealth of Virginia on June 30, 1997, in connection with the holding company reorganization of the Bank of Lancaster.

The Bank is a state-chartered bank and a member of the Federal Reserve System. The Bank services individual and commercial customers, the majority of which are in the Northern Neck of Virginia, by providing a full range of banking and related financial services, including checking, savings, other depository services, commercial and industrial loans, residential and commercial mortgages, home equity loans, and consumer installment loans.

The Bank has two offices located in Kilmarnock, Virginia, one office in White Stone, Virginia, one office in Warsaw, Virginia, one office in Montross, Virginia, one office in Heathsville, Virginia, and one office in Callao, Virginia. A substantial amount of the Bank’s deposits are interest bearing, and the majority of the Bank’s loan portfolio is secured by real estate. Deposits of the Bank are insured by the Bank Insurance Fund of the Federal Deposit Insurance Corporation (the “FDIC”). The Bank opened for business in 1930 and has partnered with the community to ensure responsible growth and development since that time.

In August of 1999, Bay Banks of Virginia formed Bay Trust Company. This subsidiary of the Company was created to purchase and manage the assets of the trust department of the Bank of Lancaster. The sale and transfer of assets from the Bank to the Trust Company was completed as of the close of business on December 31, 1999. As of January 1, 2000, the Bank of Lancaster no longer owned or managed the trust function, and thereby no longer receives an income stream from the trust department. Income generated by the Trust Company is consolidated with the Bank’s income and the Company’s income for the purposes of the Company’s consolidated financial statements. The Trust Company opened for business on January 1, 2000 in its permanent location on Main Street in Kilmarnock, Virginia.

The Trust Company offers a broad range of trust and related fiduciary services. Among these are testamentary trusts, revocable and irrevocable personal, managed agency, and custodial trusts, as well as discount brokerage services.

The Company’s marketplace is situated on the “Northern Neck” peninsula of Virginia’s western shore. The “Northern Neck” includes the counties of Lancaster, Northumberland, Middlesex, Richmond, and Westmoreland. The Company’s primary trading area is dominated by smaller, retired households with relatively high per capita incomes. Growth in households, employment, and retail sales is moderate but the local economic conditions are stable as growth has been positive for several years. Health care, tourism, and related services are the major employment sectors in the “Northern Neck.”

The Company had $263,060,149 in total assets and $231,516,181 in total deposits as of December 31, 2002. Net earnings for the year ended December 31, 2002, were $2,301,401. Loan demand was steady as net loans increased to $168,442,156.

Lending Activities. Through the Bank of Lancaster, the Company provides a wide range of real estate, consumer, and commercial lending services to its customers in its market area.

Real Estate Lending. The Bank’s real estate loan portfolio is the largest segment of the loan portfolio. Loans secured by real estate increased to $140,343,743 during 2002. This balance is 82.6% of total loans outstanding. The Bank offers fixed and adjustable rate loans on one-to-four family residential properties. These mortgages are underwritten and documented within the guidelines of the Regulations of the Board of Governors of the Federal Reserve System (the “Federal Reserve”). The Bank underwrites mainly adjustable rate mortgages as the marketplace allows. Construction loans with a twelve-month term are also a major component of the Bank’s portfolio. Underwritten at 80% loan to value, and to qualified builders and individuals, these loans are disbursed as construction progresses and verified by Bank inspection. The Bank also offers commercial loans that are secured by real estate. These loans are typically written at 80% loan to value and are either variable with the prime rate of interest, or adjustable in one, three, or five year terms.

The Company also offers secondary market loan origination. Through the Bank, customers may apply for a home mortgage that will be underwritten in accordance with the guidelines of the Federal Home Loan Mortgage

Corporation. These loans are then sold into the secondary market on a loan by loan basis. The Bank earns origination fees through offering this service. Customers, upon approval, receive a fixed or adjustable rate of interest with amortization terms up to 30 years. Since these loans are sold into the secondary market, the Company earns no future interest income, nor does it incur any interest rate or re-pricing risk.

Consumer Lending. Consumer loans totaled $9,995,591 as of December 31, 2002, which amount to 5.9% of the total loans outstanding. In an effort to offer a full range of services, the Bank’s consumer lending includes automobile and boat financing, home improvement loans, and unsecured personal loans. These loans historically entail greater risk than loans secured by real estate, but also offer a higher return.

Commercial Lending. Commercial lending activities include small business loans, asset based loans, and other secured and unsecured loans and lines of credit. Commercial loan balances were $16,762,800 at year-end 2002 and 9.9% of total loans outstanding. Commercial lending may entail greater risk than residential mortgage lending, and is therefore underwritten with strict risk management standards. Among the criteria for determining the borrower’s ability to repay is a cash flow analysis of the business and business collateral.

Business Development. The Bank offers several services to commercial customers. These services include Analysis Checking, Cash Management Deposit Accounts, Wire Services, Direct Deposit Payroll Service, and a full line of Commercial Lending options. The Bank also offers Small Business Administration “Low Document” Loan products. This allows commercial customers to apply for favorable rate loans for the development of business opportunities, while providing the Bank with a partial guarantee of the outstanding loan balance.

Bay Services Company, Inc. The Bank has one wholly owned subsidiary, Bay Services Company, Inc., a Virginia corporation organized in 1994 (“Bay Services”). Bay Services owns an interest in a land title insurance agency, Bankers Title of Fredericksburg, which generally sells title insurance to mortgage loan customers, including customers of the Bank and the other financial institutions that have an ownership interest in the agency. Bay Services has also invested in an insurance and investment services agency, Bankers Investment Group. This agency will provide the Bank’s non-deposit products department with insurance and investment products for marketing within the Bank’s primary marketing area.

Competition. The Bank’s marketplace is highly competitive, and the Bank is subject to competition from a variety of commercial banks and financial service companies. For deposits, the Bank competes with statewide banking institutions, local community banks, major investment brokerage companies, insurance companies, and other issuers of money markets and mutual fund products. For loans, the Bank competes with other commercial banks, savings and loans, credit unions, major investment brokerage companies, and consumer finance companies. As the marketplace continues to develop, the Bank expects competition to increase.

Supervision and Regulation. Bank holding companies and banks are regulated under both federal and state law. The Company is subject to regulation by the Federal Reserve. Under the Bank Holding Company Act of 1956, the Federal Reserve exercises supervisory responsibility for any non-bank acquisition, merger or consolidation. In addition, the Bank Holding Company Act limits the activities of a bank holding company and its subsidiaries to that of banking, managing or controlling banks, or any other activity that is closely related to banking. In addition, the Company is registered under the bank holding company laws of Virginia, and as such is subject to regulation and supervision by the State Corporation Commission Bureau of Financial Institutions.

The following description summarizes the significant state and Federal laws to which the Company and the Bank are subject. To the extent statutory or regulatory provisions or proposals are setforth, the description is qualified in its entirety by reference to the particular statutory or regulatory provisions or proposals.

The Bank is supervised and regularly examined by the Federal Reserve and the Commonwealth of Virginia’s State Corporation Commission Bureau of Financial Institutions. These on-site examinations verify compliance with regulations governing corporate practices, capitalization, and safety and soundness. Further, the Bank is subject to the requirements of the Community Reinvestment Act (the “CRA”). The CRA requires financial institutions to meet the credit needs of the local community, including low to moderate-income needs. Compliance with the CRA is monitored through regular examination by the Federal Reserve.

Federal Reserve regulations permit bank holding companies to engage in non-banking activities closely related to banking or to managing or controlling banks. These activities include the making or servicing of loans, performing certain data processing services, and certain leasing and insurance agency activities.

The Company owns 100% of the stock of the Bank of Lancaster. The Bank is prohibited by the Federal Reserve from holding or purchasing its own shares except in limited circumstances. Further, the Bank is subject to certain requirements as imposed by state banking statutes and regulations. The Bank is limited by the Federal Reserve regarding what dividends it can pay the Company. Any dividend in excess of the total of the Bank’s net profit for that year plus retained earnings from the prior two years must be approved by the proper regulatory agencies. Further, under the Federal Deposit Insurance Corporation Improvement Act of 1991 (the “FDICIA”), insured depository institutions are prohibited from making capital distributions, if, after making such distributions, the institution would become “undercapitalized” as defined by regulation. Based upon the Bank’s current financial position, it is not anticipated that this statute will impact the continued operation of the Bank.

As a bank holding company, Bay Banks of Virginia is required to file with the Federal Reserve an annual report and such additional information as it may require pursuant to the Bank Holding Company Act. The Federal Reserve may also conduct examinations of the Company and any or all of its subsidiaries.

Capital Requirements. The Federal Reserve, the Office of the Comptroller of the Currency (the “OCC”) and the FDIC have issued substantially similar risk-based and leverage capital guidelines applicable to banking organizations. In addition, those regulatory agencies may from time to time require that a banking organization maintain capital above the minimum levels because of its financial condition or actual or anticipated growth. Under the risk-based capital requirements of these federal bank regulatory agencies, the Company and the Bank are required to maintain a minimum ratio of total capital to risk-weighted assets of 8%. At least half of the total capital is required to be “Tier 1 capital”, which consists principally of common and certain qualifying preferred shareholders’ equity, less certain intangibles and other adjustments. The remainder (“Tier 2 capital”) consists of a limited amount of subordinated and other qualifying debt (including certain hybrid capital instruments) and a limited amount of the general loan loss allowance. The Tier 1 and total capital to risk-weighted asset ratios of the Company as of December 31, 2002 were 11.5% and 12.5%, respectively, exceeding the minimum requirements.

In addition, each of the federal regulatory agencies has established a minimum leverage capital ratio (Tier 1 capital to average risk-weighted assets) (“Tier 1 leverage ratio”). These guidelines provide for a minimum Tier 1 leverage ratio of 4% for banks and bank holding companies that meet certain specified criteria, including that they have the highest regulatory examination rating and are not contemplating significant growth or expansion. The Tier 1 leverage ratio of the Company as of December 31, 2002, was 7.9%, which is well above the minimum requirement. The guidelines also provide that banking organizations that are experiencing internal growth or making acquisitions will be expected to maintain strong capital positions substantially above the minimum supervisory levels, without significant reliance on intangible assets.

Deposit Insurance. Pursuant to FDICIA, the FDIC adopted a risk-based assessment system for insured depository institutions that takes into account the risks attributable to different categories and concentrations of assets and liabilities. The risk-based system assigns an institution to one of three capital categories: (i) well-capitalized, (ii) adequately capitalized, or (iii) undercapitalized. The FDIC also assigns an institution to one of three supervisory subgroups within each capital group. The supervisory subgroup to which an institution is assigned is based on an evaluation provided to the FDIC by the institution’s primary federal regulator and information which the FDIC determines to be relevant to the institution’s financial condition and the risk posed to the deposit insurance funds (which may include, if applicable, information provided by the institution’s state supervisor). An institution’s insurance assessment rate is then determined based on the capital category and supervisory category to which it is assigned.

Under the final risk-based assessment system there are nine assessment risk classifications (i.e., combinations of capital groups and supervisory subgroups) to which different assessment rates are applied. Assessment rates for deposit insurance currently range from zero basis points ($2,000 minimum) to 27 basis points. The capital and supervisory subgroup to which an institution is assigned by the FDIC is confidential and may not be disclosed. A bank’s rate of deposit insurance assessments will depend upon the category and subcategory to which the bank is assigned by the FDIC. Any increase in insurance assessments could have an adverse effect on the earnings of insured institutions, including the Bank.

Safety and Soundness Standards. The FDIC has adopted guidelines that establish standards for safety and soundness of banks. They are designed to identify potential safety and soundness problems and ensure that banks address those concerns before they pose a risk to the deposit insurance fund. If the FDIC determines that an institution fails to meet any of these standards, the agency can require the institution to prepare and submit a plan to come into compliance. If the agency determines that the plan is unacceptable or is not implemented, the agency must, by order, require the institution to correct the deficiency.

The FDIC also has safety and soundness regulations and accompanying guidelines on asset quality and earnings standards. The guidelines provide six standards for establishing and maintaining a system to identify problem assets and prevent those assets from deteriorating. The guidelines also provide standards for evaluating and monitoring earnings and for ensuring that earnings are sufficient to maintain adequate capital and reserves. If an institution fails to comply with a safety and soundness standard, the agency may require the institution to submit and implement an acceptable compliance plan, or face enforcement action.

The Gramm-Leach-Bliley Act of 1999 . The Gramm-Leach-Bliley Act of 1999 (“GLBA”) was signed into law on November 12, 1999. The main purpose of GLBA is to permit greater affiliations within the financial services industry, primarily banking, securities and insurance. The provisions of GLBA that are believed to be of most significance to the Company are discussed below.

GLBA repealed sections 20 and 32 of the Glass-Steagall Act, which separated commercial banking from investment banking, and substantially amends the Bank Holding Company Act which limited the ability of bank holding companies to engage in the securities and insurance businesses. To achieve this purpose, GLBA created a new type of company, the “financial holding company.” A financial holding company may engage in or acquire companies that engage in a broad range of financial services, including

	•	securities activities such as underwriting, dealing, brokerage, investment and merchant banking; and

	•	insurance underwriting, sales and brokerage activities.

A bank holding company may elect to become a financial holding company only if all of its depository institution subsidiaries are well-capitalized, well-managed and have at least a satisfactory CRA rating. For various reasons, the Company has not elected to be treated as a financial holding company.

GLBA establishes a system of functional regulation under which the federal banking agencies regulate the banking activities of financial holding companies and banks’ financial subsidiaries, the Securities and Exchange Commission regulate their securities activities and state insurance regulators will regulate their insurance activities.

GLBA and certain regulations issued by federal banking agencies also provide protection against the transfer and use by financial institutions of consumer’s nonpublic personal information. A financial institution must provide to its customers, at the beginning of the customer relationship and annually thereafter, the institution’s policies and procedures regarding the handling of customers’ nonpublic personal financial information. The privacy provisions generally prohibit a financial institution from providing a customer’s personal financial information to unaffiliated third parties unless the institution discloses to the customer that the information may be so provided and the customer is given the opportunity to opt out of such disclosure.

Neither the provisions of GLBA nor the act’s implementing regulations have had a material impact on the Company’s or the Bank’s regulatory capital ratios (as discussed above) or ability to continue to operate in a safe and sound manner.

Recent Legislation .

USA Patriot Act of 2001. In October 2001, the USA Patriot Act of 2001 was enacted in response to the terrorist attacks in New York, Pennsylvania and Washington, D.C. which occurred on September 11, 2001. The Patriot Act is intended to strengthen U.S. law enforcement and the intelligence communities’ abilities to work cohesively to combat terrorism on a variety of fronts. The potential impact of the Patriot Act on financial institutions of all kinds is significant and wide ranging. The Patriot Act contains sweeping anti-money laundering and financial transparency laws and imposes various regulations, including standards for verifying client identification at account opening, and rules to promote cooperation among financial institutions, regulators and law enforcement entities in identifying parties that may be involved in terrorism or money laundering.

Sarbanes-Oxley Act of 2002. On July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of 2002 (the “SOA”). The stated goals of the SOA are to increase corporate responsibility, to provide for enhanced penalties for accounting and auditing improprieties at publicly traded companies and to protect investors by improving the accuracy and reliability of corporate disclosures pursuant to the securities laws. The SOA is the most far-reaching U.S. securities legislation enacted since the 1930’s.

The SOA generally applies to all companies that file or are required to file periodic reports pursuant to the Securities Exchange Act of 1934 (the “Exchange Act”), including banks regulated by the FDIC. The SOA includes very specific additional disclosure requirements and new corporate governance rules, requires the Securities and Exchange Commission (the “SEC”) and securities exchanges to adopt extensive additional disclosure, corporate governance and other related rules and mandates further studies of specified issues by the SEC. The SOA represents significant federal involvement in matters traditionally left to state regulatory systems, such as the regulation of the accounting profession, and to state corporate law, such as the relationship between a board of directors and management and between a board of directors and its committees.

The SOA addresses, among other matters:

	•	audit committees;

	•	certification of financial statements by the chief executive officer and the chief financial officer;

	•	the forfeiture of bonuses or other incentive-based compensation and profits from the sale of an issuer’s securities by directors and senior officers in the twelve month period following initial publication of any financial statements that later require restatement;

	•	expedited filing requirements for Forms 4’s;

	•	disclosure of a code of ethics and filing a Form 8-K for a change or waiver of such code;

	•	the formation of a public accounting oversight board;

	•	auditor independence; and

•

various increased criminal penalties for violations of securities laws.

The SOA contains provisions that became effective upon enactment on July 30, 2002 and provisions that will become effective from within 30 days to one year from enactment. The SEC has been delegated the task of enacting rules to implement various provisions with respect to, among other matters, disclosure in periodic filings pursuant to the Exchange Act.

Index of Statistical Tables:

Table		Description

Table I		Average Balances, Income & Expense, Yields, and Rates
Table II		Volume & Rate Analysis of Changes in Net Interest Income
Table III		Types of Investments
Table IV		Investment Maturities & Average Yields
Table V		Types of Loans
Table VI		Loan Maturity Schedule of Selected Loans
Table VII		Risk Elements
Table VIII		Summary of Allowance for Loan Losses
Table IX		Allocation of the Allowance for Loan Losses
Table X		Average Deposits & Rates
Table XI		Maturity Schedule of Time Deposits of $100,000 or more
Table XII		Return on Equity & Assets
Table XIII		Interest Rate Sensitivity Analysis

Table I
Average Balances, Income and Expense, Yields, and Rates

			2002							2001							2000

*(Fully taxable equivalent basis in Thousands)*			Average Balance		Income/ Expense		Yield/ Rate			Average Balance		Income/ Expense		Yield/ Rate			Average Balance		Income/ Expense		Yield/ Rate

INTEREST EARNING ASSETS:
Taxable Investments				34,404		2,023		5.88	%		37,779		2,227		5.89	%		42,060		2,578		6.13	%
Tax-Exempt Investments (1)				14,714		946		6.43	%		10,487		758		7.23	%		12,935		945		7.30	%
		Total Investments		49,118		2,969		6.04	%		48,265		2,985		6.18	%		54,995		3,523		6.41	%
Gross Loans (2)				159,951		11,150		6.97	%		151,668		12,380		8.16	%		142,489		11,651		8.18	%
Interest-bearing Deposits				200		1		0.55	%		105		4		3.81	%		310		12		3.87	%
Fed Funds Sold				21,479		345		1.61	%		10,141		331		3.27	%		1,646		146		8.87	%
		TOTAL INTEREST EARNING ASSETS		230,748		14,464		6.27	%		210,179		15,700		7.47	%		199,440		15,332		7.69	%
INTEREST-BEARING LIABILITIES:
Savings Deposits				59,506		1,326		2.23	%		58,022		2,194		3.78	%		59,200		2,850		4.81	%
NOW Deposits				33,069		420		1.27	%		29,594		634		2.14	%		26,553		776		2.92	%
Time Deposits => $100,000				22,721		890		3.91	%		18,033		979		5.43	%		15,849		983		6.20	%
Time Deposits < $100,000				67,730		2,519		3.72	%		59,505		3,104		5.22	%		48,930		2,741		5.60	%
Money Market Deposit Accounts				12,739		202		1.59	%		12,312		320		2.60	%		10,978		391		3.56	%
		Total Deposits		195,765		5,357		2.74	%		177,466		7,231		4.07	%		161,510		7,740		4.79	%
Fed Funds Purchased				—		—		0.00	%		—		—		0.00	%		540		63		11.67	%
Securities Sold to Repurchase				3,406		34		1.00	%		3,131		90		2.87	%		2,468		122		4.94	%
Other Short Term Borrowings				—		—		0.00	%		—		—		0.00	%		5,493		377		6.87	%
	TOTAL INTEREST-BEARING LIABILITIES			199,171		5,391		2.71	%		180,597		7,321		4.05	%		170,011		8,303		4.88	%
Net Interest Income/Yield on Earning Assets						9,074		3.93	%				8,378		3.99	%				7,030		3.52	%
Net Interest Rate Spread								3.56	%						3.42	%						2.80	%

Notes:

(1) - Income and yield is tax-equivalent assuming a federal tax rate of 34%

(2) - Includes Visa credit card program and non-accrual loans.

