FIRST SECURITY GROUP INC/TN - 10-Q Quarterly Report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

	(Mark One)

	x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES AND EXCHANGE ACT OF 1934

	For the quarterly period ended June 30, 2004
	OR
	o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES AND EXCHANGE ACT OF 1934

	For the transition period from -------------------- to ---------------------.

COMMISSION FILE NO. 000-49747


	FIRST SECURITY GROUP, INC.
	(Exact Name of Registrant as Specified in its Charter)

	Tennessee		58-2461486
	(State of Incorporation)		(I.R.S. Employer
			Identification No.)

	817 Broad Street, Chattanooga, TN		37402
	(Address of principal executive offices)		(Zip Code)

	(423) 266-2000
	(Registrant's telephone number, including area code)

	Not Applicable
	(Former name, former address, and former fiscal year, if changed since last report)

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 and 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 Exchange Act). Yes x No o

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:

Common Stock, $.0083 par value:

10,587,639 shares outstanding and issued as of July 27, 2004

First Security Group, Inc. and Subsidiary

Form 10-Q

INDEX

PART I.	FINANCIAL INFORMATION	Page No.

Item 1.	Financial Statements

	Consolidated Balance Sheets - June 30, 2004, December 31, 2003 and June 30, 2003	3

	Consolidated Income Statements - Three months and six months ended June 30, 2004 and 2003	4

	Consolidated Statement of Stockholders' Equity - Six months ended June 30, 2004	6

	Consolidated Statements of Cash Flows - Six months ended June 30, 2004 and 2003	7

	Notes to Consolidated Financial Statements	9

Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	10

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	24

Item 4.	Controls and Procedures	25

Part II	OTHER INFORMATION

Item 4.	Submission of Matters to a Vote of Security Holders	26

Item 6.	Exhibits and Reports on Form 8-K	26

SIGNATURES		28


	2

PART I - FINANCIAL INFORMATION

ITEM 1. Financial Statements

First Security Group, Inc. and Subsidiary
Consolidated Balance Sheets	June 30,			December 31,			June 30,
	2004			2003			2003
	(unaudited)						(unaudited)
	(in thousands)
ASSETS
Cash and due from banks	$	22,748		$	25,662		$	21,641
Federal funds sold and securities purchased
under agreements to resell		-			6,972			43,222
Cash and cash equivalents		22,748			32,634			64,863
Interest-bearing deposits in banks		4,696			4,512			3,664
Securities available for sale		86,127			86,499			71,985
Loans		500,192			478,013			436,174
Less: Allowance for loan losses		5,594			5,827			6,415
		494,598			472,186			429,759
Premises and equipment, net		25,388			24,517			18,976
Intangible assets		15,347			15,704			12,601
Other assets		10,390			8,713			9,817
TOTAL ASSETS	$	659,294		$	644,765		$	611,665

LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Deposits
Noninterest bearing demand	$	108,534		$	100,192		$	88,021
Interest bearing demand		52,312			51,505			38,762
Savings		134,202			128,662			116,865
Certificates of deposit of $100 thousand or more		95,629			95,162			105,092
Certificates of deposit less than $100 thousand		160,838			164,783			155,645
Total deposits		551,515			540,304			504,385
Federal funds purchased and securities sold
under agreement to repurchase		17,243			12,069			12,211
Other borrowings		4,154			6,159			9,164
Other liabilities		3,649			3,795			5,289
Total liabilities		576,561			562,327			531,049
STOCKHOLDERS' EQUITY
Common stock - $.0083 par value - 20,000,000 shares
authorized; 10,587,639 issued as of June 30, 2004;
10,584,867 issued as of December 31, 2003;
and 10,497,404 issued as of June 30, 2003		88			88			88
Paid-in surplus		77,981			77,958			77,397
Retained earnings		5,461			3,995			2,446
Accumulated other comprehensive income (loss)		(797	)		430			818
Deferred compensation on restricted stock		-			(33	)		(133	)
Total stockholders' equity		82,733			82,438			80,616
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY	$	659,294		$	644,765		$	611,665

