U. S. SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

FORM 10-QSB

QUARTERLY REPORT PURSUANT TO

SECTION 13 or 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the quarter ended March 31, 2004

Commission File No. 0-28780

CARDINAL BANKSHARES CORPORATION

(Exact name of registrant as specified in its charter)

Virginia	54-1804471
(State of Incorporation)	(I.R.S. Employer Identification No.)

101 Jacksonville Circle, P. O. Box 215, Floyd, Virginia 24091

(Address of principal executive offices)

(540) 745-4191

(Registrant’s telephone number)

Indicate by a 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  ¨.

The number of shares outstanding of the issuer’s Common Stock, $10 par value as of May 15, 2004 was 1,535,733.

CARDINAL BANKSHARES CORPORATION

FORM 10-QSB

March 31, 2004

INDEX

		Page
Part I. Financial Information
Item 1.	Consolidated Balance Sheets as of March 31, 2004 (Unaudited) and December 31, 2003 (Audited)	3
	Consolidated Statements of Income for the three months ended March 31, 2004 and 2003 (Unaudited)	4
	Consolidated Statements of Cash Flows for the three months ended March 31, 2004 and 2003 (Unaudited)	5
	Notes to Consolidated Statements (Unaudited)	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	6
Item 3.	Controls and Procedures	10
Part II. Other Information
Item 1.	Legal Proceedings	11
Item 2.	Changes in Securities	11
Item 3.	Defaults Upon Senior Securities	11
Item 4.	Results of Votes of Security Holders	11
Item 5.	Other Information	11
Item 6.	Exhibits and Reports on Form 8-K
	(a) Exhibits	11
	(b) Reports on Form 8-K	11

Consolidated Balance Sheets

Cardinal Bankshares Corporation and Subsidiary

	(Unaudited) March 31, 2004			(Audited) December 2003
(In thousands, except share data)
Assets
Cash and due from banks	$	3,221		$	3,419
Interest-bearing deposits		4,325			4,316
Federal funds sold		14,100			9,125
Investment securities available for sale, at fair value		21,421			21,771
Investment securities held to maturity (fair value, $19,316 $19,564 - December 31, 2003		18,083			18,560
Restricted equity securities		603			598
Total loans		118,979			120,730
Allowance for loan losses		(1,842	)		(1,697	)
Net loans		117,137			119,033
Bank premises and equipment, net		2,502			2,437
Accrued interest receivable		913			883
Foreclosed properties		27			385
Bank owned life insurance		4,365			4,327
Other assets		1,572			1,558
Total assets	$	188,269		$	186,412
Liabilities and Stockholders’ Equity
Noninterest-bearing deposits	$	27,196		$	22,959
Interest-bearing deposits		132,984			136,256
Total deposits		160,180			159,215
Securities sold under agreements to repurchase		1,878			1,826
Accrued interest payable		141			123
Other liabilities		1,025			794
Total liabilities		163,224			161,958
Commitments and contingent liabilities		—			—
Stockholders’ Equity
Common stock, $10 par value, 5,000,000 shares authorized, 1,535,733 shares issued and outstanding		15,357			15,357
Additional paid-in capital		2,925			2,925
Retained earnings		6,462			5,970
Accumulated other comprehensive income, net		301			202
Total stockholders’ equity		25,045			24,454
Total liabilities and stockholders’ equity	$	188,269		$	186,412

See Notes to Consolidated Financial Statements.

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Consolidated Statements of Income (Unaudited)

Cardinal Bankshares Corporation and Subsidiary

	Three months ended March 31,
(In thousands, except share data)	2004		2003
Interest income
Loans and fees on loans	$	1,812	$	1,993
Federal funds sold and securities purchased under agreements to resell		22		35
Investment securities:
Taxable		238		289
Exempt from federal income tax		224		221
Deposits with banks		10		24
Total interest income		2,306		2,562
Interest expense
Deposits		792		1,043
Borrowings		9		—
Total interest expense		801		1,043
Net interest income		1,505		1,519
Provision for loan losses		—		30
Net interest income after provision for loan losses		1,505		1,489
Noninterest income
Service charges on deposit accounts		62		79
Other service charges and fees		20		20
Net realized gains on sales of securities		4		—
Other operating income		75		86
Total noninterest income		161		185
Noninterest expense
Salaries and employee benefits		620		536
Occupancy and equipment		139		147
Other operating expense		285		502
Total noninterest expense		1,044		1,185
Income before income taxes		622		489
Income tax expense		129		86
Net Income	$	493	$	403
Basic earnings per share	$	0.32	$	0.26
Diluted earnings per share	$	0.32	$	0.26
Weighted average basic shares outstanding		1,535,733		1,535,733
Weighted average diluted shares outstanding		1,535,733		1,535,733

See Notes to Consolidated Financial Statements.