Table II
Volume & Rate Analysis of Changes in Net Interest Income

				2002 vs. 2001									2001 vs. 2000

*(Thousands)*				Change due to Volume			Change due to Rate			Total Change			Change due to Volume			Change due to Rate			Total Change

Investments:
Taxable Investments					(200	)		(4	)		(204	)		(253	)		(98	)		(351	)
Tax-Exempt Investments					259			(71	)		188			(118	)		(6	)		(124	)

			Total Investments		59			(75	)		(16	)		(371	)		(104	)		(475	)
Loans					735			(1,965	)		(1,230	)		771			(104	)		667
Interest-bearing Deposits					(43	)		40			(3	)		(7	)		(1	)		(8	)
Fed Funds Sold					26			(12	)		14			211			(26	)		185

		Total Interest Earning Assets			777			(2,012	)		(1,235	)		604			(235	)		369
Interest-bearing Deposits:
Savings Deposits					58			(926	)		(868	)		(56	)		(600	)		(656	)
NOW Deposits					87			(301	)		(214	)		107			(249	)		(142	)
CD’s >= $100,000					1,184			(1,273	)		(89	)		(40	)		36			(4	)
CD’s < $100,000					544			(1,129	)		(585	)		533			(170	)		363
Money Market Deposit Accounts					12			(130	)		(118	)		58			(129	)		(71	)

	Total Interest-bearing Deposits				1,885			(3,759	)		(1,874	)		602			(1,112	)		(510	)
Fed Funds Purchased					—			—			—			(63	)		—			(63	)
Securities Sold to Repurchase					9			(65	)		(56	)		57			(89	)		(32	)
Other Short Term Borrowings					—			—			—			(377	)		—			(377	)

	Total Interest-Bearing Liabilities				1,894			(3,824	)		(1,930	)		219			(1,201	)		(982	)
Change in Net Interest Income					(1,117	)		1,812			695			385			966			1,351

Notes:
Changes due to a combination of volume and rates are allocated proportionately to ‘Due to Volume’ and ‘Due to Rates’.

Table III
Types of Investments

*(Amortized Cost, thousands)*	12/31/2002		12/31/2001		12/31/2000

U.S. Treasury Securities	$	0	$	0	$	500
U.S. Government Agencies	$	7,511	$	6,694	$	9,632
State and Municipal Governments	$	25,712	$	20,979	$	20,926
Other Securities	$	14,466	$	19,493	$	21,918

Total	$	47,690	$	47,166	$	52,976

Table IV
Investment Maturities & Average Yields
as of 12/31/2002

*(Thousands)*								One Year or Less or No Maturity			One to Five Years			Five to Ten Years			Over Ten Years			Total

U.S. Treasury & Agency Securities
							Book Value	$	1,648		$	4,864		$	1,000		$	0		$	7,512
						Market Value		$	1,683		$	5,136		$	1,050		$	0		$	7,869
						Weighted average yield			5.36	%		5.77	%		5.79	%		0.00	%		5.69	%
States & Political Subdivisions Securities
						Book Value		$	710		$	12,512		$	12,040		$	450		$	25,711
						Market Value		$	716		$	13,295		$	12,638		$	459		$	27,108
						Weighted average yield			5.45	%		6.17	%		6.16	%		6.70	%		6.15	%
Other Securities:
					Book Value			$	3,052		$	6,571		$	4,515		$	329		$	14,467
				Market Value				$	3,079		$	7,027		$	4,739		$	329		$	15,174
			Weighted average yield						6.07	%		6.31	%		6.00	%		4.77	%		6.13	%
Total Securities:
		Book Value						$	5,410		$	23,947		$	17,555		$	779		$	47,690
		Market Value						$	5,478		$	25,458		$	18,427		$	788		$	50,151
	Weighted average yield								5.77	%		6.13	%		6.09	%		5.88	%		6.07	%

Notes:

Yields on tax-exempt securities have been computed on a tax-equivalent basis.

Average yields on securities held for sale are based on amortized cost.

Table V
Types of Loans

*(Thousands)*	12/31/2002		12/31/2001		12/31/2000		12/31/1999		12/31/1998

Commercial	$	16,763	$	11,399	$	11,279	$	11,081	$	11,679
Real Estate - Construction	$	19,131	$	13,914	$	4,591	$	5,438	$	1,130
Real Estate - Mortgage	$	121,213	$	115,029	$	111,957	$	95,912	$	82,739
Installment and Other (includes Visa program)	$	11,795	$	10,560	$	20,590	$	18,673	$	18,697

Total	$	168,902	$	150,903	$	148,417	$	131,104	$	114,245

Notes:

Deferred loan costs & fees not included.

Allowance for loan losses not included.

Table VI
Loan Maturity Schedule of Selected Loans
as of December 31, 2002

		One Year or Less				One to Five Years				Over Five Years

*(Thousands)*		Fixed Rate		Variable Rate		Fixed Rate		Variable Rate		Fixed Rate		Variable Rate

Commercial		$	1,387	$	12,879	$	2,100	$	251	$	146	$	0
Real Estate - Construction		$	2,356	$	2,387	$	8,336	$	358	$	5,694	$	0
Real Estate - Mortgage		$	2,501	$	44,880	$	23,103	$	42,181	$	8,406	$	142
Installment and Other (includes Visa program)		$	3,384	$	2,982	$	5,000	$	0	$	429	$	0

	Totals	$	9,628	$	63,128	$	38,539	$	42,790	$	14,675	$	142

Notes:

Loans with immediate re-pricing are shown in the ‘One Year or Less’ category.

Variable rate loans are categorized based on their next re-pricing date.

Table VII
Risk Elements

*(Thousands)*		12/31/2002		12/31/2001		12/31/2000		12/31/1999		12/31/1998

Non-accrual Loans		$	268	$	163	$	25	$	0	$	79
Restructured Loans		$	0	$	0	$	0	$	0	$	0
Foreclosed Properties		$	580	$	614	$	805	$	925	$	1,494

	Total Non-performing Assets	$	848	$	777	$	830	$	925	$	1,573
Loans past due 90+ days as to principal or interest payments & accruing interest		$	673	$	825	$	758	$	793	$	232
For non-accrual & restructured loans, Gross interest income which would have been recorded under original loan terms for the year ended		$	10	$	13	$	2	$	2	$	4
For non-accrual & restructured loans, Gross interest income recorded for the year ended		$	10	$	13	$	2	$	2	$	4
Potential problem loans as of year end not reported above:		$	170	$	422	$	123	$	213	$	236

Notes:

Loans receivable that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at their outstanding unpaid principal balances reduced by any charge-offs or specific valuation accounts and net of any unearned discount and fees and costs on originating loans.

Loan origination fees and certain direct origination costs for real estate mortgage loans are capitalized and recognized as an adjustment of the yield of the related loans.

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.

The allowance for loan losses is increased by charges to income and decreased by charge-offs (net of recoveries). Management’s periodic evaluation of the adequacy of the allowance is based on past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, and current economic conditions.

Table VIII
Summary of Allowance for Loan Losses

*(Thousands)*								12/31/02			12/31/01			12/31/00			12/31/99			12/31/98

Balance, beginning of period								$	1,493		$	1,370		$	1,198		$	1,012		$	861
Loans charged off:
							Commercial	$	(203	)	$	(62	)	$	(27	)	$	0		$	(20	)
						Real estate - construction		$	0		$	0		$	0		$	0		$	0
					Real estate - mortgage			$	(22	)	$	(42	)	$	(50	)	$	(59	)	$	(30	)
				Installment & Other (including Visa program)				$	(64	)	$	(117	)	$	(17	)	$	(105	)	$	(27	)

Total loans charged off								$	(289	)	$	(221	)	$	(94	)	$	(164	)	$	(77	)
Recoveries of loans previously charged off:
			Commercial					$	4		$	0		$	0		$	0		$	6
		Real estate - construction						$	0		$	0		$	0		$	0		$	0
		Real estate - mortgage						$	1		$	0		$	7		$	0		$	1
	Installment & Other (including Visa program)							$	17		$	19		$	9		$	15		$	13

Total recoveries								$	22		$	19		$	16		$	15		$	20
Net charge offs								$	(267	)	$	(202	)	$	(78	)	$	(149	)	$	(57	)
Provision for loan losses								$	471		$	325		$	250		$	335		$	208
Balance, end of period								$	1,697		$	1,493		$	1,370		$	1,198		$	1,012

Average loans outstanding during the period								$	159,951		$	151,668		$	142,489		$	120,529		$	108,221
Ratio of net charge-offs during the period to average loans outstanding during the period									0.17	%		0.13	%		0.05	%		0.12	%		0.05	%

See Note 1 to Financial Statements, Loans receivable paragraph, for a description of the factors which influenced management’s determination of the provision charged to operating expense.

Table IX
Allocation of the Allowance for Loan Losses

*(Thousands)*	12/31/2002					12/31/2001					12/31/2000					12/31/99					12/31/98

	Amount		Percent			Amount		Percent			Amount		Percent			Amount		Percent			Amount		Percent

Commercial	$	822		9.9	%	$	237		7.5	%	$	70		7.6	%	$	62		8.4	%	$	90		10.2	%
Real estate - construction	$	73		11.2	%	$	21		9.2	%	$	22		3.1	%	$	23		4.1	%	$	5		1.0	%
Real estate - mortgage	$	674		71.2	%	$	1,032		75.8	%	$	1,037		72.0	%	$	920		68.8	%	$	758		72.2	%
Installment & Other (including Visa program)	$	128		7.7	%	$	203		7.5	%	$	241		17.3	%	$	193		18.7	%	$	159		16.6	%

Total	$	1,697		100.0	%	$	1,493		100.0	%	$	1,370		100.0	%	$	1,198		100.0	%	$	1,012		100.0	%

Table X
Average Deposits & Rates

			2002					2001					2000

*(Thousands)*			Average Balance		Yield/ Rate			Average Balance		Yield/ Rate			Average Balance		Yield/ Rate

Non-interest bearing Demand Deposits			$	28,226		0.00	%	$	24,756		0.00	%	$	22,281		0.00	%
Interest bearing Deposits:
		NOW Accounts	$	33,069		1.27	%	$	29,594		2.14	%	$	26,553		2.92	%
		Regular Savings	$	59,506		2.23	%	$	58,022		3.78	%	$	59,200		4.81	%
		Money Market Deposit Accounts	$	12,739		1.59	%	$	12,312		2.60	%	$	10,978		3.56	%
Time Deposits:
	CD’s $100,000 or more		$	22,721		3.91	%	$	18,033		5.43	%	$	15,849		6.20	%
	CD’s less than $100,000		$	67,730		3.72	%	$	59,505		5.22	%	$	48,930		5.60	%

Total Interest bearing Deposits			$	195,765		2.74	%	$	177,466		4.07	%	$	161,510		4.79	%
Total Average Deposits			$	223,991		2.39	%	$	202,222		3.58	%	$	183,791		4.21	%

Table XI
Maturity Schedule of Time Deposits of $100,000 or more

*(Thousands)*		12/31/2002		12/31/2001		12/31/00

3 months or less		$	1,316	$	2,624	$	8,793
3-6 months		$	2,602	$	3,098	$	3,456
6-12 months		$	2,858	$	2,931	$	4,195
Over 12 months		$	18,263	$	14,778	$	2,455

	Totals	$	25,039	$	23,431	$	18,899

Table XII
Return on Equity & Assets

*(Thousands)*	2002			2001			2000

Net Income	$	2,301		$	2,009		$	1,613
Average Total Assets	$	252,001		$	228,412		$	212,916
Return on Assets		0.9	%		0.9	%		0.8	%
Average Equity	$	23,687		$	22,215		$	20,115
Return on Equity		9.7	%		9.0	%		8.0	%
Dividends declared per share	$	0.50		$	0.47		$	0.43
Average Shares Outstanding		2,301			2,311			2,319
Average Diluted Shares Outstanding		2,310			2,345			2,362
Net Income per Share	$	1.00		$	0.87		$	0.70
Net Income per Diluted Share	$	0.99		$	0.86		$	0.69
Dividend Payout Ratio		50.0	%		53.6	%		61.8	%
Equity to Assets Ratio		9.4	%		9.7	%		9.4	%

Table XIII
Interest Rate Sensitivity Analysis
as of 12/31/2002

*(Thousands)*	Within 3 months			3-12 Months			1-5 Years			Over 5 Years		Total

Interest-Bearing Due From Banks		160			0			0			0		160
Fed Funds Sold		19,979			0			0			0		19,979
Investments (Market Value)		3,631			1,847			25,458			19,216		50,152
Loans		39,334			27,408			79,159			23,001		168,902

Total Earning Assets		63,104			29,255			104,617			42,217		239,193
NOW Accounts		40,177			0			0			0		40,177
MMDA’s		14,748			0			0			0		14,748
Savings		59,753			0			0			0		59,753
CD’s < $100,000		8,797			18,056			40,157			20		67,030
CD’s >= $100,000		1,316			5,461			17,555			0		24,332
Total Interest Bearing Deposits		124,791			23,517			57,712			20		206,040
Fed Funds Purchased		0			0			0			0		0
Securities Sold to Repurchase		4,482			0			0			0		4,482

Total Interest Bearing Liabilities		129,273			23,517			57,712			20		210,522
Rate Sensitive Gap		(66,169	)		5,738			46,905			42,197		28,671
Cumulative Gap		(66,169	)		(60,431	)		(13,526	)		28,671

ITEM 2: PROPERTIES

The Company owns no property however its subsidiaries, the Bank of Lancaster and Bay Trust Company, own the following properties free of any encumbrances:

Main Office	Northside Branch	White Stone Branch
The Bank of Lancaster	Lancaster Square Center	Route 3
100 South Main Street	Kilmarnock, Virginia	White Stone, Virginia
Kilmarnock, Virginia

Operations Center	Montross Branch	Warsaw Branch
West Church Street	Route 3, Kings Highway	West Richmond Road
Kilmarnock, Virginia	Montross, Virginia	Warsaw, Virginia

Heathsville Branch	Callao Branch	Bay Trust Company
Route 360	Route 360 and 202	1 North Main Street
Heathsville, Virginia	Callao, Virginia	Kilmarnock, Virginia

Through the normal course of business, the Bank maintains an inventory of foreclosed properties known as other real estate owned, or OREO. This inventory is held at the lower of carrying amount or fair value. The Bank expects no losses on these properties. Balances in OREO as of December 31, 2002 were $580,167. Further information regarding OREO can be found in Notes 1 of the 2002 Annual Report to Shareholders and is hereby incorporated by reference.

Further information regarding property of the Company is incorporated herein by reference to Note 6 of the Company’s 2002 Annual Report to Shareholders, portions of which are included in Exhibit 13.0 of this report.

ITEM 3: LEGAL PROCEEDINGS

The Company is currently not involved in any material legal proceeding other than the ordinary & routine litigation incidental to its business.

ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

There were no matters submitted to a vote of security holders during the quarter ended December 31, 2002.

PART II

ITEM 5: MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Market Information. There is currently no established public trading market in our common stock. Our common

stock trades from time to time on the OTC Bulletin Board under the symbol “BAYK” and transactions generally involve a small number of shares. The following table summarizes the high and low sales prices and dividends paid for the two years ended December 31, 2002.

Common Equity Market Data*

Sales Price							Sales Price

2002	High		Low		Dividend		2001		High		Low		Dividend

Qtr1	$	17.25	$	16.00	$	0.12		Qtr1	$	17.88	$	15.75	$	0.11
Qtr2		18.25		16.50		0.12		Qtr2		17.63		16.75		0.11
Qtr3		18.25		16.30		0.12		Qtr3		16.95		15.25		0.11
Qtr4		16.50		14.50		0.14		Qtr4		17.00		16.00		0.12

*Adjusted for 2 for 1 stock split on June 7, 2002.

At December 31, 2002, there were 2,307,360 shares of common stock outstanding held by 755 stockholders of record.

A discussion of certain restrictions and limitations on the ability of the Bank to pay dividends to the Company and the ability of the Company to pay dividends on its common stock, is set forth in Part I, Business, of this Form 10-K under the heading “Supervision and Regulation.”

For further information regarding the Company’s common equity, refer to Notes 1, 12, 13 and 14 of the Annual Report to Shareholders, portions of which are incorporated as Exhibit 13.0 of this report.

Equity Compensation Plan Information . The following table summarizes information, as of December 31, 2002, relating to the Company’s stock incentive plans, pursuant to which grants of options to acquire shares of common stock may be granted from time to time.

	Year Ended December 31, 2002

	Number of Shares to be Issued Upon Exercise of Outstanding Options, Warrants and Rights(1)			Weighted-Average Exercise Price of Outstanding Options, Warrants and Rights		Number of Shares Remaining Available for Future Issuance Under Equity Compensation Plan

Equity compensation plans approved by shareholders		164,872(1	)	$	14.13		41,068
Equity compensation plans not approved by shareholders		—			—		—
Total		164,872		$	14.13		41,068

(1) Consists of options granted pursuant to the Company’s stock incentive plans.