See Notes to Consolidated Financial Statements


	3

First Security Group, Inc. and Subsidiary
Consolidated Income Statements
(Unaudited)
	Three Months Ended				Six Months Ended
	June 30,				June 30,
(In thousands except per share amounts)	2004		2003		2004		2003
INTEREST INCOME
Loans, including fees	$	7,716	$	7,379	$	15,471	$	13,553
Debt securities -taxable		520		428		1,078		837
Debt securities -non-taxable		216		126		385		221
Other		39		158		107		278
Total interest income		8,491		8,091		17,041		14,889

INTEREST EXPENSE
Interest bearing demand deposits		46		32		87		65
Savings deposits		259		378		514		762
Certificates of deposit of $100 thousand or more		596		780		1,215		1,418
Certificates of deposit of less than $100 thousand		1,010		1,172		2,042		2,086
Other		81		130		168		231
Total interest expense		1,992		2,492		4,026		4,562

NET INTEREST INCOME		6,499		5,599		13,015		10,327
Provision for loan losses		675		381		1,350		1,133
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES		5,824		5,218		11,665		9,194

NONINTEREST INCOME
Service charges on deposit accounts		1,040		585		1,811		1,051
Mortgage loan fee income		396		602		643		1,062
Gain on securities		-		24		84		27
Other noninterest income		236		195		440		382
Total noninterest income		1,672		1,406		2,978		2,522

NONINTEREST EXPENSE
Salaries and employee benefits		3,463		3,118		6,893		5,730
Net occupancy		492		365		948		663
Equipment expense		547		422		1,027		744
Data processing fees		309		273		599		503
Amortization expense - CDI		196		162		425		222
Advertising expense		124		69		235		137
Supplies expense		153		138		321		246
Communications expense		122		106		229		199
Professional services		266		297		489		511
Postage expense		159		123		300		222
Other noninterest expense		500		570		1,092		1,070
Total noninterest expense		6,331		5,643		12,558		10,247


	4

INCOME BEFORE INCOME TAX PROVISION		1,165		981		2,085		1,469
Income tax provision		349		410		619		562
NET INCOME	$	816	$	571	$	1,466	$	907

NET INCOME PER SHARE
BASIC	$	0.08	$	0.05	$	0.14	$	0.09
DILUTED	$	0.08	$	0.05	$	0.14	$	0.09
WEIGHTED AVERAGE SHARES OUTSTANDING
BASIC		10,588		10,497		10,587		9,812
DILUTED		10,764		10,591		10,763		9,907

See Notes to Consolidated Financial Statements


	5

First Security Group, Inc. and Subsidiary
Consolidated Statement of Stockholders' Equity

	Common Stock				Paid-In		Retained		Accumulated Other Comprehensive			Deferred Compensation on Restricted
(In thousands)	Shares		Amount		Surplus		Earnings		Income (Loss)			Stock			Total
Balance - December 31, 2003		10,585		$88		$77,958		$3,995		$430			$(33	)		$82,438
Comprehensive income -
Net income (unaudited)								1,466								1,466
Change in net unrealized
loss on securities available
for sale, net of tax (unaudited)										(1,227	)					(1,227	)
Total comprehensive income (unaudited)																239
Common stock issued (unaudited)		3				23							33			56
Balance - June 30, 2004 (unaudited)		10,588		$88		$77,981		$5,461		$(797	)		$0			$82,733

