Benchmark Bankshares, Inc.

Benchmark Bankshares, Inc. (the "Company"), formerly Lunenburg Community Bankshares, Inc., is a bank holding company incorporated under the laws of the Commonwealth of Virginia on March 7, 1986. The Company became a one bank holding company under the Bank Holding Company Act of 1956 on January 1, 1987 subsequent to its acquiring all of the issued and outstanding shares of The Lunenburg County Bank's, now Benchmark Community Bank (the "Bank"), common stock. The Company does not own or operate any other businesses.

At December 31, 2003, the Company and its subsidiary employed 106 full-time and 10 part-time persons.

Benchmark Community Bank

The Bank opened for business on September 8, 1971 under its original name of The Lunenburg County Bank. It started business in temporary quarters and in 1974 moved to its present location at 100 South Broad Street, Kenbridge, Virginia 23944.

Also in 1974, the Bank opened its first full-service branch in the Town of Victoria, Virginia. Today, the Bank has nine full-service banking offices in the Towns of Kenbridge and Victoria in Lunenburg County, the Town of Farmville (two offices) in Prince Edward County, the Town of Crewe in Nottoway County, the Towns of South Hill, Clarksville, and Chase City in Mecklenburg County, and the Town of Lawrenceville in Brunswick County. The Bank has also established an office in the Town of Blackstone in Nottoway County and is in the process of constructing a new full-service branch adjacent to a current temporary facility. All offices are located in the State of Virginia.

The Bank offers a wide range of banking and related financial services to individuals and small to medium ranged businesses. The services offered are in the form of checking, savings accounts, NOW and money market accounts, certificates of deposit, business loans, personal loans, mortgage loans, and other consumer oriented financial services including IRAs, safe deposit, drive-up, night deposit, internet banking, and automatic-teller machines at all but its downtown Farmville location. The Bank does not offer any trust services.

Competition

The Bank encounters strong competition for its banking services within its primary market area. There are seven commercial banks actively engaged in business in the market area, including four major statewide banking organizations. The Bank is the only community bank actively engaged in business in Lunenburg and Brunswick Counties, and one of two such banks in the Town of Farmville, Prince Edward County, and one of three such banks in Mecklenburg County, and one of two such banks in Nottoway County. Finance companies, mortgage companies, credit unions, and savings banks also compete with the Bank for loans and deposits. In addition, the Bank must compete for deposits with money market mutual funds that are marketed nationally.

Supervision and Regulation

The summaries of statutes and regulations included in the information provided below do not purport to be complete and are qualified in their entirety by reference to the pertinent statutes and regulations.

The Company is subject to the Bank Holding Company Act of 1956. As such, the Company is required to file with the Federal Reserve Board annual reports and other information regarding the business operations of itself and its subsidiaries and is subject to examination by the Federal Reserve Board.

Page 4 of 90

A bank holding company is required to obtain Federal Reserve Board approval prior to acquiring ownership or control of the voting shares of any bank if, after the acquisition, it would own or control more than 5% of the voting stock of that bank, unless it already owns a majority of the voting stock of the bank. A bank holding company is, with limited exceptions, prohibited from acquiring ownership or control of voting stock of any company which is not a bank or a bank holding company and must engage only in the business of banking, managing or controlling banks, or furnishing services to or performing services for subsidiary banks. The Federal Reserve Board is authorized to approve the ownership of shares by a bank holding company in any company, the activities of which the Federal Reserve Board has determined to be so closely related to banking or to managing or controlling banks as to be a proper incident thereto. The Federal Reserve Board has determined that certain activities are closely related to banking, including making loans that would be made by mortgage, finance, credit card, or factoring companies; acting as an investment or financial advisor; performing the functions of a trust company; providing certain data processing services; leasing certain personal property; and acting as an insurance agent or broker for insurance directly related to the extension of credit or other financial services. Although, a bank holding company may file an application for approval of other nonbanking activities involved in a particular case, the Federal Reserve Board has stated that, at present, permissible nonbanking activities do not include real estate brokerage and syndication, land development, property management, underwriting, operation of savings and loan associations, management consulting, or industrial development corporations.

A bank holding company and its subsidiaries are also prohibited from acquiring any voting shares of, or interest in, any banks located outside of the state in which the operations of the bank holding company's banking subsidiaries are located unless the acquisition is specifically authorized by the statutes of the state in which the bank to be acquired is located. Further, a bank holding company and its subsidiaries generally may not extend credit, lease or sell property, or furnish any services on the condition that the customer obtain or provide some additional credit, property, or services from or to the bank holding company or its subsidiaries, or that the customer obtain some other credit, property, or services from a competitor.

Bank Supervision and Regulation

The Bank is a member of the Federal Reserve System and is subject to regulation and supervision, of which regular bank examinations are a part, by the Virginia Bureau of Financial Institutions and the Federal Reserve Bank as are all state member banks. The Bank by virtue of its Federal Reserve membership qualifies for Federal Deposit Insurance Corporation (FDIC) insurance coverage of up to a maximum of $100,000 per depositor. For the deposit insurance protection, the Bank pays a semi-annual statutory assessment and is subject to the rules and regulations of the FDIC. The Company is an "affiliate" of the Bank, and that status imposes restrictions on loans by the Bank to the Company, on investment by the Bank in the Company, and on the use of Company stock or securities as collateral security for loans by the Bank to any borrower. The Company is also subject to certain restrictions on its engaging in the business of issuing, floatation, underwriting, public sale, and distribution of securities.