ITEM 6. SELECTED FINANCIAL DATA

Selected Financial Data

Years Ended December 31,				2002			2001			2000			1999			1998

				(Thousands)
FINANCIAL CONDITION
Total Assets				$	263,060		$	245,594		$	225,332		$	199,773			200,271
Total Loans, net of allowance					168,442			150,253			147,678			130,432			113,643
Total Deposits					231,516			219,194			200,178			177,702			178,269
Stockholders’ Equity
			before FAS 115		23,132			22,070			21,546			21,135			19,882
		after FAS 115			24,757			22,617			21,287			19,706			20,508
Average Assets					252,001			228,412			212,916			198,668			196,805
Average Loans, net of allowance					166,313			150,193			140,596			118,861			107,263
Average Deposits					229,379			202,223			183,791			176,094			173,368
Average Equity, after FAS 115					23,687			22,215			20,115			20,024			19,658
RESULTS OF OPERATIONS
Interest Income					14,144		$	15,442		$	15,010		$	14,157			13,564
Interest Expense					5,391			7,321			8,303			6,533			7,065
Net Interest Income					8,753			8,121			6,707			7,624			6,499
Provision for Loan Losses					471			325			250			335			208
Net Interest Income after Provision					8,282			7,796			6,457			7,289			6,290
Gain/(Loss) on Sales of Investments					3			22			54			35			205
Non-interest Income net of Securities Gains					2,088			2,063			1,696			1,515			1,481
Non-interest Expense					7,203			7,042			6,020			5,906			5,488
Income before Taxes					3,170			2,839			2,187			2,933			2,488
Income Taxes					869			830			574			758			557
Net Income					2,301			2,009			1,613			2,175			1,931
RATIOS
Total Capital to Risk Weighted Assets					12.5	%		13.3	%		13.6	%		15.5	%		15.9	%
Tier 1 Capital to Risk Weighted Assets					11.5	%		12.3	%		12.7	%		14.6	%		15.1	%
Leverage Ratio					7.9	%		8.1	%		8.3	%		9.7	%		9.0	%
Return on Average Assets					0.9	%		0.9	%		0.8	%		1.1	%		1.0	%
Return on Average Equity					9.7	%		9.0	%		8.0	%		10.9	%		9.8	%
Loan Loss Reserve to Loans					1.0	%		1.0	%		0.9	%		0.9	%		0.9	%
Dividends paid as a percent of Net Income					50.0	%		53.6	%		61.8	%		41.8	%		41.9	%
Average Equity as a percent of Average Assets					9.4	%		9.7	%		9.4	%		10.1	%		10.0	%
Average shares outstanding					2,301,364			2,310,522			2,318,698			2,334,934			2,313,268
Average Diluted shares outstanding					2,309,959			2,344,806			2,362,404			2,374,590			2,352,924
PER SHARE DATA
Basic Earnings per share (EPS)				$	1.00		$	0.87		$	0.70		$	0.93			0.84
Diluted Earnings per share (EPS)					0.99			0.86			0.69			0.92			0.82
Cash Dividends per share					0.50			0.47			0.43			0.39			0.35
Book Value per share
		before FAS 115			10.03			9.57			9.27			9.07			8.54
		after FAS 115			10.73			9.81			9.16			8.46			8.81
GROWTH RATES
Year end Assets					7.1	%		9.0	%		12.8	%		-0.2	%		18.5	%
Year end Loans					12.1	%		1.7	%		13.2	%		14.8	%		9.1	%
Year end Deposits					5.6	%		9.5	%		12.6	%		-0.3	%		19.2	%
Year end Equity
		before FAS 115			4.8	%		2.4	%		1.9	%		6.3	%		7.9	%
	after FAS 115				9.5	%		6.2	%		8.0	%		-3.9	%		9.7	%
Average Assets					10.3	%		7.3	%		7.2	%		0.9	%		21.6	%
Average Loans, net of allowance					10.7	%		6.8	%		18.3	%		10.8	%		4.5	%
Average Deposits					13.4	%		10.0	%		4.4	%		1.6	%		20.2	%
Average Equity					6.6	%		10.4	%		0.5	%		1.9	%		16.7	%
Net Income					14.5	%		24.6	%		-25.9	%		12.7	%		-1.5	%
Cash Dividends declared					7.4	%		8.3	%		10.2	%		11.4	%		11.1	%
Book Value
	before FAS 115				4.8	%		3.2	%		2.2	%		6.3	%		6.6	%
	after FAS 115				9.4	%		7.0	%		8.3	%		-4.0	%		8.4	%

Note: All per-share data is adjusted to reflect a 2-for-1 split on June 7, 2002.

ITEM 7: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Management’s Discussion and Analysis of Financial Condition and Results of Operations are incorporated herein by reference to the 2002 Annual Report to Shareholders, portions of which are included as Exhibit 13.0 of this report.

ITEM 7A: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Rate Shock Analysis of Net Interest Income

	2002
	Interest Rate Scenario (000’s)

	-200 bp			Flat		+200 bp

Net Interest Income	$	10,017		$	9,797	$	10,068
Net Interest Income Change $	$	220				$	271
Net Interest Income Change%		2.25	%				2.78	%

Rate shock is a method for stress testing the Bank’s future net interest margin under several rate change levels. These levels span a 200 basis point (2.00%) decrease and a 200 basis point increase in the current prime rate of interest. In order to simulate activity, maturing balances are replaced with new balances at the new rate level and re-pricing balances are adjusted to the new rate shock level. The interest is recalculated for each level along with the new average yield. Net interest income is then calculated and a risk profile is developed. The results of these calculations are summarized in the table above.

As shown, the Company estimates that a reduction in the current prime rate of 200 basis points would result in a $220 thousand increase in net interest income over twelve months. Similarly, an increase in the current prime rate of 200 basis points would result in an estimated $271 thousand additional net interest income.

ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Financial statements of the Company are incorporated herein by reference to the 2002 Annual Report to Shareholders, portions of which are included as Exhibit 13.0 of this report.

ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

On March 26, 2002, the Company’s Board of Directors voted to engage the accounting firm of Yount, Hyde & Barbour, P.C. as the independent public accountant to audit the Company’s financial statements for the fiscal year ending December 31, 2002, to replace the firm of Eggleston Smith, P.C., the independent public accountant engaged to audit the Company’s financial statements as of December 31, 2001 and 2000, and for each of the years in the two year period ended December 31, 2001. Consistent with the Company’s policies, the Company conducted a bidding process to select the independent public accountant to audit the Company’s fiscal year ending December 31, 2002. The Company’s Audit Committee received bids from several independent public accounting firms including Eggleston Smith, P.C. After reviewing the proposals, the Company’s Audit Committee selected Yount, Hyde & Barbour, P.C., which the Company’s Board of Directors approved.

In connection with the audit of the two fiscal years ending December 31, 2001 and the subsequent interim period preceding the engagement of Yount, Hyde & Barbour, P.C., there were no disagreements with Eggleston Smith, P.C. on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedures, which disagreements if not resolved to their satisfaction would have caused them to make reference in connection with their opinion to the subject matter of the disagreement. Eggleston Smith, P.C. did not resign or decline to stand for reelection. Upon selection of Yount, Hyde & Barbour, P.C., the Company dismissed Eggleston Smith, P.C. with respect to the audit of the Company’s consolidated financial statements for periods beginning with the fiscal year ending December 31, 2002 and thereafter. Eggleston Smith P.C.’s report on the consolidated financial statements as of December 31, 2001 and 2000, and for each of the years in the two year period ended December 31, 2001, contained no adverse opinion or disclaimer of opinion and was not qualified as to uncertainty, audit scope or accounting principles.

The Company requested that Eggleston Smith, P.C. furnish it with a letter addressed to the Securities and Exchange Commission stating whether it agrees with the above statements. Eggleston Smith, P.C. complied and the Company maintains the letter on file.

PART III

ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

All required information on the executive officers and directors of the Company is detailed in the Company’s 2003 definitive proxy statement for the annual meeting of shareholders (“Definitive Proxy Statement”), which is expected to be filed with the Securities and Exchange Commission within the required time period, and is incorporated herein by reference.

ITEM 11: EXECUTIVE COMPENSATION

Information on executive compensation is provided in the Definitive Proxy Statement and is incorporated herein by reference.

ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Information on security ownership of certain beneficial owners and management is provided in the Definitive Proxy Statement, and is incorporated herein by reference.

ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information on certain relationships and related transactions are detailed in the Definitive Proxy Statement and incorporated herein by reference.

ITEM 14: CONTROLS AND PROCEDURES

Within the 90 days prior to the date of this report, the Company has carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Rule 13a-14 of the Exchange Act. Based upon that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company’s periodic SEC filings. There have been no significant changes in the Company’s internal controls or in other factors that could significantly affect internal controls subsequent to the date the Company carried out its evaluation.

PART IV

ITEM 15: EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.

(a)1.	Financial Statements included in Exhibit 13.0, 2002 Annual Report to Shareholders:
	Consolidated Balance Sheets - December 31, 2002 and 2001
	Consolidated Statements of Income - Years ended December 31, 2002, 2001, and 2000
	Consolidated Statements of Changes in Shareholders’ Equity
	- Years ended December 31, 2002, 2001, and 2000
	Consolidated Statements of Cash Flows - Years ended December 31, 2002, 2001, and 2000
	Parent Only Balance Sheets – December 31, 2002 and 2001
	Parent Only Statements of Income – Years ended December 31, 2002, 2001, and 2000
	Parent Only Statements of Cash Flows – Years ended December 31, 2002, 2001, and 2000

(a)2.	Financial Statement Schedules:

	Schedule	Location

	Table I - Average Balances, Income & Expense, Yields, and Rates	Part I, Item 1
	Table II - Volume & Rate Analysis of Changes in Net Interest Income	Part I, Item 1
	Table III – Types of Investments	Part I, Item 1
	Table IV - Investment Maturities & Average Yields	Part I, Item 1
	Table V - Types of Loans	Part I, Item 1
	Table VI - Loan Maturity Schedule of Selected Loans	Part I, Item 1
	Table VII - Risk Elements	Part I, Item 1
	Table VIII - Summary of Allowance for Loan Losses	Part I, Item 1
	Table IX – Allocation of the Allowance for Loan Losses	Part I, Item 1
	Table X - Average Deposits & Rates	Part I, Item 1
	Table XI - Maturity Schedule of Time Deposits of $100,000 or more	Part I, Item 1
	Table XII - Return on Equity & Assets	Part I, Item 1
	Table XIII - Interest Rate Sensitivity Analysis	Part I, Item 1
	Common Equity Market Data	Part II, Item 5
	Equity Compensation Plan Information	Part II, Item 5
	Selected Financial Data	Part II, Item 6
	Rate Shock Analysis of Net Interest Income	Part II, Item 7a

(a)3.	Exhibits:

	No.		Description

	3.1		Articles of Incorporation, as amended, of Bay Banks of Virginia, Inc. (filed herewith).

	3.2		Bylaws, as amended, of Bay Banks of Virginia, Inc. (filed herewith).

	10.1		1994 Incentive Stock Option Plan (Incorporated by reference to the previously filed Form S-4EF, Commission File number 333-22579 dated February 28, 1997).

	10.2		1998 Non-Employee Directors Stock Option Plan (incorporated by reference to the previously filed Annual Report on Form 10-K for the year ended December 31, 1999).

	11.0		Statement re: Computation of per share earnings. (Incorporated herein by reference to Note 1 of the 2002 Annual Report to Shareholders).

	13.0		Portions of the 2002 Annual Report to Shareholders for the year ended December 31, 2002 (filed herewith).

	21.0		Subsidiaries of the Company (shown herein).

	23.1		Consent of Yount, Hyde & Barbour, P.C. (filed herewith)

	23.2		Consent of Eggleston Smith, P.C. (filed herewith).

	99.1		Independent Accountant’s Report by Eggleston Smith, P.C. relating to Years ended December 31, 2001 and 2000. (filed herewith)

b) Reports on Form 8-K:

One report on form 8-K was filed with the Securities and Exchange
Commission on December 4, 2002 announcing the fourth quarterly dividend.

SIGNATURES

In accordance with the requirements of Section 13 (or 15d) of the Exchange Act, of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized on the 27th day of March 2003.

	B AY B ANKS O F V IRGINIA , I NC .

	/s/ A USTIN L. R OBERTS , III

	Austin L. Roberts, III,
	President and Chief Executive Officer

In accordance with the requirements of the Exchange Act, this report has been signed below by the following persons on behalf of the registrant, in the capacities indicated on the 27th day of March 2003.

	/s/ A MMON G. D UNTON , J R.

	Ammon G. Dunton, Jr. Chairman, Board of Directors

	/s/ A USTIN L. R OBERTS , III

	Austin L. Roberts, III President and CEO

	/s/ W ESTON F. C ONLEY , J R .

	Weston F. Conley, Jr. Director

	/s/ W ILLIAM A. C REAGER

	William A. Creager Director

	/s/ T HOMAS A. G OSSE

	Thomas A. Gosse Director

	/s/ R ICHARD C. A BBOTT

	Richard C. Abbott Treasurer and Principal Accounting Officer

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.

B AY B ANKS O F V IRGINIA , I NC .

By:	/s/ A USTIN L. R OBERTS , III	Date:	March 28, 2003

	Austin L. Roberts, III
	President and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on March 28, 2003.

Signature		Title


/s/ W ILLIAM A. C REAGER		Director

William A. Creager

/s/ W ESTON F. C ONLEY , J R .		Director

Weston F. Conley, Jr.

/s/ A MMON G. D UNTON , J R .		Chairman of the Board of Directors

Ammon G. Dunton, Jr.

/s/ T HOMAS A. G OSSE		Director

Thomas A. Gosse

/s/ A USTIN L. R OBERTS , III		President and Chief Executive officer
		and Directorv
Austin L. Roberts, III

/s/ A. W AYNE S AUNDERS		Director

A. Wayne Saunders

/s/ R ICHARD C. A BBOTT		Chief Financial Officer and
		Principal Accounting Officer
Richard C. Abbott

CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annual Report on Form 10-K for the year ended December 31, 2002 of Bay Banks of Virginia, Inc., (the “Company”), as filed with the Securities and Exchange Commission on the date hereof (the “Report”), the undersigned Chief Executive Officer and Chief Financial Officer of the Company hereby certify, pursuant to 18 U.S.C. Section1350, as adopted pursuant to Section906 of the Sarbanes-Oxley Act of 2002 that based on their knowledge and belief: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company as of and for the periods covered in the Report.

/s/ A USTIN L. R OBERTS , III

Austin L. Roberts, III, Chief Executive Officer

/s/ R ICHARD C. A BBOTT

Richard C. Abbott, Chief Financial Officer

March 28, 2003

CERTIFICATIONS

I, Austin L. Roberts, III, certify that:

1. I have reviewed this Annual Report on Form 10-K of Bay Banks of Virginia;

2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;

3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;

4. The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

(a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;

(b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the “Evaluation Date”); and

(c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5. The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

(a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and

(b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

6. The registrant’s other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: March 28, 2003

	/s/ A USTIN L. R OBERTS , III

	Austin L. Roberts, III
	President and Chief Executive Officer

CERTIFICATIONS

I, Richard C. Abbott, certify that:

1. I have reviewed this Annual Report on Form 10-K of Bay Banks of Virginia;

(b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the “Evaluation Date”); and

(c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

(b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

Date: March 28, 2003

	/s/R ICHARD C. A BBOTT

	Richard C. Abbott
	Chief Financial Officer and Principal Accounting Officer

Exhibit 3.1

ARTICLES OF INCORPORATION

BAY BANKS OF VIRGINIA, INC.

I. NAME

The name of the corporation is Bay Banks of Virginia, Inc.

II. PURPOSE

The purpose for which the Corporation is formed is to act as a bank holding company and to transact any or all lawful business not required to be specifically stated in these Articles for which corporations may be incorporated under the Virginia Stock Corporation Act, as amended from time to time.

III. CAPITAL STOCK

The Corporation shall have authority to issue five million (5,000,000) shares of Common Stock, par value $5.00 per share, and two million (2,000,000) shares of Preferred Stock, par value $5.00 per share. The rights, preferences, voting powers and the qualifications, limitations and restrictions of the authorized stock shall be as follows:

A. Preferred Stock

The Preferred Stock may be issued from time to time in one or more classes or series, with such distinctive designations, rights and preferences as shall be stated and expressed herein or in the resolution or resolutions providing for the issuance of shares of a particular series, and in such resolution or resolutions providing for the issuance of shares of such series, the Board of Directors is expressly authorized to fix or establish the basis for determining:

(a) the maximum number of shares constituting such class or series, and the designation of such class or series, which shall be such as to distinguish the shares thereof from the shares of all other classes and series;

(b) the annual or other periodic dividend rate for such series, the dividend payment dates and, if cumulative, the dates from which dividends shall be cumulative, and the extent of participation rights, if any;

(c) any right to vote with holders of shares of any other series or class and any right to vote as a class, either generally or as a condition to specified corporate action;

(d) the price at, and the terms and conditions on which, shares may be redeemed;

(e) the amount payable upon shares in event of involuntary liquidation;

(f) the amount payable upon shares in the event of voluntary liquidation;

(g) any sinking fund provisions for the redemption or purchase of shares;

(h) the rights, if any, of the holders of shares of such series to convert such shares into other classes of stock of the Corporation, or to exchange such shares for other securities, and the terms and conditions of any such conversion or exchange; and

(i) such other rights as may be specified by the Board of Directors and not prohibited by law.

All shares of Preferred Stock of any one series shall be identical with each other in all respects except, if so determined by the Board of Directors, as to the dates from which dividends thereon shall be cumulative; and all shares of Preferred Stock shall be of equal rank with each other, regardless of series, and shall be identical with each other in all respects except as provided herein or in the resolution or resolutions providing for the issuance of a particular series.

B. Common Stock

Section 1. Subject to the provisions of law and the rights of holders of shares at the time outstanding of Preferred Stock, the holders of Common Stock at the time outstanding shall be entitled to receive such dividends at such times and in such amounts as the Board of Directors may deem advisable.

Section 2. In the event of any liquidation, dissolution or winding up (whether voluntary or involuntary) of the Corporation, after the payment or provision for payment in full for all debts and other liabilities of the Corporation and all preferential amounts to which the holders of shares at the time outstanding of Preferred Stock shall be entitled, the remaining net assets of the Corporation shall be distributed ratably among the holders of the shares at the time outstanding of Common Stock.

Section 3. The holders of Common Stock shall be entitled to one vote per share on all matters as to which a shareholder vote is taken.

IV. NO PREEMPTIVE RIGHTS

No holder of shares of any class of capital stock of the Corporation shall have any preemptive or preferential right to subscribe to or purchase (i) any shares of capital stock of the Corporation, whether now or hereafter authorized, (ii) any securities convertible into such shares or (iii) any options, warrants, or rights to purchase such shares or securities convertible into any such shares.

V. DIRECTORS

Section 1. The Board of Directors shall consist of such number of individuals as may be fixed or provided for by the bylaws of the Corporation.