See Notes to Consolidated Financial Statements


	6

First Security Group, Inc. and Subsidiary
Consolidated Statements of Cash Flows
(Unaudited)
	Six Months Ended
	June 30,
(In thousands)	2004			2003
CASH FLOWS FROM OPERATING ACTIVITIES
Net income	$	1,466		$	907
Provision for loan losses		1,350			1,133
Net amortization of securities		422			498
Amortization of intangibles		425			222
Amortization of deferred stock compensation		33			67
Depreciation		818			486
Loss on disposal of assets		11			-
Gain on sale of available-for-sale securities		(84	)		(27	)
Changes in operating assets and liabilities -
Decrease (increase) in -
Interest receivable		58			129
Other assets		(1,170	)		(3,497	)
Increase (decrease) in -
Interest payable		(570	)		320
Other liabilities		424			1,146
Net cash provided by operating activities		3,183			1,384

CASH FLOWS FROM INVESTING ACTIVITIES
Net change in interest bearing deposits		(184	)		42
Activity in available-for-sale securities -
Sales		8,412			15,676
Maturities, prepayments, and calls		17,228			12,211
Purchases		(27,466	)		(36,636	)
Loan originations and principal collections, net		(23,762	)		(30,808	)
Additions to premises and equipment		(1,700	)		(2,243	)
Net cash acquired in transaction accounted for
under the purchase method of accounting		-			14,198
Net cash used by investing activities		(27,472	)		(27,560	)

CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in deposits		11,211			46,081
Net increase in federal funds purchased and
securities sold under agreements to repurchase		5,174			489
Repayments of other borrowings		(2,005	)		(4	)
Proceeds from sale of common stock, net		23			-
Net cash provided by financing activities		14,403			46,566
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS		(9,886	)		20,390
CASH AND CASH EQUIVALENTS - beginning of period		32,634			44,473
CASH AND CASH EQUIVALENTS - end of period	$	22,748		$	64,863


	7

Supplemental disclosures of noncash investing and financing activities
Change in unrealized appreciation (depreciation) of securities, net of deferred taxes of $(603) for 2004 and $113 for 2003	$	(1,227	)	$	223
Assets (noncash) acquired in business combination	$	-		$	75,314
Liabilities assumed in business combination	$	-		$	78,025
Issuance of common stock in business combination	$	-		$	11,487
Issuance of common stock pursuant to incentive plan	$	-		$	200
Supplemental schedule of cash flows
Interest paid	$	4,596		$	4,242
Income taxes paid	$	646		$	450

See Notes to Consolidated Financial Statements


	8

FIRST SECURITY GROUP, INC. AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE A - BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair statement of financial condition and the results of operations have been included. All such adjustments were of a normal recurring nature. Certain reclassifications have been made to prior year amounts to conform with the current year presentation. Operating results for the six-month period ended Ju ne 30, 2004 are not necessarily indicative of the results that may be expected for the year ending December 31, 2004 or any other period. The balance sheet as of December 31, 2003 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2003.

NOTE B - COMPREHENSIVE INCOME (LOSS)

In accordance with Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standard No. 130, "Reporting Comprehensive Income," the Company is required to report "comprehensive income," a measure of all changes in equity, not only reflecting net income but certain other changes as well. Comprehensive income (loss) for the three-month and six-month period ended June 30, 2004 and 2003, respectively, was as follows:

	Three Months Ended					Six Months Ended
	June 30,					June 30,
(in thousands)	2004			2003		2004			2003

Net income	$	816		$	571	$	1,466		$	907
Unrealized gain (loss) - securities, net of tax		(1,579	)		228		(1,227	)		223
Comprehensive income (loss), net of tax	$	( 763	)	$	799	$	239		$	1,130

NOTE C - EARNINGS PER SHARE

Reference is made to Note 14, Long-Term Incentive Plan, in the Notes to Consolidated Financial Statements in First Security's Form 10-K, which contains descriptions of First Security's Stock Option Plan (the "Plan"). Shares under option under the Plan had a dilutive impact of less than $.01 on net income per share for the six months ended June 30, 2004.


