Certain statements in this Form 10-Q (excluding statements of fact or historical financial information) involve forward-looking information within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the "safe harbor" created by those sections. These forward-looking statements involve certain risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. Such risks and uncertainties include, but are not limited to, the following factors:
competitive pressure in banking industry increases significantly; changes in the interest rate environment reduce margins; general economic conditions, either nationally or regionally, are less favorable than expected, resulting in, among other things, a deterioration in credit quality and an increase in the provision for possible loan losses; changes in the regulatory environment; changes in business conditions, particularly in the Northern California region; volatility of rate sensitive deposits; operational risks including data processing system failures or fraud; asset/liability matching risks and liquidity risks; the California power crises; the U.S. "war on terrorism" and military action by the U.S. in the Middle East, and changes in the securities markets.

General

North Valley Bancorp's financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). The financial information contained within our financial 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 and lease portfolio. Actual losses could differ significantly from the historical factors that we use. Another estimate that we use is related to the expected useful lives of our depreciable assets. 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 and Lease Losses

The allowance for loan and lease losses is maintained to provide for losses related to impaired loans and leases and other losses that can be reasonably expected to occur in the normal course of business. The allowance for loan and lease losses is established through a provision for loan and lease losses charged to operations. Loans and leases are charged against the allowance for loan and lease losses when management believes that the collectibility of the principal is unlikely or, with respect to consumer installment loans, according to an established delinquency schedule. Management attributes formula reserves to different types of loans using percentages which are based upon perceived risk associated with the portfolio and underlying collateral, historical loss experience, and vulnerability to existing economic conditions, which may affect the collectibility of the loans. Specific reserves are allocated for impaired loans and leases which have experienced a decline in internal grading and when management believes additional loss exposure exists. The unallocated allowance is based upon management's evaluation of various conditions that are not directly measured in the determination of the formula and specific allowances. The evaluation of inherent losses with respect to these conditions is subject to a higher degree of uncertainty because they are not identified with specific problem credits or portfolio segments. Although the allowance for loan and lease losses is allocated to various portfolio segments, it is general in nature and is available for the loan and lease portfolio in its entirety. The allowance is an amount that management believes will be adequate to absorb losses inherent in existing loans and leases. Actual amounts could differ from those estimates.

The Company considers a loan or lease impaired if, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan or lease agreement. The measurement of impaired loans and leases is generally based on the present value of expected future cash flows discounted at the historical effective interest rate, except that all collateral-dependent loans and leases are measured for impairment based on the fair value of the collateral.

Share Based Compensation

At March 31, 2009, the Company had four shareholder approved stock-based compensation plans: the North Valley Bancorp 1989 Director Stock Option Plan, the 1998 Employee Stock Incentive Plan, the 1999 Director Stock Option Plan and the 2008 Stock Incentive Plan. The 1999 Director Stock Option Plan replaced the existing North Valley Bancorp 1989 Director Stock Option Plan. The North Valley Bancorp 2008 Stock Incentive Plan was adopted by the Company's Board of Directors on February 27, 2008, effective that date, and was approved by the Company's shareholders at the Annual Meeting, May 22, 2008. The terms of the 2008 Stock Incentive Plan are substantially the same as the North Valley Bancorp 1998 Employee Stock Incentive Plan. See Note C - Stock-Based Compensation to the Unaudited Condensed Consolidated Financial Statements in Item 1 - Financial Statements.