Section 2. The Board of Directors shall be divided into three classes, Class I, Class II and Class III as nearly equal in number as possible. On the effective date of these articles of incorporation of this Corporation, the classification of directors of this Corporation shall be implemented as follows:
directors of the first class (Class I) shall be elected to hold office for a term expiring at the 2000 annual meeting of the shareholders; directors of the second class (Class II) shall be elected for a term expiring at

the 1999 annual meeting of the shareholders, and directors of the third class (Class III) shall be elected to hold office for a term expiring at the 1998 annual meeting of shareholders. The successors to the class of directors whose terms expires shall be identified as being of the same class as the directors they succeed and elected to hold office for a term expiring at the third succeeding annual meeting of shareholders. When the number of directors is changed, any newly created directorship shall be apportioned among the classes by the Board of Directors as to make all classes as nearly equal as possible.

Section 3. Directors of the Corporation may be removed only for cause and with the affirmative vote of at least two-thirds of the outstanding shares entitled to vote.

Section 4. If the office of any director shall become vacant, the directors at the time in office, whether or not a quorum, may, by majority vote of the directors then in office, choose a successor who shall hold office until the next annual meeting of stockholders. In such event, the successors elected by the stockholders at that annual meeting shall hold office for a term that shall coincide with the remaining term of the class of directors to which that person has been elected. Vacancies resulting from the increase in the number of directors shall be filled in the same manner.

Section 5. Each director shall hold office until his or her successor is elected and qualified or until his or her death, resignation, retirement or removal.

VI. SHAREHOLDER'S QUORUM AND VOTING

Section 1. A quorum for any meeting of the stockholders shall consist of sixty percent (60%) of the shares of stock of the Corporation entitled to vote. If a quorum is present, in person and by proxy, the concurring vote of more than sixty percent (60%) of the voting shares of the Corporation represented at the meeting shall be required in order to constitute the act of the stockholders.

Section 2. Notwithstanding the provisions of Section 1, as to any amendment of the Corporation's Articles of Incorporation, a plan of merger or exchange, a transaction involving the sale of all or substantially all the Corporation's assets other than in the regular course of business and a plan of dissolution shall be approved by the vote of sixty percent (60%) of all the votes entitled to be cast on such transactions by each voting group entitled to vote on the transaction at a meeting at which a quorum of the voting group is present, provided that the transaction has been approved and recommended by at least two-thirds of the directors in office at the time of such approval and recommendation. If the transaction is not so approved and recommended, then the transaction shall be approved by the vote of eighty percent (80%) or more of all votes entitled to be cast on such transactions by each voting group entitled to vote on the transaction.

VII. INDEMNIFICATION

Section 1. To the full extent that the Virginia Stock Corporation Act, as it exists on the date hereof or may hereafter be amended, permits the limitation or elimination of the liability of directors or officers, a director or officer of the Corporation shall not be liable to the Corporation or its shareholders for monetary damages.

Section 2. To the full extent permitted and in the manner prescribed by the Virginia Stock Corporation Act, the Corporation shall indemnify each director or officer of the Corporation against liabilities, fines, penalties and claims imposed upon or asserted against him (including amounts paid in settlement) by reason of having been such director or officer, whether or not then continuing to so be, and

against all expenses (including counsel fees) reasonably incurred by him in connection therewith, except in relation to matters as to which he shall have been finally adjudged liable by reason of his willful misconduct or a knowing violation of criminal law in the performance of his duty as such director or officer. The Board of Directors is hereby empowered, by majority vote of a quorum of disinterested directors, to contract in advance to indemnify any director or officer.

Section 3. The Board of Directors is hereby empowered, by majority vote of a quorum of disinterested directors, to cause the Corporation to indemnify or contract in advance to indemnify any person not specified in
Section 2 of this Article against liabilities, fines, penalties and claims imposed upon or asserted against him (including amounts paid in settlement by reason of having been an employee, agent or consultant of the Corporation, whether or not then continuing so to be, and against all expenses (including counsel fees) reasonably incurred by him in connection therewith, to the same extent as if such person were specified as one to whom indemnification is granted in Section 2.

Section 4. The Corporation may purchase and maintain insurance to indemnify it against the whole or any portion of the liability assumed by it in accordance with this Article and may also procure insurance, in such amounts as the Board of Directors may determine, on behalf of any person who is or was a director, officer, employee, agent or consultant of the Corporation against any liability asserted against or incurred by any such person in any such capacity or arising from his status as such, whether or not the Corporation would have power to indemnify him against such liability under the provisions of this Article.

Section 5. In the event there has been a change in the composition of a majority of the Board of Directors after the date of the alleged act or omission with respect to which indemnification is claimed, any determination as to indemnification and advancement of expenses with respect to any claim for indemnification made pursuant to Sections 2 or 3 of this Article VII shall be made by special legal counsel agreed upon by the Board of Directors and the proposed indemnitee. If the Board of Directors and the proposed indemnitee are unable to agree upon such special legal counsel, the Board of Directors and the proposed indemnitee each shall select a nominee, and the nominees shall select such special legal counsel.

Section 6. No amendment, modification or repeal of this Article shall diminish the rights provided hereby or diminish the right to indemnification with respect to any claim, issue or matter in any then pending or subsequent proceeding that is based in any material respect on any alleged action or failure to act occurring before the adoption of such amendment, modification or repeal.

Section 7. Every reference herein to director, officer, employee, agent or consultant shall include (i) every director, officer, employee, agent, or consultant of the Corporation or any corporation the majority of the voting stock of which is owned directly or indirectly by the Corporation, (ii) every former director, officer, employee, agent, or consultant of the Corporation,
(iii) every person who may have served at the request of or on behalf of the Corporation as a director, officer, employee, agent, consultant or trustee of another corporation, partnership, joint venture, trust or other entity, and (iv) in all of such cases, his executors and administrators.

VIII. INITIAL DIRECTORS

Set forth below are the names and addresses of the individuals who are to serve as the initial directors of the Corporation:

       Name                                Addresses
       ----                                ---------

Ammon G. Dunton, Jr.                P. O. Box 38
                                    Merry Point, Virginia  22513

Austin L. Roberts, III              P. O. Box 1869
                                    Kilmarnock, Virginia  22482

Weston F. Conley, Jr.               Box 85
                                    Morattico, Virginia  22523

William A. Creager                  Route 1, Box 661
                                    Kilmarnock, Virginia  22482

Thomas A. Gosse                     P. O. Box 467
                                    Irvington, Virginia  22480

W. Bruce Sanders                    P. O. Box 1893
                                    Kilmarnock, Virginia 22482

IX. INITIAL REGISTERED OFFICE AND AGENT

The post office address of the initial registered office is Dunton, Simmons & Dunton, 678 Rappahannock Drive, Whitestone, Virginia. The name of the town in which the initial registered office is located is Whitestone, Virginia. The name of the initial registered agent is Ammon G. Dunton, Jr., whose business office is the same as the registered office and who is a resident of Virginia and a member of the Virginia State Bar.

Dated: February 10, 1997

                                                /s/ Ammon G. Dunton, Jr.
                                             --------------------------------
                                                Ammon G. Dunton, Jr.
                                                Incorporator

ARTICLES OF AMENDMENT
TO THE ARTICLES OF INCORPORATION OF
BAY BANKS OF VIRGINIA, INC

I. Name. The name of the corporation is Bay Banks of Virginia, Inc.

II. Text of Amendment. Article III of the Corporation's Articles of Incorporation shall be amended to increase the number of authorized shares of common stock from 5,000,000 to 10,000,000 shares. The first paragraph of Article III, as amended, shall read as follows:

The Corporation shall have authority to issue ten million (10,000,000) shares of Common Stock, par value $5.00 per share, and two million (2,000,000) shares of Preferred Stock, par value $5.00 per share. The rights, preferences, voting powers and the qualifications, limitations and restrictions of the authorized stock shall be as follows:

III. Adoption and Date of Adoption. The foregoing amendment was adopted on May 20, 2002 by the Corporation's Board of Directors without shareholder approval pursuant to Section 13.1-706(3) and (4) of the Virginia Stock Corporation Act. The Corporation has one class of capital stock outstanding, and shareholder action on the amendment was not required.

IV. Effective Date. The Certificate of Amendment shall become effective at 5:00 p.m., eastern standard time, on July 1, 2002, in accordance with Section 13.1-606 of the Virginia Stock Corporation Act.

Dated: June 28, 2002                          BAY BANKS OF VIRGINIA, INC.



                                              By:/s/ Richard C. Abbott
                                                 ------------------------------
                                                     Richard C. Abbott
                                                     Treasurer

Exhibit 3.2

BY-LAWS

BAY BANKS OF VIRGINIA, INC.

Revised February, 2002

Article I Stock

Section 1. Certificates. Certificates evidencing stock shall be issued to each stockholder in such form as may be approved by the Board of Directors. Certificates shall be signed by the Chairman or President and by the Secretary or Assistant Secretary. No certificates shall be issued until the same shall have been paid for in full.

Section 2. Transfers of Stock. All transfers of stock shall be made upon its books by surrender of certificates for the shares transferred, accompanied by an assignment in writing executed by the holder. The assignment may be accomplished either by the holder in person or by duly authorized attorney in fact.

Section 3. Lost Certificates. In case of loss, mutilation or destruction of a certificate of stock, a duplicate certificate may be issued upon such terms not in conflict with the law as the Board of Directors may prescribe.

Article II Stockholders

Section 1. Annual Meeting. The annual meeting of stockholders will be held at l:00 p.m. on the third Monday of May of each year, or such other date as the Board of Directors may designate, at such place as may be provided in the notice of the meeting.

Section 2. Special Meetings. Special meetings may be called by the Chairman of the Board, the President, or a majority of the Board of Directors.

Section 3. Notice of Meetings. Except as otherwise required by law, notice of meetings, whether regular or special, shall be prepared and mailed by the Secretary or an Assistant Secretary to each stockholder at his address of record, not less than ten (10) days before any meeting; and in the case of a special meeting, such notice shall state the purpose of the meeting.

Section 4. Quorum and General Voting at Stockholders Meetings. A quorum at any meeting of stockholders shall consist of sixty percent (60%) of the shares entitled to vote, represented in person or by proxy. Except as provided in Section 2 of Article VI of the Articles of Incorporation, sixty percent (60%) vote of such quorum shall decide any question that may come before the meeting. Each stockholder shall be entitled to one vote in person or by proxy for each share entitled to vote standing in his name on the books of the company. The Chairman of the meeting may appoint one or more inspectors of the election to determine the qualification of votes, the validity of proxies and the results of ballots.

Section 5. Stockholders Proposals. To be properly brought before a meeting of stockholders, business must be (1) specified in the notice of meeting (or any supplement thereto) given by or at the direction of the Board of Directors, (2) otherwise properly brought before the meeting by or at the direction of the Board of Directors or (3) otherwise properly brought before the meeting by a stockholder. In addition to any other applicable requirements, for business to be properly brought before an Annual Meeting by a stockholder, the stockholder must have given timely notice thereof in writing to the Secretary of the Corporation. To be timely, a stockholder's notice must be given, either by personal delivery or by United States registered or certified mail, postage prepaid, to the Secretary of the Corporation not later than 120 days prior to the date of the anniversary of the immediately preceding Annual Meeting. A stockholder's notice to the Secretary shall set forth as to each matter the stockholder proposes to bring before the Annual Meeting (1) a brief description of the business desired to be brought before the Annual Meeting, including the complete text of any resolutions to be presented at the Annual Meeting with respect to such business, and the reasons for conducting such business at the meeting, (2) the name and address of record of the stockholder proposing such business, (3) the class and number of shares of the Corporation that are beneficially owned by the stockholder and (4) any material interest of the stockholder in such business. In the event that a stockholder attempts to bring business before an Annual Meeting without complying with the foregoing procedure, the Chairman of the meeting may declare to the meeting that the business was not properly brought before the meeting and, if he shall so declare, such business shall not be transacted.

Article III Directors

Section 1. General Powers. The business and affairs of the Corporation shall be managed by the Board of Directors, subject to any requirement of stockholder action.

Section 2. Eligibility. No person shall be eligible for election as director if he or she will attain the age of seventy-two (72) years prior to the last year of his or her term. Only stockholders may be elected directors.

Section 3. Number of Directors. The Board of Directors shall consist of six (6) members, who shall be divided into three classes with respect to terms of office, each class to contain one-third of the directors.

Section 4. Nominations. Nominations for the election of directors shall be made by the Board of Directors or by any shareholder entitled to vote in the election of directors generally. However, any shareholder entitled to vote in the election of directors generally may nominate one or more persons for election as directors at a meeting only if written notice of such shareholder's intent to make such nomination or nominations has been given, either by personal delivery or by United States mail, postage prepaid, to the Secretary of the Corporation not later than (i) with respect to an election to be held at an Annual Meeting of stockholders, one hundred twenty (120)

days prior to the date of the anniversary of the immediately preceding Annual Meeting, and (ii) with respect to an election to be held at a special meeting of shareholders for the election of Directors, the close of business on the seventh day following the date on which notice of such meeting is first given to shareholders. Each notice shall set forth: (a) the name and address of the shareholder who intends to make the nomination and of the person or persons to be nominated; (b) a representation that the shareholder is a holder of record of stock of the Corporation entitled to vote at such meeting and intends to appear in person or by proxy at the meeting to nominate the person or persons specified in the notice; (c) a description of all arrangements or understandings between the shareholder and each nominee and any other person or persons (naming such person or persons) pursuant to which the nomination or nominations are to be made by the shareholder; (d) such other information regarding each nominee proposed by such shareholder as would be required to be included in a proxy statement filed pursuant to the proxy rules of the Securities and Exchange Commission, had the nominee been nominated, or intended to be nominated, by the Board of Directors; and (e) the consent of each nominee to serve as director of the Corporation if so elected. The Chairman of the meeting may refuse to acknowledge the nomination of any person not made in compliance with the foregoing procedure.

Article IV Directors Meetings

Section 1. Meetings. Regular meetings of the Board of Directors shall be held quarterly on the third Wednesday of each February, May, August and November at such time and place as the Chairman of the Board shall designate; provided, however, that the May meeting shall be held immediately following the Annual Meeting of stockholders. The May meeting shall be the annual organizational meeting of the board and at that meeting officers shall be elected and committees appointed for the ensuing year.

Section 2. Special Meetings. Special meetings of the board may be held on the call of the Chairman of the Board, the President or any three (3) directors.

Section 3. Notice. Notices of regular or special meetings shall be mailed by the Secretary or Assistant Secretary to each member of the board, not less than three (3) days prior to such meeting, and in the case of special meetings, stating the purpose therefore.

Section 4. Quorum. A majority of the directors shall constitute a quorum for the transaction of business of the directors. The act of the majority of the directors present at a meeting in which a quorum is present shall be the act of the Board of Directors.

Article V Directors Committees

Section 1. Executive Committee. The Board of Directors by resolution may designate an Executive Committee, which shall include the Chairman of the Board and the President and such other members of the Board of Directors as they select. The Executive Committee shall have and may exercise all authority of the Board of Directors except to fill vacancies on the Board, to amend or repeal these By-laws and adopt new By-laws, to approve or recommend to stockholders that they approve an amendment to the Articles of Incorporation, a plan of merger or exchange, a transaction involving the sale of all or substantially all of the Corporation's assets other than in regular course of business, or a plan of dissolution. Further, the Executive Committee shall not be empowered to authorize or approve a distribution, the issuance or sale of shares, or designation of preferences for preferred stock of the Corporation. The Executive Committee shall keep its minutes and provide copies of the same at the next meeting of the Board of Directors.

Section 2. Nominating and Governance Committee. The Chairman may appoint a Nominating and Governance Committee, who may be selected from the Board of Directors of the Corporation and the boards of directors of any subsidiary corporation. Such committee shall recommend to the Board of Directors nominees for the Board of Directors, shall review By-laws, proxy statements and proxies to be distributed to stockholders, and shall review policies and practices regarding shareholder voting. The Chairman of the Board and the President of all subsidiary banks (as defined in the Virginia Financial Institution Holding Companies Act) shall be among the nominees for the Board of Directors, and each shall be subject to removal if he or she ceases to hold such office in a subsidiary bank. If such committee is not appointed, the Board of Directors shall perform the duties of the Nominating and Governance Committee.

Section 3. Audit Committee. The Board of Directors shall elect an Audit Committee consisting of at least three independent directors, who may be selected from the Board of Directors of the Corporation and the boards of directors of any subsidiary corporation. They shall have the responsibility for seeing that the Corporation is audited regularly. The Committee shall elect its chairman, who shall be an independent director of the Corporation. The voting members of the committee shall consist of non-employee directors. Non-employee members of the committee must be free from any relationship that, in the opinion of the Board of Directors, would interfere with the exercise of independent judgment as a Committee member. The Chairman and President of the Corporation as well as the Bank of Lancaster's Internal Auditor may attend meetings of the Audit Committee, at the pleasure of the Committee. The Audit Committee shall make periodic reports to the Board of Directors. Such reports shall state whether adequate internal audit controls and procedures are being maintained and shall recommend to the Board of Directors such changes in the matter of audit controls and procedures as the Committee deems advisable. These responsibilities may, in part or in whole, and from time to time, be delegated to the audit committees of subsidiary corporations provided that full reports of such audit committees' deliberations are made to the Audit Committee of the Corporation and

at least one member of the Audit Committee of the Corporation is in attendance at each meeting of the audit committee of subsidiary corporations.

Section 4. Compensation Committee. The Chairman may appoint a Compensation Committee, which shall consist of at least three directors of the Corporation and its subsidiary corporations, together with the Chairman and President of the Corporation. The Compensation Committee shall have responsibility to recommend appropriate compensation for all officers of the Corporation and its subsidiaries. It shall have the responsibility for the administration of the Corporation's incentive and non-qualified stock option plans for employees and directors. It shall also make recommendations of contributions, if any, to the Employees' Stock Ownership Plan to the Corporation's Board of Directors. If such committee is not appointed, the Board of Directors shall perform the duties of the Compensation Committee.

Section 5. Other Committees. Other committees, consisting of directors, officers or employees of the Corporation and subsidiary corporations may be designated by resolution of the Board of Directors from time to time. Such committees shall have the duties set forth in the resolutions creating such committees.

Article VI Officers

Section 1. Election and Removal. The Board of Directors, at its organization meeting each year, shall elect a Chairman of the Board and a President (both of whom shall be directors) and also a Secretary and Treasurer. The Board may elect an Executive Vice President, one or more Vice Presidents, an Assistant Secretary, an Auditor, and such other officers as may be necessary or desired to carry out the business of the Corporation. The term of office of each officer shall continue until the annual meeting of the Board of Directors following the next Annual Meeting of stockholders and until their respective successors are elected, but any officer may be removed at any time by the vote of the Board of Directors. If any office becomes vacant during the year, the Board of Directors at its discretion may fill the same for the unexpired term. The Board of Directors shall also fix the compensation of officers of the Corporation as well as their own compensation.

Section 2. Chairman of the Board. The Chairman of the Board shall be an ex-officio member of all committees of the Board and shall preside at all meetings of the stockholders and the Board of Directors, and the Executive Committee, if any. During the absence or disability of the President, he shall exercise all the powers and discharge all the duties of the President.