	9

NOTE D - REGULATORY AND ACCOUNTING PRONOUNCEMENTS

In January 2003, the Financial Accounting Standards Board (FASB) issued Interpretation No. 46, "Consolidation of Variable Interest Entities" (FIN 46), which establishes guidance for determining when an entity should consolidate another entity that meets the definition of a variable interest entity. FIN 46 requires a variable interest entity to be consolidated by a company if that company will absorb a majority of the expected losses, will receive a majority of the expected residual returns, or both. Transferors to qualified special-purpose entities ("QSPEs") and certain other interests in a QSPE are not subject to the requirements of FIN 46. On December 17, 2003, the FASB revised FIN 46 (FIN 46R) and deferred the effective date of FIN 46 to no later than the end of the first reporting period that ends after March& nbsp;15, 2004. However, for special-purpose entities, First Security would have been required to apply FIN 46 as of December 31, 2003. The Interpretation had no effect on First Security's consolidated financial statements.

In March 2004, the FASB’s Emerging Issues Task Force (EITF) concluded its discussion of Issue No. 03-1, "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments." A consensus was reached regarding disclosures about unrealized losses on available-for-sale debt and equity securities accounted for under FASB Statements No. 115, Accounting for Certain Investments in Debt and Equity Securities, and No. 124, Accounting for Certain Investments Held by Not-f or-Profit Organizations. The EITF provided guidance for evaluating whether an investment is other-than-temporarily impaired. This guidance should be applied in other-than-temporary impairment evaluations made in reporting periods beginning after June 15, 2004. The EITF consensus also requires certain quantitative and qualitative disclosures which were effective in annual financial statements for fiscal years ending after December 15, 2003, for investments accounted for under Statements 115 and 124. For all other investments within the scope of this Issue, the disclosures are effective in annual financial statements for fiscal years ending after June 15, 2004. The additional disclosures for cost method investments are effective for fiscal years ending after June 15, 2004. The EITF consensus is not expected to have a material effect on First Security’s consolidated financial statements.

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

In this Form 10-Q, "First Security," "FSG," "we," "us," "the Company" and "our" refer to First Security Group, Inc.

SECOND QUARTER 2004 AND RECENT EVENTS

The following discussion and analysis sets forth the major factors that affected First Security's results of operations and financial condition reflected in the unaudited financial statements for the three-month and six-month periods ended June 30, 2004 and 2003. Such discussion and analysis should be read in conjunction with the Company's Consolidated Financial Statements and the notes attached thereto.

On June 9, 2004 the OCC granted fiduciary powers to FSGBank enabling the formation of our wealth management department. We anticipate that this department will be fully operational in the third quarter of 2004. The department is staffed with six employees who collectively have over 80 years of trust experience.

All per share data has been retroactively adjusted for the 12 for 10 stock split effected on June 16, 2003. As a result of the split, the par value has been adjusted from $.01 to $0.0083 per share.

OVERVIEW

As of June 30, 2004 First Security had total consolidated assets of $659.3 million, total loans of $500.2 million, total deposits of $551.5 million and stockholders' equity of $82.7 million. Our net income was $816 thousand and $1.5 million for the three and six months ended June 30, 2004.


	10

RESULTS OF OPERATIONS

Net income for the three months ended June 30, 2004 was $816 thousand, or $.08 per share (basic and diluted), compared to a net income of $571 thousand, or $.05 per share (basic and diluted) in the same period of 2003. Net income for the six months ended June 30, 2004 was $1.5 million, or $.14 per share (basic and diluted), compared to net income of $907 thousand or $.09 per share (basic and diluted), in the same period of 2003. Net interest income and noninterest income for the six-month period ended June 30, 2004 increased by $3.1 million, collectively, while noninterest expense, including provision for loa n losses, increased by $2.5 million. Income increases outpaced expense increases as a result of the additional earning assets acquired through our acquisitions and branching activity during 2003 and the first half of 2004.