Prior to January 1, 2006, the Company accounted for the plans under the recognition and measurement provisions of Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations, as permitted by Financial Accounting Standards Board ("FASB") Statement No. 123, Accounting for Stock-Based Compensation ("Statement 123") and FASB Statement No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure. Effective January 1, 2006, the Company adopted the fair value recognition provisions of FASB Statement No. 123(R), Share-Based Payment ("Statement 123 (R)"), using the modified prospective transition method. Under this transition method, compensation cost recognized in fiscal year 2007 and 2008 includes: (a) compensation cost for all share-based payments vesting during 2007 and 2008 that were granted prior to, but not yet vested as of, January 1, 2006 based on the grant-date fair value estimated in accordance with the original provisions of Statement 123; and, (b) compensation cost for all share-based payments vesting during 2007 and 2008 that were granted subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with 14 the provisions of Statement 123(R). The Company has elected the alternative method prescribed by FASB Staff Position No. FAS 123(R)-3, Transition Election Related to Accounting for the Tax Effects of Share-Based Payment Awards,commonly referred to as the "short-cut" method, for accounting for the tax consequences of share-based awards.

Business combinations involving the Company's acquisition of the equity interests or net assets of another enterprise may give rise to goodwill. Goodwill represents the excess of the cost of an acquired entity over the net of the amounts assigned to assets acquired and liabilities assumed in transactions accounted for under the purchase method of accounting. Goodwill of $15,187,000 was recorded in the Company's acquisition of Yolo Community Bank. The value of goodwill is ultimately derived from the Company's ability to generate net earnings. A decline in net earnings could be indicative of a decline in the fair value of goodwill and result in impairment. For that reason, goodwill will be assessed for impairment at a reporting unit level at least annually. Management will conduct its annual assessment of impairment during the fourth quarter of 2009.

Impairment of Investment Securities

Investment securities are evaluated for other-than-temporary impairment on at least a quarterly basis and more frequently when economic or market conditions warrant such an evaluation to determine whether a decline in their value below amortized cost is other-than-temporary. Management utilizes criteria such as the magnitude and duration of the decline, the financial condition of the issuer, rating agency changes related to the issuer's securities and the intent and ability of the Bank to retain its investment in the issues for a period of time sufficient to allow for an anticipated recovery in fair value, in addition to the reasons underlying the decline, to determine whether the loss in value is other-than-temporary. The term "other-than-temporary" is not intended to indicate that the decline is permanent, but indicates that the prospects for a near-term recovery of value is not necessarily favorable, or that there is a lack of evidence to support a realizable value equal to or greater than the carrying value of the investment. Once a decline in value is determined to be other-than-temporary, the value of the security is reduced and a corresponding charge to earnings is recognized. See Note B to Unaudited Condensed Consolidated Financial Statements in Item 1 - Financial Statements.

Fair Value

Effective January 1, 2008, we adopted SFAS No. 157,Fair Value Measurements, which among other things, requires enhanced disclosures about financial instruments carried at fair value. SFAS No. 157 establishes a hierarchical disclosure framework associated with the level of observable pricing scenarios utilized in measuring financial instruments at fair value. The degree of judgment utilized in measuring the fair value of financial instruments generally correlates to the level of the observable pricing scenario. Financial instruments with readily available active quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of observable pricing and a lesser degree of judgment utilized in measuring fair value. Conversely, financial instruments rarely traded or not quoted will generally have little or no observable pricing and a higher degree of judgment utilized in measuring fair value. Observable pricing scenarios are impacted by a number of factors, including the type of financial instrument, whether the financial instrument is new to the market and not yet established and the characteristics specific to the transaction.

See Note J of the Notes to Condensed Consolidated Financial Statements for additional information about the financial instruments carried at fair value.

Overview

North Valley Bancorp (the "Company") is a bank holding company headquartered in Redding, California. The Company's wholly owned subsidiary, North Valley Bank ("NVB"), a state-chartered bank, operates out of its main office located at 300 Park Marina Circle, Redding, CA 96001, with twenty-six commercial banking offices, including two supermarket branches and seven Business Banking Centers, and a loan production office in Northern California. The Company's principal business consists of attracting deposits from the general public and using the funds to originate commercial, real estate and installment loans to customers, who are predominately small and middle market businesses and middle income individuals. The Company's primary source of revenues is interest income from its loan and investment securities portfolios. The Company is not dependent on any single customer for more than ten percent of its revenues.