Section 3. President. The President shall be the Chief Executive Officer of the Corporation and shall be responsible for the general supervision of its affairs and shall have all the powers and duties as are normally delegated to the office of the Chief Executive Officer. In

addition he shall be an ex officio member of all committees. In the absence or disability of the Chairman of the Board, the President shall perform the duties of such office.

Section 4. Executive Vice President. The Executive Vice President, if any, shall perform such duties as may be assigned to him by the Board of Directors.

Section 5. Secretary. The Secretary shall have charge of the seal, stock transfer books and all certificates of stock of the Corporation. The Secretary shall see that proper notice is given of all meetings of stockholders, shall record the minutes of such meetings and the minutes of the meetings of the Board of Directors and its committees, and shall act under the general supervision of the Chairman of the Board.

Section 6. Treasurer. The Treasurer shall have charge of and be responsible for all funds, securities, and other financial assets of the Corporation. He shall be responsible for maintaining adequate and proper financial records in accordance with generally accepted accounting practices, for preparation of financial statements, for the preparation and filing of all tax returns and reports required by law or regulations, and for the performance of all duties incident to the office of Treasurer and such other duties as may from time to time be assigned to him by the Board of Directors, President and Executive Vice President, if any.

Section 7. Auditor. The Auditor, if any, shall exercise supervision of and shall be responsible for the efficient operation of the auditing of the Corporation and its subsidiaries. He or she shall report to the Board of Directors and its Audit Committee.

Section 8. Other Officers. Other officers may be elected by the Board of Directors, and shall have such duties as the Board by resolutions shall prescribe.

Article VII Corporate Seal

The seal of the Corporation shall be circular and shall have inscribed thereon, within and around the circumference, the following: "Bay Banks of Virginia, Inc." and in the center shall be the figures "1997".

Article VIII Amendments

These By-laws may be amended or repealed and new By-laws may be made at any regular or special meeting of the Board of Directors by a majority of the Board, provided, however, any changes in the By-laws thus effected shall be reported annually to the stockholders at the time of the mailing of the notice of the stockholders' Annual Meeting. By-laws made by the directors

may be repealed or changed and new By-laws may be made by two-thirds of those entitled to vote at the stockholders' Annual Meeting. Any stockholder or group of stockholders who wish to have a By-law repealed or amended shall comply with all notice requirements of these Bylaws and adhere to all applicable regulations of the Securities and Exchange Commission and the Federal Reserve System.

Exhibit 13

2002 FINANCIAL REVIEW

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS		8

CONSOLIDATED BALANCE SHEETS		17

CONSOLIDATED STATEMENTS OF INCOME		18

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY		19

CONSOLIDATED STATEMENTS OF CASH FLOWS		20

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS		21

INDEPENDENT AUDITORS’ REPORT		36

FINANCIAL HIGHLIGHTS		37

TEN-YEAR COMPARISONS		38

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion is intended to assist readers in understanding and evaluating the financial condition and results of operations of Bay Banks of Virginia, Inc.,(the “Company”). This discussion should be read in conjunction with the financial statements and other financial information contained elsewhere in this annual report.

Bay Banks of Virginia, Inc., is a bank holding company, organized under the laws of Virginia on February 10, 1997. As of July 1, 1997, Bay Banks of Virginia, Inc., assumed ownership of 100% of the stock of the Bank of Lancaster. Prior to this date the Company operated as the Bank of Lancaster. In August of 1999, Bay Banks of Virginia formed Bay Trust Company. This subsidiary of the Company was created to purchase the assets of the trust department of the Bank of Lancaster. This sale and transfer of assets was completed on December 31, 1999. As of January 1, 2000, the bank no longer owned or managed the trust function, and Bay Trust Company began operations as a subsidiary of Bay Banks of Virginia.

Critical Accounting Policies

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

Allowance For Loan Losses . The allowance for loan losses is an estimate of the losses that may be sustained in our loan portfolio. The allowance is based on two basic principles of accounting: (1) Statement of Financial Accounting Standards (“SFAS”) No. 5, Accounting for Contingencies , which requires that losses be accrued when they are probable of occurring and estimable and (2) 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. The use of these values is inherently subjective and our actual losses could be greater or less than the estimates.

The allowance for loan losses is increased by charges to income and decreased by charge-offs (net of recoveries). Management’s periodic evaluation of the adequacy of the allowance is based on past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect a borrower’s ability to repay, the estimated value of any underlying collateral, and current economic conditions.

Goodwill . In October 2002, the Financial Accounting Standards Board issued Statement No. 147, Acquisitions of Certain Financial Institutions. The Statement amends previous interpretive guidance on the application of the purchase method of accounting to acquisitions of financial institutions, and requires the application of Statement No. 141, Business Combinations, and Statement No. 142 Goodwill and Other Intangible Assets , to branch acquisitions if such transactions meet the definition of a business combination. The provisions of the Statement do not apply to transactions between two or more mutual enterprises. In addition, the Statement amends Statement No. 144, Accounting for the Impairment of Long-Lived Assets, to include in its scope core deposit intangibles of financial institutions. Accordingly, such intangibles are subject to a recoverability test based on undiscounted cash flows, and to the impairment recognition and

measurement provisions required for other long-lived assets held and used. The Company adopted this interpretation of Statement No. 147 for the intangibles associated with branch acquisitions that were executed in 1994, 1997, and 2000. The Company conducted an in-depth study of the issue and has determined that the intangibles associated with these branch acquisitions qualify as business combinations as described in Statement No. 141 and No. 142, as well as Emerging Issues Task Force Ruling 98-3. The impact of this reclassification is discussed in detail in the Non-Interest Expense Section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Summary Financial Information

2002 Compared to 2001

Bay Banks of Virginia, Inc. recorded earnings for 2002 of $2,301,401 or $0.99 diluted earnings per share as compared to 2001 earnings of $2,008,839 and $0.86 diluted earnings per share. This is an increase in net income of 14.6% over the prior period. Net interest income for 2002 increased to $8,753,103, up 7.8% as compared to $8,121,421 for 2001. Non-interest income, before net securities gains, for 2002, increased to $2,088,624 as compared to 2001 non-interest income, before net securities gains, of $2,063,146, an increase of 1.2%. Non-interest expenses increased to $7,202,587, up 2.3% over 2001 non-interest expenses of $7,042,737.

2001 Compared to 2000

Earnings for Bay Banks of Virginia, Inc., were $2,008,839 for 2001, up 24.6% as compared to 2000 earnings of $1,612,620. 2001 diluted earnings per share were $0.86 as compared to 2000 diluted earnings per share of $0.69. Net interest income was $8,121,421 for 2001 as compared to $6,707,473 for 2000. This represents an increase of 21.1% over net interest income for 2000. Non-interest income before net securities gains for 2001 was $2,063,146, up 21.6% over 2000 non-interest income before net securities gain of $1,695,968. Non-interest expenses for 2001 were $7,042,737, up 17.0% as compared to 2000 non-interest expenses of $6,020,194.

Financial Analysis

Net Interest Income

The principal source of earnings for the Company is net interest income. Net interest income is the difference between interest and fees generated by earning assets and interest expense paid on deposits and other sources of funding. It is affected by variations in interest rates, the volume and mix of earning assets and interest-bearing liabilities, and the volume of non-performing assets.

The Company has reclassified loan fee income for 2001 and 2000 to conform to Financial Accounting Standards Board’s Statement No. 91, which addresses accounting for loan fees and costs . The reclassification reduced loan fee income by $435,070 in 2001, and by $497,245 in 2000. The corresponding entries reduced salary expense by the same amounts, as discussed later in the Non-Interest Expense section.

Net interest income was $8.8 million in 2002, $8.1 million in 2001 and $6.7 million in 2000, as adjusted. This represents an increase in net interest income of 7.8% for 2002 as compared to 2001 and an increase of 21.1% for 2001 over 2000. Net interest spread on average earning assets and liabilities was 3.6%, 3.5% and 2.7% for 2002, 2001, and 2000, respectively.

The improvement in net interest income in 2002 was due mainly to the falling interest rate environment coupled with the Bank’s liability sensitivity. The result was a more rapid decline in deposit rates than in asset rates. The Federal Reserve Open Market Committee reduced rates by 425 basis points (4.25 percentage points) throughout 2001 and rates have remained low throughout 2002. With deposits re-pricing more rapidly than loans, net interest margins improved. In addition, the Bank released a five year certificate of deposit during late 2001 and the first half of 2002. This certificate of deposit was competitively priced and should remain a stable source of funding as rates eventually begin to rise.

In reviewing net interest income, the impact of these factors becomes apparent by comparing interest expense in 2002, 2001 and 2000. Interest expense was $5.4 million in 2002, $7.3 million in 2001 and $8.3 million in 2000. The yield on interest bearing liabilities was 2.7%, 4.1%, and 4.9% for 2002, 2001, and 2000, respectively. This represents a decrease in interest expense of $1.9 million, or 26.4% between 2002 and 2001.

Non-Interest Income

Total non-interest income remained unchanged at $2.1 million in 2002 and 2001. Non-interest income in 2000 was $1.7 million. This represents no increase for 2002 over 2001 and 19.2% for 2001 over 2000.

Non-interest income is composed of income from fiduciary activities (Bay Trust Company), service charges on deposit accounts, other service charges and fees, secondary market loan origination fees, gains on securities, and other miscellaneous income. Fiduciary income declined by $176 thousand during 2002 for a decrease of 21.6% as compared to 2001. Fiduciary income increased by $141 thousand or 21.0% between 2001 and 2000. Fiduciary income is largely affected by changes in the performance of the stock market. This being the case, performance of fiduciary activities can be expected to approximate the performance of the national stock markets. While Bay Trust Company realized a decline in revenues during 2002, their managed accounts outperformed the S&P 500 index. Service charges on deposits increased by $81 thousand, while other service charges increased by $83 thousand during 2002 as compared to 2001. Secondary market loan fees totaled $261 thousand in 2002 compared to $224 thousand in 2001, an increase of $36 thousand or 16.2%. Other income includes lease income, gains on the sale of foreclosed property, gains on the sale of fixed assets, and other income. Other income increased in 2002 over 2001 to $18 thousand from $17 thousand, an increase of 5.3%.

While securities trading is not part of the core operating business of the Company and is therefore not budgeted, the Company may sell a portion of its investment portfolio as a means to fund loan growth. In addition, bonds that are called may be called at a premium which results in a realized gain. Gains on securities during 2002, 2001, and 2000 were $3 thousand, $22 thousand, and $54 thousand, respectively.

Non-Interest Expense

During 2002, non-interest expense increased to $7.2 million from $7.0 million in 2001 and $6.0 million in 2000. This represents an increase of 2.3% for 2002 over 2001 and 16.9% for 2001 over 2000. Non-interest expense is composed of salaries and benefits, occupancy expense, state bank franchise taxes and other expense. Salary and benefit expense is the major component of non-interest expenses. For 2001 and 2000 the Company has reclassified salary expense to conform to Financial Accounting Standards Board’s Statement No. 91, which addresses accounting for loan fees and costs . Salary expense was reduced due to this reclassification by $435,070 and $497,245 for 2001 and 2000, respectively. As discussed in the Interest Income section earlier, the corresponding entries reduced loan fee income by

the same amounts. Salary and benefits expense was $3.6 million in 2002, $3.6 million in 2001 and $2.9 million in 2000, as adjusted. This represents no increase between 2002 and 2001, and a 23.4% increase between 2001 and 2000. Bank of Lancaster purchased two branches of a regional bank in the fourth quarter of 2000. Staff increases related to this acquisition and other additional staffing resulted in the greatest portion of the increase in salaries and benefits for 2001.

Occupancy expense for 2002 was $884 thousand as compared to $804 thousand for 2001. This is an increase of 10.0% for 2002 over 2001. For the comparable period, 2001 over 2000, occupancy expense increased 17.9%. Other expense for 2002 was $2.2 million, an increase of 1.3% over 2001. As discussed earlier in the Goodwill paragraph of the Critical Accounting Policies section of this document, the Bank adopted Financial Accounting Standards Board Statement No. 147, Acquisitions of Certain Financial Institutions . This statement amended previous interpretive guidance on the application of the purchase method of accounting to acquisitions of financial institutions, and requires the application of Statement No. 141, Business Combinations , and Statement No. 142, Goodwill and Other Intangible Assets . Upon adoption of Statement No. 147, the Bank was able to recover the non-cash expense allocated to the amortization of the core deposit intangible that was associated with each of the branch acquisition transactions that were previously executed. The result was a reduction in other expense of $233 thousand in 2002 as compared to 2001.

Income Taxes

Income tax expense in 2002 was $869 thousand, up from $830 thousand in 2001 and $574 thousand in 2000. Income tax expense corresponds to an effective rate of 27.4%, 29.2% and 25.8% for the three years ended December 31, 2002, 2001, and 2000, respectively. Note 11 to the Consolidated Financial Statements provides a reconciliation between the amount of income tax expense computed using the federal statutory income tax rate and actual income tax expense. Also included in Note 11 to the Consolidated Financial Statements is information regarding deferred taxes for 2002 and 2001.

Balance Sheet

The Company experienced steady growth in its balance sheet throughout 2002. Loan and deposit growth was constant, increases in non-earning assets were modest, and the bond portfolio increased as well. Total assets were $263.1 million at year-end 2002 as compared to $245.6 for year-end 2001. This represents an increase of $17.5 million or 7.1%.

Loans

Loan demand was steady throughout 2002 as balances increased by $18.4 million or 12.1%. Year-end 2002 gross loan balances were $170.1 million as compared to $151.7 million at year-end 2001. The loan portfolio is mainly composed of residential first mortgages. Loans secured by one-to-four family real estate increased to $96.1 million at year-end 2002 as compared to $91.1 million at year-end 2001. This represents an increase of $5.0 million or 5.4% for 2002 over 2001. Real estate construction loans increased to $19.1 million for 2002 as compared to $13.9 million at year-end 2001. This represents an increase of $5.2 million or 37.5%. Commercial loan balances increased to $16.8 million from $11.4 million, and consumer installment loans increased to $10.0 million from $9.7 million for 2002 over 2001. At year-end 2002, residential and commercial loans secured by real estate were $140.3 million as compared to $128.9 million at year end 2001, for an increase of $11.4 million or 8.9%. Loans secured by real estate were 82.5% of total loans as of year-end 2002. One-to-four family residential mortgages comprised 56.5% of total loans, commercial loans were 9.8% and consumer installment loans were 5.9%.

Provision and Allowance for Loan Losses

The provision for loan losses is a charge against earnings that is necessary to maintain the allowance for loan losses at a level consistent with management’s evaluation of the loan portfolio’s inherent risk. The 2002 provision was $471 thousand as compared to $325 thousand for 2001. Loans charged off during 2002 totaled $289 thousand versus $221 thousand for 2001. Recoveries were $21 thousand and $19 thousand for 2002 and 2001, respectively. The allowance for loan losses, as a percentage of year-end loans, was 1.0% for 2002 and 1.0% for 2001.

As of December 31, 2002, loans upon which the accrual of interest had been discontinued were $268 thousand. Loans upon which the accrual of interest had been discontinued at year-end 2001 were $163 thousand. Other real estate owned, including foreclosed property, at year-end 2002 was $580 thousand as compared to $614 thousand for 2001. After foreclosure, management periodically performs valuations and the real estate is carried at the lower of carrying amount or fair value less cost to sell. Management expects no losses on the sale of other real estate owned.

Loans still accruing interest but delinquent ninety days or more totaled $667 thousand, or 0.4%, of all loans on December 31, 2002. These balances totaled $817 thousand, or 0.5%, on December 31, 2001.

The allowance for loan losses is analyzed for adequacy on a quarterly basis to determine the required amount of provision. A loan-by-loan review is conducted on all classified loans. Inherent losses on these individual loans are determined and these losses are compared to historical loss data for each loan type. Management then reviews the various analyses and determines the appropriate allowance. As of December 31, 2002, management considered the allowance for loan losses to be a reasonable estimate of potential loss exposure inherent in the loan portfolio.

Deposits

As of December 31, 2002, the Company maintained total deposits of $231.5 million. This compares to $219.2 million for 2001. This represents an increase of $12.3 million or 5.6% for 2002 as compared to 2001. Non-interest bearing demand deposits declined slightly to $25.7 million during 2002 from $26.1 million at year-end 2001. Savings and NOW balances increased to $114.4 million during 2002 from $102.1 million at year-end 2001. Other time deposits grew to $91.4 million from $91.0 million at year-end 2001.

Securities

As of December 31, 2002, investment securities totaled $50.2 million and year-end balances for 2001 were $48.0 million. Throughout 2002, the Company received $7.3 million in sales and maturities from the investment portfolio, and purchased $7.8 million. All of the Company’s securities are classified as available for sale. Securities held as available for sale are immediately eligible for sale for general liquidity management. Investment securities may be sold if loan demand requires funding, if decreases in deposits require alternative sources of liquidity, if embedded prepayment risk has resulted from changes in interest rates, if an investment’s credit quality requires action, or as other asset and liability management needs may dictate.

Available for sale securities are carried at fair market value, with after-tax market value gains or losses being disclosed as an “unrealized” component of shareholder’s equity entitled “Accumulated other comprehensive income.” Also known as unrealized gains or losses on investments, other comprehensive income is impacted by rising or falling interest rates. As the market value of a fixed income investment

will increase as interest rates fall, it will also decline as interest rates rise. The after tax gains or losses are recorded as other comprehensive income in the equity of the company, but have no impact on earnings until such time as the investment is sold. As of December 31, 2002 the Company had accumulated other comprehensive income of $1.6 million.

Liquidity, Interest Rate Sensitivity and Inflation

Sources of liquidity include core deposits, the investment portfolio and balances held as Federal Funds sold. Cash flows are managed to ensure availability of liquidity to fund loan growth or unanticipated declines in deposit balances. As of December 31, 2002, $5.2 million or 10.5% of the investment portfolio will mature within one year or less. At year-end 2002 the Company had $20.0 million in Federal Funds sold balances. Additional liquidity sources include overnight lines of credit with corresponding banks equaling $16.8 million and available credit at the Federal Home Loan Bank of Atlanta in the amount of $19.0 million. These credit lines were not used in 2002, as sufficient funding was available from growth in deposits.

The Company employs a variety of measurement techniques to identify and manage its exposure to changing interest rates and subsequent changes in liquidity. The company utilizes advanced simulation models that estimate interest income volatility and interest rate risk, and regularly investigates potential external influences. In addition, the Company utilizes an Asset Liability Committee (“ALCO”) composed of appointed members from management and the Board of Directors. The end result is significant managerial attention to interest income volatility that may result from changes in the level of interest rates, basic interest rate spreads, the economic value of equity, the shape of the yield curve and changing product patterns.