Return on average assets (annualized) for the three months ended June 30, 2004 and 2003 was 0.5% and 0.4%, respectively. For the six months ended June 30, 2004 and 2003, return on average assets (annualized) was 0.5% and 0.3%, respectively. Return on average equity (annualized) for the three months ended June 30, 2004 and 2003 was 3.9% and 2.8%, respectively; and for the six months ended June 30, 2004 and 2003, was 3.5% and 2.4%, respectively.

Net Interest Income

Net interest income increased by $900 thousand or 16% to $6.5 million for the second quarter of 2004 compared to the same period a year ago. There are two factors that influence net interest income: (1) volume of earning assets and (2) rate of net interest margin on those earning assets.

Quarter-to-date average earning assets increased by $44.4 million or 8.06% to $595.0 million compared to average earning assets for the same period in 2003. On a year-to-year comparative basis, our earning assets increased due to (i) deposit gathering activities - deposits raised were used to fund or acquire earning assets and (ii) the acquisition of three Monroe County, Tennessee, branches from National Bank of Commerce in late 2003. These additional earning assets have enabled First Security to earn more interest income.

The other factors influencing net interest income are the yield on earning assets and the cost of funding liabilities. Changes in net interest margin did not influence net interest income as significantly as the changes in earning assets. On a fully tax equivalent basis, our net interest margin was 32 basis points higher in the second quarter of 2004 compared to the same period in 2003.

For the second quarter of 2004, 78.0% of average earning assets were funded with interest bearing liabilities, compared to 78.5% for the same period in 2003. Our net interest margin improved from period-to-period not only because of the slight decrease in reliance on interest bearing liabilities, but also because our weighted average yield earned on interest earning assets decreased at a slower pace than the decrease in our weighted average rate paid on interest bearing liabilities. We minimized the decrease in the yield on interest earning assets by repositioning our mix of earning assets into higher yielding loans and investment securities. Overall, the decreases we experienced in our yield earned on earning assets and our rate paid on interest bearing liabilities resulted from the Federal Reserve Bank's rate re duction initiative during the prior three years to stimulate economic growth in the weakening U.S. economy. As a result of these Federal Reserve rate reductions and as our assets and liabilities continue to mature and reprice, we believe that the average rate earned on assets and our average rate paid on liabilities may continue to decrease over the next several months. However, on June 30, 2004 the Federal Reserve increased interest rates by 25 basis points. As a result, we believe that our net interest margin will increase because our assets reprice more frequently than our liabilities (see Item 3, Quantitative and Qualitative Disclosures About Market Risk).

The interest rate earned on loans for the three months ended June 30, 2004 decreased 64 basis points compared to the same period in 2003. The decrease is primarily attributable to the decreases in the prime lending rate, which were effected by the Federal Reserve rate cut initiative and the subsequent repricing of loans at lower rates. The yields on investment securities and other earning assets increased over the same periods. The investment yield increased due to a change in our portfolio mix. The yield on other earning assets increased due to dividends from FRB stock and FHLB stock holdings. Proportionally , these holdings were a larger percentage of other earning assets in the second quarter of 2004 than for the same period in 2003 due to a decrease in federal funds sold (see Management’s Discussion and Analysis of Financial Condition and Results of Operation - Investment Securities and Other Earning Assets). The overall yield on earning assets decreased 14 basis points in the second quarter of 2004 compared to the same period in 2003. The decrease in yield on earning assets was less than the decrease in the yield on loans due to the change in our mix of average earning assets and due to higher yields on investment securities and other earning assets compared to the same period in 2003. Average loans, which are our highest yielding earning assets, comprised 84% of earning assets in the second quarter of 2004, compared to 78% in the same period of the prior year.


	11

For the second quarter of 2004, the cost of interest bearing liabilities decreased by 59 basis points from the same period in 2003. As a result, net interest spread for the first quarter of 2004 increased 46 basis points over the same period in the prior year. Deposit and loan rates are adjusted as market conditions and FSGBank’s needs allow. The following table summarizes net interest income and average yields and rates paid for the quarters ended June 30, 2004 and 2003.