Earnings Summary


                                                   Three months ended March 31,
   (in thousands except per share amounts)            2009               2008


   Net interest income                          $           8,108    $       9,128
   Provision for loan and lease losses                      7,000            2,400
   Noninterest income                                       2,274            3,491
   Noninterest expense                                      9,445            9,805
   (Benefit) provision for income taxes                    (2,956 )            134

   Net (loss) income                            $          (3,107 )  $         280


   (Loss) earnings Per Share
   Basic                                        $           (0.41 )  $        0.04
   Diluted                                      $           (0.41 )  $        0.04

   Annualized (Loss) Return on Average Assets              (1.43% )           0.12 %
   Annualized (Loss) Return on Average Equity             (16.26% )           1.35 %

The Company had a net loss of $3,107,000, or $0.41 per diluted share, for the three months ended March 31, 2009 compared to net income of $280,000, or $0.04 per diluted share, for the same period in 2008. This represents a decrease in net income of $3,387,000, and a decrease in diluted earnings per share of $0.45, for the three months ended March 31, 2009 compared to the same period in 2008. The decrease in net income for the first quarter of 2009, compared to the same period in 2008, was principally driven by a $7,000,000 provision for loan and lease losses for the three months ended March 31, 2009 compared to a $2,400,000 provision for the same period in 2008, and secondarily due to a decrease in noninterest income and net interest income of $1,217,000 and $1,020,000, respectively, for the three months ended March 31, 2009 compared to the same period in 2008. These changes were partially offset by a decrease in noninterest expense of $360,000 for the three months ended March 31, 2009 compared to the same period in 2008.

Net Interest Income

Net interest income is the principal source of the Company's operating earnings and represents the difference between interest earned on loans and leases and other investments and interest paid on deposits and other borrowings. The amount of interest income and expense is affected by changes in the volume and mix of earning assets and interest-bearing deposits and borrowings, along with changes in interest rates.

Schedule of Average Daily Balance and Average Yields and Rates
(Dollars in thousands)
                                Three months ended March 31, 2009           Three months ended March 31, 2008

                                Average         Yield/      Interest        Average         Yield/      Interest
                                Balance          Rate        Amount         Balance          Rate        Amount


Assets
Earning assets:
Federal funds sold           $       15,010         0.24 %  $       9    $          591         3.39 %  $       5
Investment securities:
Taxable                              73,279         3.84 %        694            85,324         4.11 %        875
Non-taxable (1)                      15,898         6.79 %        266            20,539         6.76 %        346
FNMA preferred stock (1)                  -            -            -             3,284         9.53 %         78

Total investments                    89,177         4.37 %        960           109,147         4.77 %      1,299
Loans and leases (2)(3)             680,838         6.28 %     10,536           743,004         7.00 %     12,976

Total earning assets                785,025         5.94 %     11,505           852,742         6.72 %     14,280

Non earning assets                  104,785                                      99,331
Allowance for loan and
lease losses                        (11,434 )                                   (10,755 )

Total non-earning assets             93,351                                      88,576

Total assets                 $      878,376                              $      941,318


Liabilities and
Shareholders' Equity
Interest bearing
liabilities:
Transaction accounts         $      153,395         0.37 %  $     141    $      154,950         0.64 %  $     249
Savings and money market            167,802         1.06 %        440           181,670         1.79 %        810
Time certificates                   285,662         3.10 %      2,187           248,202         4.47 %      2,769
Other borrowed funds                 33,328         6.61 %        543           104,924         4.56 %      1,194

Total interest bearing
liabilities                         640,187         2.10 %      3,311           689,746         2.92 %      5,022

Demand deposits                     149,582                                     155,541
Other liabilities                    11,106                                      12,895

Total liabilities                   800,875                                     858,182

Shareholders' equity                 77,501                                      83,136

Total liabilities and
shareholders' equity         $      878,376                              $      941,318

Net interest income                                         $   8,194                                   $   9,258

Net interest spread                                 3.84 %                                      3.80 %

Net interest margin                                 4.23 %                                      4.35 %

(1) Tax-equivalent basis; non-taxable securities are exempt from federal taxation.