As mentioned above, the Company employs a simulation model that captures the impact of changing interest rates on the interest income received and interest expense paid on all assets and liabilities reflected on the balance sheet. The simulation model is prepared and updated four times during each year.

This sensitivity analysis is compared to ALCO policy limits quarterly. These limits specify a maximum tolerance level for net interest income exposure over a one-year horizon, assuming no balance sheet growth, and given a 200 basis point (bp) upward and downward immediate shift in interest rates. The following reflects that range of the Company’s net interest income sensitivity analysis during the year 2002 and 2001 as compared to the ALCO policy limit of 15%.

	2002
	Interest Rate Scenario (000’s)
	-200 bp			Flat		+200 bp
Net Interest Income	$	10,017		$	9,797	$	10,068
Net Interest Income $ Change	$	220				$	271
Net Interest Income % Change		2.25	%				2.78	%

	2001
	Interest Rate Scenario (000’s)
	-200 bp			Flat		+200 bp
Net Interest Income	$	9,109		$	9,281	$	9,706
Net Interest Income $ Change	($	172	)			$	425
Net Interest Income % Change	(	1.85	%)				4.58	%

During 2002, the simulation proved to be accurate in its presentation of the benefits of falling interest rates. As presented in the table above, Bay Banks of Virginia has minimal interest rate risk to either rising or falling rate environments. The Company could expect an increase in net interest income of $230 thousand if rates fall 200 basis points and an increase in net interest income of $281 thousand if rates increase 200 basis points during the twelve months following year-end 2002. The Company significantly increased balances in five-year certificates of deposit during late 2001 and early 2002. These balances increased as funds were moved from the eight-month certificate of deposit product. This occurred through the introduction of a five-year certificate of deposit product with attractive rates and terms, with the objective being restructuring the short-term deposits to longer term deposits. Approximately $36 million was placed in the five-year certificate product during its availability. Approximately $25 million of the total was moved from short-term certificates. This resulted in a more neutral interest rate risk position, as mentioned in the net interest income section above.

The financial statements and related financial data presented herein have been prepared in accordance with generally accepted accounting principles, which require 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, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates have a more significant impact on a financial institution’s performance than do general levels of inflation. Interest rates do not necessarily move in the same magnitude as the prices of goods and services. Another impact of inflation is on non-interest expenses, which tend to rise during periods of general inflation. The values of real estate held as collateral by the Company for loans and foreclosed property could be affected by inflation or changing prices due to market conditions.

In the fall of 2001 and spring of 2002, the Company was able to restructure its balance sheet by offering a five-year certificate of deposit product that proved very successful. This product provided approximately $30 million in certificates that were “new deposits” or transferred from shorter term certificate and transaction accounts. While this five-year certificate has embedded optionality, the product successfully moved the rate sensitivity of the balance sheet from liability sensitive to slightly asset sensitive. This means that the net interest margin of the company will be only nominally impacted in either a rising or falling rate environment. Also known as having a “neutral” balance sheet, this is a safe position for the Company as the risk associated with interest rate volatility is somewhat mitigated.

Management believes the most significant impact on financial results is the Company’s ability to react to changes in interest rates. As discussed previously, management attempts to maintain a favorable position between rate-sensitive assets and rate-sensitive liabilities in order to protect against wide interest rate fluctuations.

Capital Resources

Equity growth in the Company is supported by three methods; retained earnings, dividend reinvestment and the exercise of stock options granted to officers. The primary method of supporting growth is achieved through retained earnings. During 2002, 50.0% of net income was paid to stockholders as dividends. This pay out ratio was 53.6% in 2001 and 61.8% in 2000. A portion of the Company’s stock repurchases also reduces retained earnings. In addition, the Company employs a dividend reinvestment plan in which each stockholder has the option to participate. The plan provides the Company’s stockholders an opportunity to use dividends received to purchase authorized but un-issued shares at the current market price and with no commission.

Total capital, or shareholders’ equity, as of December 31, 2002 was $23.1 million before other comprehensive income, and $22.1 million at year-end 2001. This is an increase of $1.0 million or 4.8%.

As outlined in the Securities section above, the Company accounts for unrealized gains or losses in the investment portfolio by adjusting capital for any after tax effect of that gain or loss at the end of a given accounting period. Net unrealized gains were $1.6 million at December 31, 2002, as compared to $546 thousand at year-end 2001.

The Company is required to maintain minimum amounts of capital to total “risk weighted” assets as defined by Federal Reserve Capital Guidelines. According to Capital Guidelines for Bank Holding Companies , the Company is required to maintain a minimum Total Capital to Risk Weighted Asset ratio of 8.0%, a Tier 1 Capital to Risk Weighted Asset ratio of 4.0% and a Tier 1 Capital to Adjusted Average Asset ratio (Leverage ratio) of 4.0%. As of December 31, 2002, the Company maintained these ratios at 12.5%, 11.5%, and 7.9%, respectively.

Book value per share of common stock before other comprehensive income was $10.03 on December 31, 2002, $9.57 on December 31, 2001, and $9.27 on December 31, 2000, as restated for the 2-for-1 stock split in 2002. Cash dividends paid during 2002 were $1,150,503 million or $0.50 per share. In 2001 and 2000, cash dividends paid were $1,075,919 and $996,885 respectively. Total shares outstanding on December 31, 2002 and 2001 were 2,307,360 and 1,153,281 respectively. The Company declared a two-for-one stock split in the form of a 100% stock dividend on June 7, 2002. All per share data has been adjusted to reflect the split.

Recent Accounting Pronouncements

In December, 2001, the American Institute of Certified Public Accountants (“AICPA”) issued Statement of Position 01-6, Accounting by Certain Entities (Including Entities with Trade Receivables) That Lend to or Finance the Activities of Others, to reconcile and conform the accounting and financial reporting provisions established by various AICPA industry audit guides. This Statement is effective for annual and interim financial statements issued for fiscal years beginning after December 15, 2001, and did not have a material impact on the Company’s consolidated financial statements.

In April 2002, the Financial Accounting Standards Board issued Statement 145, Rescission of FASB No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections. The amendment to Statement 13 eliminates an inconsistency between the required accounting for sale-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale-leaseback transactions. This Statement also amends other existing authoritative pronouncements to make various technical corrections, clarify meanings, or describe their applicability under changed conditions. The provisions of this Statement related to the rescission of Statement 4 shall be applied in fiscal years beginning after May 15, 2002. The provisions of this Statement related to Statement 13 are effective for transactions occurring after May 15, 2002, with early application encouraged.

In June 2002, the Financial Accounting Standards Board issued Statement 146, Accounting for Costs Associated with Exit or Disposal Activities. This Statement requires recognition of a liability, when incurred, for costs associated with an exit or disposal activity. The liability should be measured at fair value. The provisions of the Statement are effective for exit or disposal activities initiated after December 31, 2002.

Effective January 1, 2002, the Company adopted Financial Accounting Standards Board Statement No. 142, Goodwill and Other Intangible Assets. Accordingly, goodwill is no longer subject to amortization over its estimated useful life, but is subject to at least an annual assessment for impairment by applying a fair value based test. Additionally, Statement 142 requires that acquired intangible assets (such as core

deposit intangibles) be separately recognized if the benefit of the asset can be sold, transferred, licensed, rented, or exchanged, and amortized over their estimated useful life. Branch acquisition transactions were outside the scope of the Statement and therefore any intangible asset arising from such transactions remained subject to amortization over their estimated useful life.

In October 2002, the Financial Accounting Standards Board issued Statement No. 147, Acquisitions of Certain Financial Institutions. The Statement amends previous interpretive guidance on the application of the purchase method of accounting to acquisitions of financial institutions, and requires the application of Statement No. 141, Business Combinations, and Statement No. 142 to branch acquisitions if such transactions meet the definition of a business combination. The provisions of the Statement do not apply to transactions between two or more mutual enterprises. In addition, the Statement amends Statement No. 144, Accounting for the Impairment of Long-Lived Assets, to include in its scope core deposit intangibles of financial institutions. Accordingly, such intangibles are subject to a recoverability test based on undiscounted cash flows, and to the impairment recognition and measurement provisions required for other long-lived assets held and used.

The adoption of Statement No. 142, 145, 146 and 147 did not have a material impact on the Company’s consolidated financial statements.

The Financial Accounting Standards Board issued Statement No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure, an amendment of Statement No. 123, in December 2002. The Statement amends Statement No. 123 to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, the Statement amends the disclosure requirements of Statement 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. Finally, this Statement amends APB Opinion No. 28, Interim Financial Reporting, to require disclosure about the effects of stock options in interim financial information. The amendments to Statement No. 123 are effective for financial statements for fiscal years ending after December 15, 2002. The amendments to APB No. 28 are effective for financial reports containing condensed financial statements for interim periods beginning after December 15, 2002. Early application is encouraged for both amendments. The Company continues to record stock options under APB Opinion No. 25, Accounting for Stock Issued to Employees, and has not adopted the alternative methods allowable under Statement No. 148.

Forward-Looking Statements

In addition to the historical information contained herein, this discussion contains forward-looking statements that involve risks and uncertainties. Economic circumstances, the operations of the Bank, and the Holding Company’s actual results could differ significantly from those discussed in the forward looking statements. Some of the factors that could cause or contribute to such differences are discussed herein, but also include changes in economic conditions in the Company’s (or Bank’s) market area, changes in policies by regulatory agencies, fluctuations in interest rates, demand for loans in the Company’s market, and competition. Any of these factors could cause actual results to differ materially from historical earnings and those presently anticipated or projected.

CONSOLIDATED BALANCE SHEETS

December 31, 2002 and 2001

	2002		2001
ASSETS
Cash and due from banks	$	9,875,840	$	9,290,717
Interest-bearing deposits		159,730		176,617
Federal funds sold		19,978,688		25,235,480
Securities available-for-sale, at fair value		50,151,265		47,993,730
Loans, net of allowance for loan losses of $1,696,914 in 2002 and $1,493,063 in 2001		168,442,156		150,252,556
Premises and equipment, net		7,968,469		6,943,494
Accrued interest receivable		1,453,952		1,562,917
Other real estate owned		580,167		614,073
Core deposit intangibles		2,807,842		2,807,842
Other assets		1,642,040		716,767

Total assets	$	263,060,149	$	245,594,193

LIABILITIES AND SHAREHOLDERS’ EQUITY

*Liabilities*
Demand deposits	$	25,731,769	$	26,108,393
Savings and NOW deposits		114,421,623		102,121,408
Other time deposits		91,362,789		90,963,764

Total deposits		231,516,181		219,193,565

Other Liabilities
Securities sold under repurchase agreements		4,481,764		2,860,274
Other liabilities		2,305,405		923,563

Total other liabilities		6,787,169		3,783,837

Total liabilities		238,303,350		222,977,402


*Shareholders’ Equity*
Common stock—$5 par value
Authorized—5,000,000 shares;
Outstanding—2,307,360 and 1,153,281 shares		11,536,800		5,766,405
Additional paid-in capital		4,080,693		3,940,720
Retained earnings		7,514,790		12,363,054
Accumulated other comprehensive income		1,624,516		546,612

Total shareholders’ equity		24,756,799		22,616,791

Total liabilities and shareholders’ equity	$	263,060,149	$	245,594,193

See Notes to Consolidated Financial Statements.

CONSOLIDATED STATEMENTS OF INCOME

Years Ended December 31, 2002, 2001 and 2000

	2002		2001		2000
*Interest Income*
Loans, including fees	$	11,150,289	$	12,380,007	$	11,650,814
Securities:
Taxable		2,024,013		2,230,693		2,589,620
Tax-exempt		624,514		500,294		623,527
Federal funds sold and other		344,951		331,131		146,178

Total interest income		14,143,767		15,442,125		15,010,139

*Interest Expense*
Deposits		5,356,811		7,230,852		7,740,488
Federal Home Loan Bank borrowings		—		—		377,484
Federal funds purchased and securities sold under repurchase agreements		33,853		89,852		184,694

Total interest expense		5,390,664		7,320,704		8,302,666

*Net Interest Income*		8,753,103		8,121,421		6,707,473
Provision for loan losses		471,000		325,000		250,000

Net interest income after provision for loan losses		8,282,103		7,796,421		6,457,473

*Non-interest Income*
Income from fiduciary activities		635,197		810,735		669,892
Service charges on deposit accounts		541,250		460,281		364,798
Other service charges and fees		633,239		550,552		464,564
Secondary market lending fees		260,913		224,454		67,402
Securities gains		2,800		22,269		53,793
Other income		18,025		17,124		129,312

Total non-interest income		2,091,424		2,085,415		1,749,761

*Non-interest Expenses*
Salaries and employee benefits		3,599,689		3,615,834		2,930,970
Occupancy expense		884,495		804,325		682,045
Bank franchise tax		209,015		190,823		165,531
Visa expense		321,444		272,527		211,757
Other expenses		2,187,944		2,159,228		2,029,891

Total non-interest expenses		7,202,587		7,042,737		6,020,194

Income before income taxes		3,170,940		2,839,099		2,187,040
Income tax expense		869,539		830,260		574,420

Net Income	$	2,301,401	$	2,008,839	$	1,612,620

*Basic Earnings Per Share*
Average shares outstanding *		2,301,364		2,310,522		2,318,698
Net income per share of common stock	$	1.00	$	0.87	$	0.70
*Diluted Earnings Per Share*
Average shares outstanding *		2,309,959		2,344,806		2,362,404
Net income per share of common stock	$	.99	$	0.86	$	0.69

*Adjusted

for a 2-for-1 stock split on June 7, 2002.

See Notes to Consolidated Financial Statements.

CONSOLIDATED STATEMENTS OF CHANGES IN

SHAREHOLDERS’ EQUITY

Years Ended December 31, 2002, 2001 and 2000

	Common Stock			Additional Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Income (Loss)			Total Shareholders’ Equity
*Balance at January 1, 2000*	$	5,826,617		$	3,735,576		$	11,572,592		$	(1,428,924	)	$	19,705,861

Comprehensive income:
Net income		—			—			1,612,620			—			1,612,620
Net changes in unrealized appreciation on available-for-sale securities, net of taxes of $602,425		—			—			—			1,169,412			1,169,412

Total comprehensive Income		—			—			1,612,620			1,169,412			2,782,032
Cash dividends paid— $0.43* per share		—			—			(996,885	)		—			(996,885	)
Stock repurchase		(84,515	)		(177,340	)		(339,687	)		—			(601,542	)
Sale of common stock—
Dividend reinvestment plan		47,739			291,562			—			—			339,301
Stock options exercised		20,000			38,025			—			—			58,025

*Balance at December 31, 2000*		5,809,841			3,887,823			11,848,640			(259,512	)		21,286,792

Comprehensive income:
Net income		—			—			2,008,839			—			2,008,839
Net changes in unrealized appreciation on available-for-sale securities, net of taxes of $415,276		—			—			—			806,124			806,124

Total comprehensive income		—			—			2,008,839			806,124			2,814,963
Cash dividends paid – $0.47* per share		—			—			(1,075,919	)		—			(1,075,919	)
Stock repurchase		(112,600	)		(239,826	)		(396,191	)		—			(748,617	)
Sale of common stock—
Dividend reinvestment plan		45,479			257,425			—			—			302,904
Stock options exercised		23,685			35,298			(22,315	)		—			36,668

*Balance at December 31, 2001*		5,766,405			3,940,720			12,363,054			546,612			22,616,791

Comprehensive income:
Net income		—			—			2,301,401			—			2,301,401
Net changes in unrealized appreciation on available-for-sale securities, net of taxes of $555,284		—			—			—			1,077,904			1,077,904

Total comprehensive income		—			—			2,301,401			1,077,904			3,379,305
Cash dividends paid— $0.50* per share		—			—			(1,150,503	)		—			(1,150,503	)
Stock repurchase		(102,895	)		(142,262	)		(224,426	)		—			(469,583	)
2-for-1 Stock Split		5,756,178						(5,756,178	)		—			—
Sale of common stock—
Dividend reinvestment plan		92,237			251,389			—			—			343,626
Stock options exercised		24,875			30,846			(18,558	)		—			37,163

*Balance at December 31, 2002*	$	11,536,800		$	4,080,693		$	7,514,790		$	1,624,516		$	24,756,799

*Adjusted

for a 2-for-1 stock split on June 7, 2002.

See Notes to Consolidated Financial Statements.

CONSOLIDATED STATEMENTS OF CASH FLOWS

Years Ended December 31, 2002, 2001 and 2000

	2002			2001			2000
*Cash Flows From Operating Activities*
Net income	$	2,301,401		$	2,008,839		$	1,612,620
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		543,472			512,716			455,993
Net amortization and accretion of securities		31,373			27,711			88,181
Provision for loan losses		471,000			325,000			250,000
Net securities gains		(2,800	)		(22,269	)		(53,793	)
Loss on sale of other real estate owned		22,894			103,865			13,886
Deferred income taxes		166,684			166,515			19,559
(Increase) decrease in accrued income and other assets		(534,721	)		596,466			(1,583,844	)
Increase (decrease) in other liabilities		378,286			(471,227	)		(58,884	)

Net cash provided by operating activities		3,377,589			3,247,616			743,718

*Cash Flows From Investing Activities*
Proceeds from maturities of available-for-sale securities		3,245,124			10,004,309			3,027,884
Proceeds from sale of available-for-sale securities		4,013,400			2,695,390			3,220,033
Purchases of available-for-sale securities		(7,811,445	)		(6,894,519	)		(3,923,540	)
Increase (decrease) in interest bearing deposits		16,887			83,377			(159,994	)
Net change in Fed Funds Sold		5,256,792			(20,478,480	)		(4,757,000	)
Loan originations and principal collections, net		(18,660,600	)		(3,040,705	)		(17,536,337	)
Purchase of premises and equipment		(1,568,446	)		(678,130	)		(2,280,349	)
Proceeds from sale of other real estate owned		11,012			227,594			146,747

Net cash used in investing activities		(15,497,276	)		(18,081,164	)		(22,262,556	)

*Cash Flows From Financing Activities*
Net change in demand, savings and NOW deposit accounts		11,923,592			3,930,686			6,562,133
Net increase in time deposits		399,025			15,084,793			15,913,986
Net increase in securities sold under repurchase agreements		1,621,490			55,183			1,521,767
Proceeds from issuance of common stock		380,789			339,572			397,326
Dividends paid		(1,150,503	)		(1,075,919	)		(996,885	)
Repurchase of stock		(469,583	)		(748,617	)		(601,542	)

Net cash provided by financing activities		12,704,810			17,585,698			22,796,785

Net increase in cash and due from banks		585,123			2,752,150			1,277,947
Cash and due from banks at January 1		9,290,717			6,538,567			5,260,620

Cash and due from banks at December 31	$	9,875,840		$	9,290,717		$	6,538,567

*Supplemental Disclosures:*
Interest paid	$	5,465,179		$	7,442,157		$	8,096,843

Income taxes paid	$	714,266		$	576,400		$	548,340

Unrealized gain on investment securities	$	1,633,188		$	1,221,400		$	1,771,837

Loans transferred to other real estate owned	$	464,988		$	141,025		$	40,097

See Notes to Consolidated Financial Statements.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2002, 2001 and 2000

Note 1. Nature of Business and Significant Accounting Policies

Principles of consolidation. The consolidated financial statements of the Company include the accounts of Bay Banks of Virginia, Inc. and its subsidiaries, Bank of Lancaster and Bay Trust Company. All significant intercompany balances and transactions have been eliminated in consolidation.