	12

Average Consolidated Balance Sheets and Net Interest Analysis
For the Three Months Ended June 30
Fully Tax-Equivalent Basis
(all dollar amounts in thousands)
	2004								2003
	Average			Income/		Yield/			Average			Income/		Yield/
	Balance			Expense		Rate			Balance			Expense		Rate
Assets
Earning assets:
Loans, net of unearned income	$	499,251		$	7,726		6.22	%	$	431,316		$	7,381		6.86	%
Investment securities		87,614			875		4.02	%		70,795			667		3.78	%
Other earning assets		8,164			37		1.82	%		48,513			158		1.31	%
Total earning assets		595,029			8,638		5. 84	%		550,624			8,206		5.98	%
Allowance for loan losses		(5,673	)							(6,815	)
Intangible assets		15,318								12,736
Cash & due from banks		21,892								18,457
Premises & equipment		25,289								18,470
Other assets		4,971								6,690
TOTAL ASSETS	$	656,826							$	600,162

Liabilities and Stockholders' Equity

Interest bearing liabilities:
NOW accounts	$	52,799			46		0.35	%	$	37,262			32		0.34	%
Money market accounts		99,452			233		0.94	%		93,647			333		1.43	%
Savings deposits		33,023			25		0.30	%		22,677			45		0.80	%
Time deposits < $100		165,135			1,008		2.46	%		155,458			1,172		3.02	%
Time deposits > $100		93,519			596		2.56	%		100,365			780		3.12	%
Federal funds purchased		3,664			13		1.43	%		-			-		0.00	%
Repurchase agreements		12,672			20		0.63	%		13,529			35		1.04	%
Other borrowings		4,200			49		4.69	%		9,164			95		4.16	%
Total interest bearing liabilities		464,464			1,990		1.72	%		432,102			2,492		2.31	%
Net interest spread				$	6,648		4.12	%				$	5,714		3.67	%
Noninterest bearing demand deposits		105,507								82,490
Accrued expenses and other liabilities		3,381								3,713
Stockholders' equity		83,443								81,208
Unrealized gain on securities		31								649
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY	$	656,826							$	600,162

Impact of noninterest bearing
sources and other changes in
balance sheet composition							0.37	%							0.50	%

Net yield on earning assets*							4.49	%							4.17	%
* Same as net interest margin


	13

The following table presents the dollar amount of changes in interest income and interest expense from the three month period ended June 30, 2004 to the three month period ended June 30, 2003. The table distinguishes between the changes related to average outstanding (volume) of earning assets and interest bearing liabilities, as well as the changes related to average interest rates (rate) on such assets and liabilities.

Change in Interest Income and Expense on a Tax Equivalent Basis
For the Three Months Ended June 30
(all dollar amounts in thousands)
	2004 Compared to 2003
	Increase (Decrease)
	in Interest Income and Expense
	Due to Changes in:
	Volume			Rate			Total
Interest earning assets:
Loans, net of unearned income	$	1,051		$	(707	)	$	345
Investment securities		168			40			208
Other earning assets		(183	)		62			(121	)
Total earning assets		1,036			(605	)		432

Interest bearing liabilities:
NOW accounts		14			-			14
Money market accounts		14			(114	)		(100	)
Savings deposits		8			(28	)		(20	)
Time deposits < $100		59			(223	)		(164	)
Time deposits > $100		(44	)		(140	)		(184	)
Federal funds purchased		13			-			13
Repurchase agreements		(1	)		(14	)		(15	)
Other borrowings		(58	)		12			(46	)
Total interest bearing liabilities		4			(506	)		(502	)
Increase in net interest income	$	1,032		$	(98	)	$	934