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Consolidated Statements of Cash Flows (Unaudited)

Cardinal Bankshares Corporation and Subsidiary

(In thousands) Three Months Ended March 31,	2004			2003
Cash flows from operating activities
Net income	$	493		$	403
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		64			66
Accretion of discount on investment securities		(3	)		(9	)
Provision for loan losses		—			30
Net realized (gains) losses on investment securities		(4	)		—
Deferred compensation and pension expense		50			45
Changes in operating assets and liabilities:
(Increase) in accrued interest receivable		(30	)		(164	)
Increase in accrued interest payable		18			22
Net change in other operating assets and liabilities		76			81
Net cash provided by operating activities		664			474
Cash flows from investing activities
Net (increase) in interest-bearing deposits in banks		(9	)		(24	)
Net (increase) in federal funds sold		(4,975	)		(2,300	)
Purchase of investment securities		(4,399	)		(5,938	)
Proceeds from sale of available for sale securities		500			—
Purchase of restricted equity securities		(5	)
Proceeds from maturity and redemption of investment securities		4,883			5,850
Net decrease in loans		1,896			1,731
Sales of foreclosed properties		358			31
Net purchases of bank premises and equipment		(129	)		(4	)
Net cash (used) by investing activities		(1,880	)		(654	)
Financing Activities
Net increase in noninterest-bearing deposits		4,238			51
Net (decrease) in interest-bearing deposits		(3,272	)		(699	)
Net increase in other borrowings		52			—
Net cash provided (used) by financing activities		1,018			(648	)
Net (decrease) in cash and cash equivalents		(198	)		(828	)
Cash and cash equivalents at beginning of year		3,419			5,175
Cash and cash equivalents at end of year	$	3,221		$	4,347
Supplemental disclosures of cash flow information
Interest paid	$	784		$	1,021
Income taxes paid	$	146		$	194

See Notes to Consolidated Financial Statements.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

Note 1. Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with the instructions to Form 10-QSB and, therefore, do not include all of the disclosures and notes required by generally accepted accounting principles. In the opinion of management, all material adjustments (which are of a normal recurring nature) considered necessary for a fair presentation have been made. The results for the interim period are not necessarily indicative of the results to be expected for the entire year or any other interim period. The information reported herein should be read in conjunction with the Notes to Consolidated Financial Statements included in the Company’s Annual Report for the year ended December 31, 2003. Certain previously reported amounts have been reclassified to conform to current presentations.

Note 2. Allowance for Loan Losses

Changes in the allowance for loan losses are as follows:

Three months ended March 31, (In thousands)	2004			2003
Balance, at January 1	$	1,697		$	1,769
Provision charged to expense		—			30
Recoveries of amounts previously charged off		163			2
Loans charged off		(18	)		(31	)
Balance, at March 31,	$	1,842		$	1,770

Note 3. Commitments and Contingencies

The Company’s exposure to credit loss in the event of nonperformance by the other party for commitments to extend credit and stand-by letters of credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as for on-balance sheet instruments. A summary of the Company’s commitments at March 31 for the years indicated follows:

(In thousands)	2004		2003
Commitments to extend credit	$	24,917	$	7,990
Standby letters of credit		697		673
Total	$	25,614	$	8,663

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Cardinal Bankshares Corporation (the “Company” and “Cardinal Bankshares”), a Virginia corporation, is a bank holding company headquartered in Floyd, Virginia. The Company serves the marketplace primarily through its wholly owned banking subsidiary, Bank of Floyd (the “Bank”), a Virginia chartered, Federal Reserve member commercial bank. The Bank’s deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”) to the extent provided by law. Bank of Floyd is supervised and examined by the Federal Reserve and the Bureau of Financial Institutions of the State Corporation Commission of the Commonwealth of Virginia (the “SCC”). At March 31, 2004, the Bank operated five branch facilities in the counties of Floyd, Montgomery, Roanoke and Carroll. The main office is in Floyd with a limited service office located in Willis. The Roanoke office is in the Cave Spring area of Roanoke County. The Hillsville office is located in Carroll County. The Christiansburg office serves Montgomery County.