Nature of business. Bay Banks of Virginia, Inc. is a bank holding company that conducts substantially all of its operations through its subsidiaries, Bank of Lancaster and Bay Trust Company.

The Bank of Lancaster is state-chartered and a member of the Federal Reserve System serving individual and commercial customers, the majority of which are in the Northern Neck of Virginia. The Bank has offices in the counties of Lancaster, Northumberland, Richmond, and Westmoreland, Virginia. Each branch offers a full range of deposit and loan products to its retail and commercial customers. A substantial amount of the Bank’s deposits are interest bearing. The majority of the Bank’s loan portfolio is secured by real estate.

Bay Trust Company offers full service trust and estate planning from its office on Main Street in Kilmarnock, Virginia. Bay Trust Company offers testamentary trust, revocable and irrevocable personal, managed agency, and custodial trusts, as well as discount brokerage services.

Use of estimates. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions. The amounts recorded in the financial statements may be affected by those estimates and assumptions. Actual results may vary from those estimates.

Estimates are used primarily in developing the allowance for loan losses, in estimating the economic life of loan fees and costs, in determining the fair value of investment securities, in computing deferred tax assets, in determining the estimated useful lives of premises and equipment, and in the valuation of other real estate owned.

Securities available-for-sale. Debt and equity securities are classified as available-for-sale and carried at fair value, with unrealized gains and losses, net of tax, excluded from income and reported as a separate component of comprehensive income until 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. Declines in the fair value of individual securities classified as available-for-sale below their amortized cost that are determined to be other than temporary, result in write-downs of the individual securities to their fair value with the resulting write-downs included in current earnings as realized losses.

Securities sold under repurchase agreements. Securities sold under repurchase agreements, which are classified as secured borrowings, generally mature within one year from the transaction date. Securities sold under repurchase agreements are reflected at the amount of cash received in connection with the transaction. The Company may be required to provide additional collateral based on the fair value of the underlying securities.

Loans receivable. Loans receivable that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at their outstanding unpaid principal balances reduced by any charge-offs or specific valuation accounts and net of any unearned discount and fees and costs on originating loans. Unearned discounts on certain installment loans are recognized as income over the terms of the loans by a method that approximates the effective interest method. Interest on other loans is credited to operations based on the principal amount outstanding. Loan fees and origination costs are deferred and the net amount is amortized as an adjustment of the related loan’s yield. The Company is amortizing these amounts over the contractual life of the related loans.

Loans are generally placed on non-accrual status when the collection of principal or interest is ninety days or more past due, or earlier, if collection is uncertain based on an evaluation of the net realizable value of the collateral and the financial strength of the borrower. Loans greater than ninety days past due may remain on accrual status if management determines it has adequate collateral to cover the principal and interest. For those loans that are carried on non-accrual status, interest is recognized on the cash basis.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

December 31, 2002, 2001 and 2000

The Company considers a loan impaired when it is probable that the Company will be unable to collect all interest and principal payments as scheduled in the loan agreement. A loan is not considered impaired during a period of delay in payment if the ultimate collectibility of all amounts due is expected. 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 Company does not separately identify individual consumer and residential loans for impairment disclosures. Consistent with the Company’s method for non-accrual loans, interest receipts for impaired loans are recognized on the cash basis.

Allowance for loan losses. The allowance for loan losses is increased by charges to income and decreased by charge-offs (net of recoveries). The allowance represents an amount that, in management’s judgment, will be adequate to absorb any losses on existing loans that may become uncollectible. Management’s periodic evaluation of the adequacy of the allowance is based on past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, and current economic conditions. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available.

Premises and equipment. Land is carried at cost. Premises and equipment are carried at cost less accumulated depreciation. Depreciation is computed principally by the straight-line method over the estimated useful lives of the premises and equipment.

Other real estate owned. Real estate properties acquired through, or in lieu of, loan foreclosure are to be sold and are initially recorded at fair value on the date of foreclosure to establish a new cost basis. After foreclosure, management periodically performs valuations and the real estate is carried at the lower of carrying amount or fair value less cost to sell.

Income taxes. Deferred tax assets and liabilities are reflected 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 tax assets and liabilities are adjusted through the provision for income taxes.

Pension benefits. The noncontributory defined benefit pension plan covers substantially all full-time employees. The plan provides benefits that are based on employees’ average compensation during the five consecutive years of highest compensation. The funding policy is to make the minimum annual contribution that is required by applicable regulations, plus such amounts as may be determined to be appropriate from time-to-time.

Post retirement benefits . The Company provides certain health care benefits for all retired employees that meet eligibility requirements. The Company’s share of the estimated cost of benefits that will be paid after retirement is generally being accrued by charges to expense over the employees’ service periods to the dates they are fully eligible for benefits, except that the Company’s unfunded cost that existed at the adoption date is being accrued primarily in a straight-line manner that will result in its full accrual by the end of the transition obligation amortization period.

Trust assets and income. Customer assets held by the trust company, other than cash on deposit, are not included in these financial statements, since such items are not assets of the trust company. Trust fees are recorded on the accrual basis.

Note 1. Nature of Business and Significant Accounting Policies—(Concluded)

Earnings per share. Earnings per share is calculated by dividing net income for the period by the weighted average number of shares of common stock outstanding during the period. The assumed exercise of stock options is included in the calculation of diluted earnings per share.

Off-balance-sheet financial instruments. In the ordinary course of business the Company has entered into off-balance-sheet financial instruments such as home equity lines of credit, commitments under credit card arrangements 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.

Significant group concentration of credit risk. Most of the Company’s business activity is with customers located in the counties of Lancaster, Northumberland, Richmond and Westmoreland, Virginia. The Company makes residential, commercial and consumer loans and a significant amount of the loan portfolio is comprised of real estate mortgage loans, which primarily are for single-family residences. The adequacy of collateral on real estate mortgage loans is highly dependent on changes to real estate values.

Advertising. Advertising costs are expensed as incurred.

Reclassifications. Certain amounts in the financial statements have been reclassified to conform with classifications adopted in 2002.

Stock-based compensation plans. At December 31, 2002, the Company has three stock-based compensation plans, which are described more fully in Note 14. The Company accounts for the plans under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees and related interpretations. No stock-based compensation cost is reflected in net income, as all options granted under those plans had an exercise price equal to market value of the underlying common stock on the date of the grant. The following table illustrates the effect on net income and earnings per share if the Company had applied fair value recognition provisions of FASB No. 123, Accounting for Stock-Based Compensation.

	Years Ended December 31,
	2002			2001			2000
Net income, as reported	$	2,301,401		$	2,008,839		$	1,612,620
Total stock-based compensation expense determined under fair value based method for all awards, net of related tax effects		(94,704	)		(78,000	)		(89,000	)

Pro forma net income	$	2,206,697		$	1,930,839		$	1,523,620

Earnings per share:
Basic—as reported	$	1.00		$	0.87		$	0.70
Basic—pro forma	$	0.96		$	0.84		$	0.66
Diluted—as reported	$	0.99		$	0.86		$	0.69
Diluted—pro forma	$	0.96		$	0.82		$	0.64

Note 2. Core Deposit Intangibles

The Company has core deposit intangibles recorded on the financial statements relating to the purchase of five branches. The balance of the intangibles at December 31, 2002, as reflected on the Consolidated Balance Sheet was $2,807,842. Management has determined that these purchases qualified as acquisitions of businesses, as is allowed under FASB No. 147, and therefore has discontinued amortization, effective January 1, 2002. Amortization expense for 2001 and 2000 was $233,098 and $154,982, respectively.

The Company will be required to perform an annual impairment test to support the value reported.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

December 31, 2002, 2001 and 2000

Note 3. Investment Securities

The aggregate amortized cost and fair values of the available for sale securities’ portfolio at December 31 were as follows:

	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)			Fair Value
December 31, 2002:
U.S. Government agencies	$	7,511,155	$	358,248	$	—		$	7,869,403
State and municipal obligations		25,712,115		1,410,938		(15,619	)		27,107,434
Corporate Bonds		13,146,266		715,713		(7,892	)		13,854,087
Restricted securities		1,320,341		—		—			1,320,341

	$	47,689,877	$	2,484,899	$	(23,511	)	$	50,151,265

	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)			Fair Value
December 31, 2001:
U.S. Government agencies	$	6,693,947	$	152,679	$	(19,275	)	$	6,827,351
State and municipal obligations		20,978,986		436,702		(38,745	)		21,376,943
Corporate Bonds		18,240,597		369,727		(72,888	)		18,537,436
Restricted securities		1,252,000		—		—			1,252,000

	$	47,165,530	$	959,108	$	(130,908	)	$	47,993,730

Gross realized gains and gross realized losses on sales of securities were as follows:

	2002		2001		2000
Gross realized gains	$	2,800	$	22,269	$	58,242
Gross realized losses		—		—		4,449

The aggregate amortized cost and market values of the investment securities portfolio by contractual maturity at December 31, 2002 are shown below:

	2002
	Amortized Cost		Fair Value
Due in one year or less	$	5,193,780	$	5,261,076
Due after one year through five years		29,217,356		31,068,244
Due after five through ten years		10,592,686		11,057,582
Due after ten years		1,365,714		1,444,023
Restricted securities		1,320,341		1,320,341

	$	47,689,877	$	50,151,265

Securities with a market value of $7,109,320 and $5,592,820 at December 31, 2002 and 2001, respectively, were pledged as collateral for public deposits, repurchase agreements and for other purposes as required by law.

Note 4. Loans

The following is a summary of the balances of loans (dollars in thousands):

	2002			2001
Mortgage loans on real estate:
Construction	$	19,131		$	13,914
Secured by farmland		179			81
Secured by 1-4 family residential		96,057			91,141
Other real estate loans		24,977			23,807
Loans to farmers (except those secured by real estate)		514			—
Commercial and industrial loans (except those secured by real estate)		16,763			11,399
Consumer installment loans		9,996			9,704
All other loans		1,285			857
Net deferred loan costs and fees		1,237			843

Total loans		170,139			151,746
Allowance for loan losses		(1,697	)		(1,493	)

Loans, net	$	168,442		$	150,253

Note 5. Allowance for Loan Losses

An analysis of the change in the allowance for loan losses follows:

	2002			2001			2000
Balance, beginning of year	$	1,493,063		$	1,369,842		$	1,197,843
Provision for loan losses		471,000			325,000			250,000
Recoveries		21,467			19,157			16,106
Loans charged off		(288,616	)		(220,936	)		(94,107	)

Balance, end of year	$	1,696,914		$	1,493,063		$	1,369,842

Information about impaired loans is as follows:

	2002		2001
Impaired loans for which an allowance has been provided	$	114,872	$	72,665
Impaired loans for which no allowance has been provided		—		—

Total impaired loans	$	114,872	$	72,665

Allowance provided for impaired loans, included in the allowance for loan losses	$	36,064	$	41,333

Average balance in impaired loans	$	114,872	$	72,665

Interest income recognized	$	3,060	$	4,446

At December 31, 2002 and 2001, non-accrual loans excluded from impaired loan disclosure under FASB 114 totaled $154,070 and $90,660, respectively. If interest on these loans had been accrued, such income would have approximated $10,080 in 2002 and $5,501 in 2001.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

December 31, 2002, 2001 and 2000

Note 6. Premises and Equipment, net

Components of premises and equipment included in the Consolidated Balance Sheets at December 31, 2002 and 2001, were as follows:

	2002			2001
Land	$	734,430		$	674,430
Buildings and improvements		5,705,366			5,364,241
Furniture and equipment		6,303,929			5,136,608

Total cost		12,743,725			11,175,279
Less accumulated amortization and depreciation		(4,775,256	)		(4,231,785	)

Premises and equipment, net	$	7,968,469		$	6,943,494

Amortization and depreciation expense for the years ended December 31, 2002, 2001 and 2000 totaled $543,472, $512,716 and $455,993 respectively.

Note 7. Deposits

The aggregate amount of time deposits in denominations of $100,000 or more at December 31, 2002 and 2001 was $25,039,101 and $23,431,128, respectively.

At December 31, 2002, the scheduled maturities of time deposits are as follows:

2003	$	33,679,502
2004		5,302,258
2005		2,364,204
2006		34,572,378
2007		15,424,019
Thereafter		20,428

	$	91,362,789

At December 31, 2002 and 2001, overdraft demand deposits reclassified to loans totaled $51,152 and $40,240, respectively.

Note 8. Employee Benefit Plans

The following tables provide the reconciliation of changes in the benefit obligations and fair value of assets and a statement of funded status for the pension plan and post retirement plan of the Company.

	Pension Benefits									Post Retirement Benefits
	2002			2001			2000			2002
Change in benefit obligation
Benefit obligation, beginning of year	$	1,469,173		$	1,457,171		$	1,231,306		$	185,986
Service cost		154,040			128,478			111,616			13,001
Interest cost		110,188			109,288			92,279			13,019
Actuarial (gain)/loss		215,759			(17,491	)		43,809			21,273
Benefit payments		(8,467	)		(208,273	)		(21,839	)		(7,965	)

Benefit obligation, end of year		1,940,693			1,469,173			1,457,171			225,314

Change in plan assets
Fair value of plan assets, beginning of year		1,177,925			1,361,628			1,134,664			—
Actual return on plan assets		(70,503	)		(139,370	)		124,762			—
Employer contributions		199,781			163,940			124,041			7,965
Benefits payments		(8,467	)		(208,273	)		(21,839	)		(7,965	)

Fair value of plan assets, end of year		1,298,736			1,177,925			1,361,628			—

Funded Status
Funded status		(641,957	)		(291,248	)		(95,543	)		(225,314	)
Unrecognized prior service cost		106,990			123,362			139,734			—
Unrecognized transition (asset)/obligation		(18,311	)		(36,617	)		(54,923	)		32,043
Unrecognized actuarial loss		884,819			521,739			291,283			37,141

(Accrued)/prepaid benefit cost	$	331,541		$	317,236		$	280,551			(156,130	)

Weighted-average assumptions as of December 31:
Discount rate		7.0%			7.5%			7.5%			7.0%
Expected return on plan assets		9.0%			9.0%			9.0%			—
Rate of compensation increase		5.0%			5.0%			5.0%			—
Components of net periodic benefit cost
Service cost	$	154,040		$	128,478		$	111,616		$	13,001
Interest cost		110,188			109,288			92,279			13,019
Expected return on plan assets		(98,866	)		(117,140	)		(92,265	)		—
Recognized net actuarial gain		22,048			8,563			9,802			8,069
Amortization of prior service cost		16,372			16,372			16,372			—
Amortization of transition obligation		(18,306	)		(18,306	)		(18,306	)		2,913

Net periodic benefit cost	$	185,476		$	127,255		$	119,498		$	37,002

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

December 31, 2002, 2001 and 2000

In addition, as of December 31, 2002, the Company paid approximately $22,000 for employees who retired prior to adoption of FAS No. 106, Employers’ Accounting for Post Retirement Benefits Other Than Pensions.

The Company has a 401(k) retirement plan covering substantially all employees who have completed six months of service. Employees may contribute up to 15% of their salaries and the Company matches 100% of the first 2% and 25% of the next 2% of employee’s contributions. Additional contributions can be made at the discretion of the Board of Directors. Contributions to this plan amounted to $47,079, $45,617 and $43,062 for the years ended December 31, 2002, 2001 and 2000, respectively.

Note 9. Financial Instruments with Off-Balance Sheet Risk

In the normal course of business, the Company offers various financial products to its customers to meet their credit and liquidity needs. These instruments involve elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instruments for commitments to extend credit and standby letters of credit written is represented by the contractual amount of these instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. Unless otherwise noted, the Company does not require collateral or other security to support financial instruments with credit risk.

Subject to its normal credit standards and risk monitoring procedures, the Company makes contractual commitments to extend credit. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments may expire without being completely drawn upon, the total commitment amounts do not necessarily represent future cash requirements. At December 31, 2002 and 2001, the Company had outstanding loan commitments approximating $24,927,000 and $21,900,000, respectively.

Conditional commitments are issued by the Company in the form of performance stand-by letters of credit, which guarantee the performance of a customer to a third party. At December 31, 2002 and 2001, commitments under outstanding performance stand-by letters of credit aggregated $306,000 and $238,000, respectively. The credit risk of issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.

The Company has unused lines of credit totaling approximately $35 million with nonaffiliated banks as of December 31, 2002.

Note 10. Restrictions on Cash and Due From Banks

The Federal Reserve requires banks to maintain cash reserves against certain categories of deposit liabilities. At December 31, 2002, the aggregate amount of daily average required reserves for the final weekly reporting period was approximately $1,758,000.

The Company has approximately $9,836,000 in deposits in financial institutions in excess of amounts insured by the Federal Deposit Insurance Corporation (FDIC) at December 31, 2002.

Note 11. Income Taxes

The provision for income taxes consisted of the following for the years ended December 31:

	2002		2001		2000
Currently payable	$	702,855	$	663,745	$	554,861
Deferred		166,684		166,515		19,559

	$	869,539	$	830,260	$	574,420

The reasons for the differences between the statutory Federal income tax rates and the effective tax rates are summarized as follows:

	2002		2001		2000
Statutory rates	34.0%		34.0%		34.0%
Increase (decrease) resulting from:
Effect of tax-exempt income	(6.5	)	(4.9	)	(7.9	)
Other, net	(.1	)	1		—

	27.4%		29.2%		25.8%

The components of the net deferred tax assets and liabilities included in other assets (liabilities) are as follows at December 31:

	2002			2001
Deferred tax assets
Allowance for loan losses	$	453,874		$	384,564
Interest on non-accrual loans		3,428
Post retirement benefits		53,084
Deferred compensation		98,333			101,842
Other, net		16,692			48,175

		625,411			534,581

Deferred tax liabilities
Unrealized gain on available-for-sale securities		(836,872	)		(281,588	)
Pension plan		(112,724	)		(151,003	)
Depreciation		(378,161	)		(225,353	)
Amortization of intangible		(79,167	)
Deferred loan fees and costs		(494,783	)		(430,926	)
Other, net		(30,897	)		(30,936	)

		(1,932,604	)		(1,119,806	)

Net deferred tax liabilities	$	(1,307,193	)	$	(585,225	)

Note 12. Regulatory Requirements and Restrictions

The primary source of funds available to the Parent Company is the payment of dividends by the subsidiary Bank. Banking regulations limit the amount of dividends that may be paid without prior approval of the Bank’s regulatory agency. As of December 31, 2002, the aggregate amount of unrestricted funds, which could be transferred from the banking subsidiary to the Parent Company, without prior regulatory approval, totaled $1,969,428 or 7.96% of consolidated net assets.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

December 31, 2002, 2001 and 2000

The Company and Bank are subject to various regulatory capital requirements administered by the Federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Company and Bank’s 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 capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Prompt corrective action provisions are not applicable to bank holding companies.