Government Monetary Policies and Economic Controls

The monetary policies of regulatory authorities, most notably the Federal Reserve Bank, have a significant effect on the operating results of bank holding companies and banks. In particular, the Federal Reserve Board regulates money and credit conditions and interest rates in order to influence general economic conditions. These policies have a significant influence on the overall growth and distribution of bank loans, investments and deposits, and affect interest rates charged on loans or paid for time and savings deposits. Federal Reserve Board monetary policies have had a significant effect on the operating results of commercial banks in the past and are expected to continue to do so in the future; however, the Company and its subsidiary bank are unable to predict the specific nature or extent of these effects on their business and earnings.

Page 5 of 90

Restrictions

Investments

As required by the Virginia Security for Public Deposits Act, the Bank has pledged $6,856,441 at cost of its investment portfolio to safeguard State and local municipalities' deposits as of December 31, 2003.

By virtue of the Bank holding deposits for the Federal government, it is subject to Section 31CFR202 of the Code of Federal Regulation, which requires, in part, the collateralization of Federal deposits. As of December 31, 2003, the Bank had $394,149 pledged for Federal deposits.

The Bank is required by Section 19 of the Federal Reserve Act to maintain a certain level of reserves consisting of cash and other liquid assets in proportion to types of deposit accounts held. At year end 2003, the Bank's vault cash met the statutory requirement so designated by the Act.

Anti-Takeover Provisions

The Articles of Incorporation and Bylaws of the Company contain certain anti-takeover provisions. Said provisions provide (i) for division of the Board of Directors into three classes, with one class elected each year to serve a three year term; (ii) that Directors may be removed only upon the affirmative vote of the holders of 80% of the outstanding voting stock; (iii) that any vacancy on the Board may be filled by the remaining Directors; (iv) that advance notification is required for a stockholder to bring business before a stockholders' meeting or to nominate a person for election as a Director; and (v) that the affirmative vote of the holders of 80% of the outstanding voting stock is required to alter, amend, or repeal the foregoing provisions.

The Articles also contain a "fair price" provision that requires the affirmative vote of the holders of 80% of the outstanding voting stock as a condition for certain mergers or business combinations, unless the transaction is either approved by a majority of the disinterested Directors or certain minimum price and procedural requirements are met.

The foregoing provisions of the Articles and Bylaws are intended to prevent inequitable stockholder treatment in a two-tier takeover and to reduce the possibility that a third party could effect a sudden or surprise change in majority control of the Board of Directors without the support of the incumbent Board, even if such a change were desired by or would be beneficial to a majority of the Company's stockholders. Such provisions may have the effect of discouraging certain unsolicited tender offers for the Company's capital stock and, at the same time, may provide for a continuation of current Company's philosophy and leadership style.

Limitation on Liability

The Company's Articles of Incorporation provide, in part in accordance with the provisions of a recent amendment to the Virginia Stock Corporation Act (the "Act"), that in every instance permitted by the Act, the liability of a Director or Officer of the Company for monetary damages arising out of a single transaction, occurrence, or course of conduct shall be limited to one dollar. This limit on damages does not apply in the event of willful misconduct or a knowing violation of the criminal law or any Federal or State securities law. The limitation does not change or eliminate a Director's or Officer's duty of care to the Company; it only eliminates, in certain circumstances, monetary damages occasioned by a breach of that duty. It should also be noted that such limitation of liability in no way limits or otherwise affects liability for the violation of, or otherwise relieves the Company or its Directors or Officers from the necessity of complying with, the Federal or State securities laws.

Page 6 of 90

Indemnification

The Articles of Incorporation of the Company mandate indemnification of Directors and Officers as a result of liability incurred by them in proceedings instituted against them by third parties, or by or on behalf of the Company itself, relating to the manner in which they have performed their duties unless they have been guilty of "willful misconduct or a knowing violation of the criminal law" in the performance of their duties. The indemnification provision is consistent with another recent amendment to the Corporation Act. Thus, the protection of the proposed amendment will extend to grossly negligent conduct but not to willful misconduct.

The Company's Board of Directors is authorized to contract in advance to indemnify any Director or Officer and to indemnify or contract in advance to indemnify other persons including Directors and Officers of subsidiaries and employees and agents of the Company and its subsidiaries, to the same extent that it is required to indemnify Directors and Officers of the Company.

The Act and the Company's Articles of Incorporation permit the advancement of expenses incurred by a Director or Officer in a proceeding.

The Company has entered into indemnification agreements with each of its Directors and Officers, entitling them to (i) indemnification to the full extent permitted by the Act, and (ii) reimbursement of all expense advancements, including attorneys' fees, paid or incurred in connection with any claim relating to any indemnifiable event.

Executive Officers

For information concerning the Executive Officers of the Company, refer to Part III, Item 10, found on pages 65 and 66 of this report.