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Through Bank of Floyd’s network of banking facilities, Cardinal Bankshares provides a wide range of commercial banking services to individuals, small to medium-sized businesses, institutions and governments located in Virginia. The Company conducts substantially all of the business operations of a typical independent commercial bank, including the acceptance of checking and savings deposits, the making of commercial, real estate, personal, home improvement, automobile and other installment loans. The Company also offers other related services, such as traveler’s checks, safe deposit boxes, depositor transfer, customer note payment, collection, notary public, escrow, drive-in and ATM facilities, and other customary banking services. Cardinal Bankshares does not offer trust services.

The following discussion provides information about the major components of the financial condition, results of operations, asset quality, liquidity, and capital resources of Cardinal Bankshares. The discussion and analysis should be read in conjunction with the Consolidated Financial Statements.

FINANCIAL CONDITION

Total assets as of March 31, 2004 were $188.2 million, an increase of $1.8 from year-end 2003. Total loans declined 1.5% or $1.8 million during the quarter to $119.0. From time to time, Cardinal and its subsidiary bank, Bank of Floyd, participate in loans originated by other banks. Participation loans make it possible for large borrowers to obtain financing when the amount involved exceeds the legal lending limit of an individual bank. One of the banks with which the Bank had participated on several loans was acquired during 2003. The larger legal lending limit of the acquiring bank enabled it to repurchase approximately $2.9 million of these loans during the first quarter of 2004.

The investment securities portfolio reflected a net decrease of $827 thousand due principally to two factors that are the result of the continued low interest rate environment. Issuer calls of U.S. Government Agency securities totaled approximately $3.0 million during the first three months of 2004, and above normal speeds with which homeowners paid down their mortgages resulted in a decline of approximately $1.0 million in the mortgage-backed securities portfolio. Purchases of investment securities totaling approximately $4.4 million partially offset the reduction in the overall portfolio brought about by these two factors combined with the effect of normal maturities of investment securities. Federal funds sold grew approximately $5.0 million during the quarter as the Company temporarily invested the proceeds originating from the participation loan and investment activity mentioned earlier.

As of March 31, 2004, total deposits were $160.2 million, up approximately $1.0 million compared to year-end 2003. Non-interest-bearing core deposits increased 18.5% or $4.2 million to $27.2 million, while interest-bearing deposits declined 2.4% or $3.3 million to $133.0 million. Due to the soft loan demand in the current economic environment, the Company has strategically remained less competitive on rate sensitive deposits as reflected in the $6.4 million decline in large denomination deposits, those deposit accounts with balances greater than $100 thousand.

Stockholders’ equity was $25.0 million as of March 31, 2004 compared to $24.5 million as of December 31, 2003. Net income for the quarter of $493 thousand principally accounted for the increase in stockholders’ equity.

RESULTS OF OPERATIONS

Net income for the three months ended March 31, 2004 was $493 thousand, up 22.3% compared to $403 thousand for the three months ended March 31, 2003. Diluted earnings per share increased 23.1% to $.32 for the three months ended March 31, 2004. Diluted earnings per share for the same period a year earlier was $.26.

Lower noninterest expense was the principal contributing factor to improved profitability for the first quarter of 2004 compared to the first quarter of 2003. Quarter-to-quarter other operating expense was lower by $217 thousand or $143 thousand net of taxes. During the first quarter of 2003, the Company recognized approximately $234 thousand, or $155 thousand net of taxes, in expenses related to the proposed merger with MountainBank Financial Corporation due to the Registrant’s shareholders failure to ratify and approve the proposed merger. The other notable change in the quarter-to-quarter comparison was the increase in salaries and benefits costs, up $84 thousand from quarter-end 2003. The Company pays its employees on a

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bi-weekly basis, accordingly, as the calendar shifts form year-to-year the number of pay periods within comparable periods is subject to change. The first quarter of 2004 is an example of this as it contained one additional pay-period when compared to the same period for 2003. This occurrence accounted for the major portion of the period-to-period increase in salaries and benefits costs.

Total interest income for the three months ended March 31, 2004 declined $256 thousand to $2.3 million, a decrease of 10.0% over the same prior year quarter. This resulted primarily from the effect of the overall lowering of interest rates on the variable or floating rate portion of the company’s loan portfolio, as it re-prices in the current declining rate environment. Noninterest income decreased 13.0% to $161 thousand, with lower residual income from leasing activities being the main source of the decrease. Total interest expense decreased $242 thousand to $801 thousand, reflecting the effect of lower levels of interest-bearing deposits and interest rates paid thereon.