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 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, that as of December 31, 2002 and 2001, the Company and the Bank meet all capital adequacy requirements to which they are subject.

As of December 31, 2002, the most recent notification from the Federal Reserve Bank categorized the Bank as well capitalized under the framework for prompt corrective action. To be categorized as well capitalized, an institution must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the Bank’s category.

The Company’s and the Bank’s actual capital amounts and ratios as of December 31, 2002 are presented in the table below:

	Actual				Minimum Capital Requirement				Minimum To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio
	(Amounts in Thousands)
As of December 31, 2002:
Total Capital (to Risk Weighted Assets)
Consolidated	$	22,021	12.49	%	$	14,143	8.00	%		N/A	N/A
Bank of Lancaster	$	19,524	11.18	%	$	13,973	8.00	%	$	17,466	10.00	%
Tier 1 Capital (to Risk Weighted Assets)
Consolidated	$	20,324	11.53	%	$	7,072	4.00	%		N/A	N/A
Bank of Lancaster	$	17,827	10.21	%	$	6,986	4.00	%	$	10,479	6.00	%
Tier 1 Capital (to Average Assets)
Consolidated	$	20,324	7.92	%	$	10,268	4.00	%		N/A	N/A
Bank of Lancaster	$	17,827	6.99	%	$	10,202	4.00	%	$	12,753	5.00	%

Note 12. Regulatory Requirements and Restrictions — (Concluded)

	Actual				Minimum Capital Requirement				Minimum To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio
	(Amounts in Thousands)
As of December 31, 2001:
Total Capital (to Risk Weighted Assets)
Consolidated	$	20,755	13.21	%	$	12,567	8.00	%		N/A	N/A
Bank of Lancaster	$	18,063	11.63	%	$	12,430	8.00	%	$	15,537	10.00	%
Tier 1 Capital (to Risk Weighted Assets)
Consolidated	$	19,262	12.26	%	$	6,284	4.00	%		N/A	N/A
Bank of Lancaster	$	16,570	10.66	%	$	6,215	4.00	%	$	9,322	6.00	%
Tier 1 Capital (to Average Assets)
Consolidated	$	19,262	8.05	%	$	9,572	4.00	%		N/A	N/A
Bank of Lancaster	$	16,570	6.98	%	$	9,502	4.00	%	$	11,878	5.00	%

Note 13. Employee Stock Ownership Plan

The Company has a noncontributory Employee Stock Ownership Plan for the benefit of all eligible employees who have completed twelve months of service and who have attained the age of 21 years. Contributions to the plan are at the discretion of the Board of Directors. Contributions are allocated in the ratio to which the covered compensation of each participant bears to the aggregate covered compensation of all participants for the plan year. Allocations are limited to 25% of eligible participant compensation. Participant accounts are 30% vested after three years, 40% vested after four years with vesting increasing 20% each year thereafter, until 100% vested. The plan had 128,074 allocated shares as of December 31, 2002. Contributions to the plan were $100,000, $90,000 and $80,000 as of December 31, 2002, 2001 and 2000, respectively. Dividends on the Company stock held by the ESOP were $65,013, $61,341, and $53,600 in 2002, 2001 and 2000 respectively. Shares held by the ESOP are considered outstanding for purposes of computing net earnings per share.

Note 14. Stock-Based Compensation Plans

The Company has three stock-based compensation plans. The 1985 incentive stock option plan expired in 1995 and no additional shares may be granted under this plan. Under the incentive stock option plan adopted in 1994, the Company may grant options to certain key employees for up to 150,000 shares. At December 31, 2002, the 1994 plan had 16,068 shares available for grant. Under both plans, the exercise price of each option equals the market price of the Company’s common stock on the date of grant and an option’s maximum term is ten years. Options granted are exercisable only after meeting certain performance targets during a specified time period. If the targets are not met, the options lapse. The 1998 Non-Employee Directors Stock Option Plan grants an option of 250 shares to each non-employee director annually. The plan had 25,000 shares available for grant at December 31, 2002. All shares have been adjusted for a 2-for-1 stock split in 2002.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

December 31, 2002, 2001 and 2000

A summary of the status of the incentive stock option plans as of December 31, 2002, 2001 and 2000, and changes during the years ending on those dates is presented below:

	2002				2001					2000
	Shares		Weighted Average Exercise Price		Shares			Weighted Average Exercise Price		Shares		Weighted Average Exercise Price
Outstanding at beginning of year	146,682		$	13.20		142,168		$	13.08	116,908		$	12.26
Granted	41,500			16.57		36,500			16.78	35,900			16.87
Exercised	(10,000	)		7.15		(11,700	)		6.52	(1,200	)		7.19
Forfeited	(13,310	)		16.75		(20,286	)		16.75	(9,440	)		15.63

Outstanding at end of year	164,872		$	14.13	$	146,682		$	13.20	142,168		$	13.08

Options exercisable at year-end	129,372

Weighted average fair value of options granted during 2002 was $2.40.

The fair value of each option granted during the year-ended December 31, 2002, was estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions for 2002: risk free rate of 4.20% and volatility of 7.32%. The dividend yield used in the pricing model was 2.48%. The expected life used for 2002 was ten years.

The status of the options outstanding at December 31, 2002 is as follows:

Options Outstanding			Options Exercisable
Range of Exercise Prices	Number Outstanding	Weighted Average Remaining Contractual Life	Number Exercisable	Weighted Average Exercise Price
$6.88-$8.25	22,000	1.8 yrs	22,000	$ 8.23
$8.50-$17.00	142,872	7.1 yrs	107,372	14.56

	164,872	6.4 yrs	129,372	$13.48

Note 15. Earnings Per Share

The following shows the weighted average number of shares used in computing the earnings per share and the effect on weighted average number of shares of diluted potential common stock.

	December 31,
	2002	2001	2000
Weighted average number of common shares used in earnings per common share—basic	2,301,364	2,310,522	2,318,698
Effect of dilutive securities: stock options	8,595	34,284	43,706

Weighted average number of common shares used
in earnings per common share—assuming dilution	2,309,959	2,344,806	2,362,404

As of December 31, 2002, options on 86,304 shares were not included in computing earnings per common share—assuming dilution, because their effects were antidilutive.

Note 16. Related Parties

The Company has entered into transactions with its directors and principal officers of the Company, their immediate families and affiliated companies in which they are the principal stockholders (related parties). The aggregate amount of loans to such related parties was $2,221,864 and $2,026,255 at December 31, 2002 and 2001, respectively. All such loans, in the opinion of the management, were made in the normal course of business on the same terms, including interest rate and collateral, as those prevailing at the time for comparable transactions.

Balance, January 1, 2002	$	2,026,255
New loans		533,561
Repayments		(337,952	)

Balance, December 31, 2002	$	2,221,864

Commitments to extend credit to directors and their related interests were $904,101 and $1,506,305 at December 31, 2002 and 2001, respectively.

Note 17. Fair Value of Financial Instruments

The estimated fair values of the financial instruments at December 31, 2002 and 2001, are shown in the following table. The carrying amounts in the table are included in the Consolidated Balance Sheets under the applicable captions.

	December 31, 2002				December 31, 2001
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial assets:
Cash and due from banks	$	9,875,840	$	9,875,840	$	9,290,717	$	9,290,717
Interest-bearing deposits		159,730		159,730		176,617		176,617
Federal funds sold		19,978,688		19,978,688		25,235,480		25,235,480
Securities available-for-sale		50,151,265		50,151,265		47,993,730		47,993,730
Loans, net of allowance for loan losses		168,442,156		174,186,528		150,252,556		157,458,428
Accrued interest receivable		1,453,952		1,453,952		1,562,917		1,562,917
Financial liabilities:
Non-interest bearing deposits		25,731,769		25,731,769		26,108,393		26,108,393
Savings and NOW deposits		114,421,623		115,248,949		102,121,408		102,160,387
Other time deposits		91,362,789		91,777,846		90,963,764		93,460,783
Securities sold under repurchase agreements		4,481,764		4,481,764		2,860,274		2,860,274
Accrued interest payable		288,192		288,192		362,707		362,707

The above presentation of fair values is required by Statement on Financial Accounting Standards No. 107, Disclosures About Fair Value of Financial Instruments . The fair values shown do not necessarily represent the amounts which would be received on immediate settlement of the instruments. Statement No. 107 excludes certain financial instruments and all non-financial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

December 31, 2002, 2001 and 2000

Note 17. Fair Value of Financial Instruments—(Concluded)

The following methods and assumptions were used to estimate the fair value of each class of financial instrument.

The carrying amounts of cash and due from banks, federal funds sold, non-interest bearing demand deposits, and commitments to extend credit represent items which do not present significant market risks, are payable on demand, or are of such short duration that carrying value approximates market value.

Securities available-for-sale are valued at the quoted market prices for the individual securities held. Therefore carrying value equals market value.

The fair value of loans is estimated by discounting future cash flows using the current interest rates at which similar loans would be made to borrowers.

Other time deposits are presented at estimated fair value using interest rates currently offered for deposits of similar remaining maturities.

Fair values for off-balance-sheet lending commitments is approximated by the carrying value.

Note 18. Condensed Financial Information of Parent Company

Financial information pertaining only to Bay Banks of Virginia, Inc. is as follows:

	2002		2001
Condensed Balance Sheets
Assets
Cash and due from banks	$	1,303,893	$	1,159,136
Due from subsidiaries		—		136,745
Investment in subsidiaries		23,388,631		21,111,065
Premises and equipment, net		157,935		177,896
Other assets		288,583		280,907

Total assets	$	25,139,042	$	22,865,749

Liabilities and Shareholders’ Equity
Liabilities
Deferred directors’ compensation	$	259,667	$	266,247
Federal income taxes payable		208,779		—
Other liabilities		8,838		77,752

Total liabilities		477,284		343,999

Total shareholders’ equity		24,661,758		22,521,750

Total liabilities and shareholders’ equity	$	25,139,042	$	22,865,749

Note 18. Unconsolidated Financial Statements of Parent Company (Concluded)

	2002			2001			2000
Condensed Statements of Income
Non-interest income
Dividends from subsidiaries	$	1,225,000		$	2,070,000		$	975,000
Other income		—			—			43,086

Total non-interest income		1,225,000			2,070,000			1,018,086

Total non-interest expense		186,766			144,958			91,432

Income before income taxes and equity in undistributed earnings of subsidiaries		1,038,234			1,925,042			926,654
Income tax (benefit) provision		(63,500	)		—			—

Income before equity in undistributed earnings of subsidiaries		1,101,734			1,925,042			926,654

Equity in undistributed earnings of subsidiaries		1,199,667			83,797			685,966

Net income	$	2,301,401		$	2,008,839		$	1,612,620

Cash Flows From Operating Activities
Net income	$	2,301,401		$	2,008,839		$	1,612,620
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		28,758			28,653			8,796
Equity in undistributed earnings of subsidiaries		(1,199,667	)		(83,797	)		(685,966	)
(Increase) in other assets		(16,467	)		(50,295	)		(316,542	)
Net change in deferred directors’ compensation		(6,581	)		50,295			316,542
Increase in other liabilities		139,865			77,040			281

Net cash provided by operating activities		1,247,309			2,030,735			935,731

Cash Flows From Investing Activities
Net change in due from subsidiaries		136,745			433,099			(569,844	)
Investment in subsidiaries		—			—			(900,000	)
Purchases of premises and equipment		—			(14,307	)		(183,444	)

Net cash provided by (used in) investing activities		136,745			418,792			(1,653,288	)
Cash Flows From Financing Activities
Proceeds from issuance of common stock		380,789			339,572			397,326
Dividends paid		(1,150,503	)		(1,075,919	)		(996,885	)
Repurchase of stock		(469,583	)		(748,617	)		(601,542	)

Net cash used in financing activities		(1,239,297	)		(1,484,964	)		(1,201,101	)

Net increase (decrease) in cash and due from banks		144,757			964,563			(1,918,658	)
Cash and due from banks at January 1		1,159,136			194,573			2,113,231

Cash and due from banks at December 31	$	1,303,893		$	1,159,136		$	194,573

LOGO

Yount, Hyde & Barbour, P.C.

Certified Public Accountants

and Consultants

Independent Auditor’s Report

To the Shareholders and Directors

Bay Banks of Virginia, Inc.

and Subsidiaries

Kilmarnock, Virginia

We have audited the accompanying consolidated balance sheet of Bay Banks of Virginia, Inc. and Subsidiaries as of December 31, 2002, and the related consolidated statements of income, changes in shareholders’ equity and cash flows for the year then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit. The financial statements of Bay Banks of Virginia, Inc. and Subsidiaries for the years ended December 31, 2001 and 2000 were audited by other auditors whose report, dated January 31, 2002, expressed an unqualified opinion on those statements.

We conducted our audit 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 audit provides 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 Bay Banks of Virginia, Inc. and Subsidiaries as of December 31, 2002, and the results of their operations and their cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America.

As discussed in Note 2, the Company adopted Statement of Financial Accounting Standards No. 147, “Acquisitions of Certain Financial Institutions.” Accordingly, the Company has discontinued amortizing core deposit intangibles effective January 1, 2002.

Winchester, Virginia

February 12, 2003

FINANCIAL HIGHLIGHTS

(Dollars in Thousands except per share amounts)

A T Y EAR E ND	2002			2001			% Change
Assets	$	263,060		$	245,594		7.1	%
Loans (Net)		168,442			150,253		12.1	%
Deposits		231,516			219,194		5.6	%
Stockholders Equity
Before SFAS 115 Adjustment		23,132			22,070		4.8	%
After SFAS 115 Adjustment		24,757			22,617		9.5	%
Book Value Per Share
Before SFAS 115 Adjustment	$	10.03		$	9.57		4.8	%
After SFAS 115 Adjustment	$	10.73		$	9.81		9.4	%

A VERAGES F OR T HE Y EAR
Assets	$	252,001		$	228,412		10.3	%
Loans (Net)		166,313			150,193		10.7	%
Deposits		229,379			202,223		13.4	%
Stockholders Equity after SFAS 115		23,687			22,215		6.6	%

F OR T HE Y EAR
Interest Income	$	14,144		$	15,442		(8.4	%)
Interest Expense		5,391			7,321		(26.4	%)
Net Interest Income		8,753			8,121		7.8	%
Net Income		2,301			2,009		14.5	%
Per Share-basic	$	1.00		$	0.87		14.9	%
Per Share-diluted	$	0.99		$	0.86		15.1	%
Cash Dividends		1,151			1,076		7.0	%
Per Share	$	0.50		$	0.47		6.4	%

S IGNIFICANT R ATIOS
Risk Based Capital:
Total Capital to Risk Weighted Assets		12.5	%		13.2	%
Tier 1 Capital to Risk Weighted Assets		11.5	%		12.3	%
Leverage Ratio		7.9	%		8.1	%
Return on Average Assets		0.9	%		0.9	%
Return on Average Equity		9.7	%		9.0	%
Loan Loss Reserve to Loans		1.0	%		1.0	%

Per share data adjusted for 2 for 1 split on June 7, 2002.

Ten Year Comparison of Earnings, Dividends, and Financial Condition

	Net Income		Dividends Paid		Basic Earnings Per Common Share*		Dividends Per Share*
1993	$	1,510,011	$	476,530	$	0.71	$	0.23
1994		1,378,185		529,060		0.64		0.25
1995		1,523,831		581,172		0.70		0.27
1996		1,831,616		642,102		0.82		0.29
1997		1,959,832		723,741		0.86		0.32
1998		1,930,900		809,825		0.84		0.35
1999		2,175,378		910,279		0.93		0.39
2000		1,612,620		996,885		0.70		0.43
2001		2,008,839		1,075,919		0.87		0.47
2002		2,301,401		1,150,503		1.00		0.50

	Total Assets		Net Loans		Total Deposits		Securities
1993	$	140,445,645	$	80,178,153	$	127,024,243	$	44,668,423
1994		150,646,340		87,642,815		136,950,209		52,293,024
1995		156,167,460		93,212,634		140,289,333		46,000,953
1996		159,333,211		100,711,314		142,109,886		45,249,656
1997		169,006,071		104,202,928		149,604,806		44,066,442
1998		200,270,927		113,642,610		178,268,851		59,007,884
1999		199,772,678		130,431,636		177,701,967		53,169,880
2000		225,331,729		147,677,876		200,178,086		52,582,952
2001		245,594,193		150,252,556		219,193,565		47,993,730
2002		263,060,149		168,442,156		231,516,181		50,151,265

*Per

share data is adjusted for a 2 for 1 stock split in June of 2002

Exhibit 23.1

CONSENT OF INDEPENDENT ACCOUNTANTS

We hereby consent to the incorporation by reference in this Annual Report on Form 10-K of our report dated February 12, 2003, relating to the consolidated financial statements of Bay Banks of Virginia, Inc. as of December 31, 2002 and for the year ended December 31, 2002.

        /s/ YOUNT, HYDE & BARBOUR, P.C.

Winchester, Virginia
March 26, 2003

Exhibit 23.2

CONSENT OF INDEPENDENT AUDITORS

Board of Directors
Bay Banks of Virginia, Inc.

We consent to the incorporation by reference in this Annual Report on Form 10-K for the year ended December 31, 2002 of our report dated January 31, 2002, relating to the consolidated financial statements of Bay Banks of Virginia, Inc. as of December 31, 2001 and 2000, and for each of the years in the three-year period ended December 31, 2001.

EGGLESTON SMITH P.C.

Newport News, Virginia
March 27, 2003

Exhibit 99.1

INDEPENDENT AUDITORS' REPORT

To the Board of Directors
Bay Banks of Virginia, Inc.
Kilmarnock, Virginia

We have audited the accompanying consolidated balance sheets of Bay Banks of Virginia, Inc. and subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of income, cash flows and changes in shareholders' equity for each of the years in the three-year period ended December 31, 2001. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits 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 financial statements referred to above present fairly, in all material respects, the consolidated financial position of Bay Banks of Virginia, Inc. and subsidiaries as of December 31, 2001 and 2000, and the consolidated results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2001, in conformity with generally accepted accounting principles.

/s/ EGGLESTON SMITH P.C.

EGGLESTON SMITH P.C.

January 29, 2002
Newport News, Virginia

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