(2) Loans on nonaccrual status have been included in the computations of averages balances.

(3) Includes loan fees of $237 and $207 for the three months ended March 31, 2009 and 2008, respectively.

Net interest income has been adjusted to a fully taxable equivalent basis (FTE) for tax-exempt investments included in earning assets. The decrease in net interest income (FTE) of $1,064,000 for the three month period ended March 31, 2009 compared to the three month period ended March 31, 2008 was driven by a decrease in interest income of $2,775,000 which was partially offset by a decrease in interest expense of $1,711,000. The decrease of $2,775,000 in interest income for first quarter of 2009 compared to the same period in 2008 was primarily due to a decrease in average earning assets of $67,717,000, and secondarily due to a decrease in yield on those earning assets of 78 basis points. The Company had foregone interest income of $374,000 due to loans placed on nonaccrual status for the first quarter of 2009 down from the foregone interest of $526,000 for the same period in 2008. Interest expense decreased $1,711,000 due primarily to a decrease in rates paid on deposits of 80 basis points for the first quarter of 2009 compared to the same period in 2008, and secondarily to a decrease in average other borrowed funds of $71,596,000 for the first quarter of 2009 compared to the same period in 2008, although the rates on these funds increased. Average loans and leases decreased $62,166,000 in the first quarter of 2009 compared to the first quarter of 2008, and the yield on the loan portfolio for the comparable periods decreased 72 basis points to 6.28%. The decrease in average total loans and leases and the increase in average deposits was primarily used to decrease other borrowed funds and secondarily used to enhance our liquidity as average Federal funds sold increased $14,419,000. Average yields on total average earning assets decreased 78 basis points from the quarter ended March 31, 2008 to 5.94% for the quarter ended March 31, 2009. Over the same period the average rate paid on interest-bearing liabilities decreased by 82 basis points to 2.10%. The decrease in both yields earned and rates paid is reflective of the declining interest rate environment as the Federal Reserve has reduced interest rates by 500 basis points since September 2007. As a result of the above, the Company's net interest margin for the quarter ended March 31, 2009 was 4.23%, a decrease of 12 basis points from 4.35% for the quarter ended March 31, 2008 and an 8 basis point increase from the 4.15% net interest margin for the linked quarter ended December 31, 2008.

The Company recorded a provision for loan and lease losses of $7,000,000 for the three months ended March 31, 2009 compared to a $2,400,000 provision for the three months ended March 31, 2008. The process for determining allowance adequacy and the resultant provision for loan losses includes a comprehensive analysis of the loan portfolio. Factors in the analysis include size and mix of the loan portfolio, nonperforming loan levels, charge-off/recovery activity and other qualitative factors including economic environment and activity. The decision to record the $7,000,000 provision reflects management's assessment of the overall adequacy of the allowance for loan and lease losses including the consideration of the increase in nonperforming loans and the overall effect of the continued recession and the declines in real estate values. Management believes that the current level of allowance for loan and lease losses as of March 31, 2009 of $15,887,000, or 2.40% of total loans and leases, is adequate at this time. The allowance for loan and lease losses was $11,327,000, or 1.63% of total loans and leases, at December 31, 2008. For further information regarding our allowance for loan and lease losses, see "Allowance for Loan and Lease Losses" on page 22.