ASSET QUALITY

The allowance for loan losses represents management’s estimate of an amount adequate to absorb potential future losses inherent in the loan portfolio. In assessing the adequacy of the allowance, management relies predominately on its ongoing review of the lending process and the risk characteristics of the portfolio in the aggregate. Among other factors, management considers the Company’s loan loss experience, the amount of past-due loans, current and anticipated economic conditions, and the estimated current values of collateral securing loans in assessing the level of the allowance for loan losses.

The allowance for loan losses totaled $1.8 million at March 31, 2004. The allowance for loan losses to period end loans was 1.55% at March 31, 2004 compared to 1.41% and 1.56% at December 31, 2003 and March 31, 2003, respectively. The Company recovered balances on loans previously charged off in the amount of $163 thousand during the quarter, exceeding loans charged off of $18 thousand by $145 thousand. This compares with net charge-offs for the three months ended March 31, 2003 of $29 thousand.

The allowance for loan losses represents management’s estimate of an amount adequate to provide for potential losses inherent in the loan portfolio. The adequacy of the loan loss reserve and the related provision are based upon management’s evaluation of the risk characteristics of the loan portfolio under current economic conditions with consideration to such factors as financial condition of the borrowers, collateral values, growth and composition of the loan portfolio, the relationship of the allowance to outstanding loans and delinquency trends.

While management uses all available information to recognize losses on loans, future additions to the allowance may be necessary based on changes in economic conditions. Various regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses. Such agencies may require the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examination.

Nonperforming assets, which consist of nonaccrual loans, loans 90 days or more past due, and other real estate owned, were $4.2 million as of March 31, 2004 compared to $3.2 million as of December 31, 2003. Approximately $2.8 million of the nonperforming asset total relates to one loan which has an 80% SBA guarantee and is well collateralized. Management does not expect to incur any material losses related to nonperforming assets.

LIQUIDITY

In determining the Company’s liquidity requirements, both sides of the balance sheet are managed to ensure that adequate funding sources are available to support loan growth, deposit withdrawals or any unanticipated need for funds.

Securities available for sale that mature within one year, or securities that have a weighted average life of one year or less are sources of liquidity. Anticipated mortgage-backed securities pay downs and maturing loans also generate cashflows to meet liquidity requirements. Wholesale funding sources are also used to supply liquidity such as federal funds purchased and large denomination certificates of deposit. The Company considers its sources of liquidity to be adequate to meet its anticipated needs.

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CAPITAL RESOURCES

Cardinal Bankshares’ capital position provides the necessary assurance required to support anticipated asset growth and to absorb potential losses.

The Company’s Tier I capital position was $24.7 million at March 31, 2004, or 19.67% of risk-weighted assets. Total risk-based capital was $26.3 million or 20.92% of risk-weighted assets.

Tier I capital consists primarily of common stockholders’ equity, while total risk-based capital includes the allowance for loan losses. Risk weighted assets are determined by assigning various levels of risk to different categories of assets and off-balance sheet activities. Under current risk-based capital standards, all banks are required to have Tier I capital of at least 4% and total capital of 8%.

In addition to the risk-based capital guidelines, banking regulatory agencies have adopted leverage capital ratio requirements. The leverage ratio – or core capital to assets ratio – works in tandem with the risk-capital guidelines. The minimum leverage ratios range from three to five percent. At March 31, 2004, the Company’s leverage capital ratio was 13.44%.

A WARNING ABOUT FORWARD-LOOKING STATEMENTS

This Form 10-QSB contains forward-looking statements. The Company may also make written forward-looking statements in periodic reports to the Securities and Exchange Commission, proxy statements, offering circulars and prospectuses, press releases and other written materials and oral statements made by Cardinal Bankshares’ officers, directors or employees to third parties. Statements that are not historical facts, including statements about the Company’s beliefs and expectations, are forward-looking statements. These statements are based on beliefs and assumptions of the Company’s management, and on information currently available to such management. Forward-looking statements include statements preceded by, followed by or that include the words “believes,” “expects,” “estimates,” “anticipates,” “plans,” or similar expressions. Forward-looking statements speak only as of the date they are made, and the Company undertakes no obligation to update publicly any of them in light of new information or future events.

Forward-looking statements involve inherent risks and uncertainties. Management cautions the readers that a number of important factors could cause actual results to differ materially from those contained in any forward-looking statement. Such factors include, but are not limited to, the following: competitive pressures among depository and other financial institutions may increase significantly; changes in the interest rate environment may reduce margins; general economic or business conditions may lead to a deterioration in credit quality or a reduced demand for credit; legislative or regulatory changes, including changes in accounting standards, may adversely affect the business in which Cardinal Bankshares is engaged; changes may occur in the securities markets; and competitors of the Company may have greater financial resources and develop products that enable such competitors to compete more successfully than Cardinal Bankshares.

Other factors that may cause actual results to differ from the forward-looking statements include the following: the timely development of competitive new products and services by the Company and the acceptance of such products and services by customers; changes in consumer spending and savings habits; the effects of competitors’ pricing policies; the Company’s success in managing the costs associated with the expansion of existing distribution channels and developing new ones, and in realizing increased revenues from such distribution channels, including cross-selling initiatives; and mergers and acquisitions and their integration into the Company and management’s ability to manage these other risks.

Management of Cardinal Bankshares believes these forward-looking statements are reasonable; however undue reliance should not be placed on such forward-looking statements, which are based on current expectations.

Forward-looking statements are not guarantees of performance. They involve risks, uncertainties and assumptions. The future results and stockholder values of Cardinal Bankshares may differ materially from those expressed in forward-looking statements contained in this report. Many of the factors that will determine these results and values are beyond the Company’s ability to control or predict.

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Item 3. CONTROLS AND PROCEDURES

As of the end of the period covered by this report, we carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, including internal controls and procedures for financial reporting. Our principal executive officer and principal financial officer supervised this evaluation and have concluded that our disclosure controls and procedures are effective. Subsequent to this evaluation, (i) there have been no significant changes in our internal controls or in other factors that could significantly affect our disclosure controls and procedures and (ii) we have not taken any corrective actions with regard to our disclosure controls and procedures to correct any significant deficiencies and weaknesses.

The design of any system of controls is based in part upon certain assumptions about the likelihood of future events. There can be no assurance that any design will succeed in achieving its stated goal under every potential condition, regardless of how remote. In addition, the operation of any system of controls and procedures is dependent upon the employees responsible for executing it. While we have evaluated the operation of our disclosure controls and procedures and found them effective, there can be no assurance that they will succeed in every instance to achieve their objective.

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Part II. OTHER INFORMATION

Item: 1	Legal proceedings
	On December 12, 2002 Cardinal’s former Chief Financial Officer Mr. David Welch filed a complaint against Cardinal with the United States Department of Labor under Section 806 of the Sarbanes-Oxley Act. Welch alleges in his complaint that his termination in October, 2002 violated the Act and seeks reinstatement, back pay and damages. The Company maintains that the independent members of Cardinal’s Board of Directors terminated Welch lawfully because he refused to comply with the directives of the Audit Committee attempting to look into certain matters raised by Mr. Welch. The Audit Committee, after full investigation, later concluded that the matters raised by Mr. Welch had no merit. The Board’s decision was upheld by the Department of Labor initially. Mr. Welch appealed that decision. The Department of Labor Administrative Law Judge reversed the earlier decision in Cardinal’s favor and entered a decision in Welch’s favor on January 28, 2004. The Administrative Review Board of the Department of Labor agreed to review the decision of the Administrative Law Judge on February 6, 2004. Their decision to review suspended the decision of the Administrative Law Judge prior to any determination of damages by the Administrative Law Judge. The matter is presently before the Administrative Review Board. Cardinal intends to pursue its appeal rights vigorously and believes that the Administrative Law Judge’s decision is erroneous, factually and legally.
2	Changes in securities - None
3	Defaults upon senior securities - None
4	Results of votes of security holders - None
5	Other information - None
6	Exhibits and Reports on Form 8-K
	(a) Exhibits –
	31.1 – Certification Pursuant To 18 U.S.C. 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
	31.2 – Certification Pursuant To 18 U.S.C. 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
	32.1 – Certification Pursuant To 18 U.S.C. 1350, as adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
	(b) Reports on Form 8-K - None

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SIGNATURES

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

CARDINAL BANKSHARES CORPORATION

/s/ Ronald Leon Moore

Ronald Leon Moore

Chairman of the Board, President and Chief Executive Officer

/s/ Ray A. Fleming

Ray A. Fleming

Executive Vice President and Chief Financial Officer

Date: May 14, 2004

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