Noninterest Income

The following table is a summary of the Company's noninterest income for the
periods indicated (in thousands):


                                                           Three months ended March 31,
                                                             2009                2008


Service charges on deposit accounts                               1,528               1,716
Other fees and charges                                              964                 965
Earnings on cash surrender value of life insurance
policies                                                            336                 330
Gain on sale of loans                                                97                  88
Gain on sales or calls of investment securities                       -                   1
Loss on other real estate owned                                    (890 )                 -
Other                                                               239                 391

Total noninterest income $ 2,274 $ 3,491

Noninterest income decreased $1,217,000, or 34.9%, to $2,274,000 for the three months ended March 31, 2009 from $3,491,000 for the three months ended March 31, 2008. The decrease in noninterest income was primarily driven by the recording of the loss on the sale/writedown of OREO of $890,000 as the Company continued its focus on reducing the levels of nonperforming assets since December 31, 2008. Service charges on deposits decreased $188,000 to $1,528,000 for the three months ended March 31, 2009 compared to $1,716,000 for the same period in 2008. Other fees and charges remained consistent at $964,000 for the three months ended March 31, 2009 compared to $965,000 for the same period in 2008. The Company recorded $97,000 in gains on sales of mortgages for the three months ended March 31, 2009 compared to $88,000 in gains on sales of mortgages for the same period in 2008. Other noninterest income decreased $152,000 to $239,000 for the three months ended March 31, 2009 from $391,000 for the same period in 2008. The decrease in other noninterest income was primarily due to the mandatory redemption of shares from the VISA initial public offering completed in March 2008 and a decrease in sales volume of annuity and other nondeposit investment products to customers.

Noninterest Expense

The following table is a summary of the Company's noninterest expense for the
periods indicated (in thousands):


                                           Three months ended March 31,
                                             2009                2008


         Salaries & employee benefits   $         5,064     $         5,536
         Occupancy expense                          761                 754
         Data processing expenses                   581                 532
         Equipment expense                          469                 465
         FDIC & state assessments                   411                  45
         Professional services                      327                 287
         ATM expense                                285                 227
         Postage                                    164                 149
         Operations expense                         143                 189
         Printing & supplies                        137                 198
         Director                                   132                 223
         Marketing                                  121                 200
         Amortization of intangibles                 36                 163
         Other                                      814                 837

         Total noninterest expense      $         9,445     $         9,805

Noninterest expense totaled $9,445,000 for the three months ended March 31, 2009, compared to $9,805,000 for the same period in 2008. This represents a decrease of $360,000, or 3.7%, for the three months ended March 31, 2009 from the comparable period in 2008 due primarily to a decrease in salaries and benefits. Salaries and benefits decreased by $472,000 to $5,064,000 for the three months ended March 31, 2009 primarily due to the elimination of the 2009 bonus accrual and a reduction in staffing compared to $5,536,000 for the same period in 2008. Offsetting this decrease was the Company's FDIC and state assessments which increased $366,000 to $411,000 for the three months ended March 31, 2009 compared to $45,000 for the same period in 2008. This increase is expected to continue as the Company has elevated levels of nonperforming loans which impact the factors used in the calculation as well as the anticipation of a special assessment by the FDIC. Most other expense categories for the three months ended March 31, 2009 experienced relatively small changes from the same respective period in 2008. The Company's ratio of noninterest expense to average assets was 4.30% for the three months ended March 31, 2009 compared to 4.17% for the same period in 2008. The Company's efficiency ratio was 91.0% and 77.7% for the three months ended March 31, 2009 and 2008, respectively.

Income Taxes

The benefit for income taxes for the three months ended March 31, 2009 was $2,956,000 as compared to a provision for income taxes of $134,000 for the same period in 2008. The effective benefit rate for state and federal income taxes was 48.8% for the three months ended March 31, 2009 compared to an effective tax rate of 32.4% for the same period in 2008. The difference in the effective tax rate compared to the statutory tax rate (approximately 42.05%) is primarily the result of the Company's investment in municipal securities and Company-owned life insurance policies whose income is exempt from Federal taxes. In addition, the Company receives certain tax benefits from the State of California Franchise . . .