	14

Average Consolidated Balance Sheets and Net Interest Analysis
For the Six Months Ended June 30
Fully Tax-Equivalent Basis
(all dollar amounts in thousands)
	2004								2003
	Average			Income/		Yield/			Average			Income/		Yield/
	Balance			Expense		Rate			Balance			Expense		Rate
Assets
Earning assets:
Loans, net of unearned income	$	492,931		$	15,486		6.32	%	$	393,314		$	13,556		6.95	%
Investment securities		87,301			1,720		3.96	%		63,699			1,219		3.86	%
Other earning assets		9,148			105		2.31	%		42,645			278		1.31	%
Total earning assets		589,380			17,311		5.91	%		499,658			15,053		6.08	%
Allowance for loan losses		(5,743	)							(6,111	)
Intangible assets		15,409								10,635
Cash & due from banks		21,077								16,015
Premises & equipment		25,088								16,049
Other assets		4,911								5,576
TOTAL ASSETS	$	650,122							$	541,822

Liabilities and Stockholders' Equity

Interest bearing liabilities:
NOW accounts	$	51,478			89		0.35	%	$	32,444			65		0.40	%
Money market accounts		98,493			456		0.93	%		87,676			676		1.55	%
Savings deposits		32,365			57		0.35	%		20,436			86		0.85	%
Time deposits < $100		165,358			2,043		2.48	%		139,294			2,086		3.02	%
Time deposits > $100		93,851			1,214		2.60	%		89,439			1,418		3.20	%
Federal funds purchased		4,339			31		1.44	%		-			-		0.00	%
Repurchase agreements		12,049			38		0.63	%		12,943			70		1.09	%
Other borrowings		4,283			101		4.74	%		7,674			161		4.23	%
Total interest bearing liabilities		462,216			4,029		1.75	%		389,906			4,562		2.36	%
Net interest spread				$	13,282		4.16	%				$	10,491		3.72	%
Noninterest bearing demand deposits		101,254								73,532
Accrued expenses and other liabilities		3,213								3,088
Stockholders' equity		83,143								74,655
Unrealized gain on securities		296								641
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY	$	650,122							$	541,822

Impact of noninterest bearing
sources and other changes in
balance sheet composition							0.37	%							0.52	%

Net yield on earning assets*							4.53	%							4.24	%
*Same as net interest margin


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The following table presents the dollar amount of changes in interest income and interest expense from the six month period ended June 30, 2004 to the six month period ended June 30, 2003. The table distinguishes between the changes related to average outstanding (volume) of earning assets and interest bearing liabilities, as well as the changes related to average interest rates (rate) on such assets and liabilities.

Change in Interest Income and Expense on a Tax Equivalent Basis
For the Six Months Ended June 30
(all dollar amounts in thousands)
	2004 Compared to 2003
	Increase (Decrease)
	in Interest Income and Expense
	Due to Changes in:
	Volume			Rate			Total
Interest earning assets:
Loans, net of unearned income	$	3,130		$	(1,200	)	$	1,930
Investment securities		466			35			501
Other earning assets		(384	)		212			(173	)
Total earning assets		3,212			(953	)		2,258

Interest bearing liabilities:
NOW accounts		33			(9	)		24
Money market accounts		50			(270	)		(220	)
Savings deposits		21			(50	)		(29	)
Time deposits < $100		322			(365	)		(43	)
Time deposits > $100		57			( 261	)		(204	)
Federal funds purchased		31			-			31
Repurchase agreements		(3	)		(30	)		(32	)
Other borrowings		(80	)		20			(60	)
Total interest bearing liabilities		431			( 965	)		(533	)
Increase in net interest income	$	2,781		$	12		$	2,791

Provision for Loan Losses

The provision for loan losses charged to operations during the three months ended June 30, 2004 was $675 thousand compared to $381 thousand in the same period of 2003. Net charge-offs for the second quarter of 2004 were $722 thousand compared to net charge-offs of $735 thousand for the same period in 2003. The provision for the six months ended June 30, 2004 and 2003 was $1.3 million and $1.1 million, respectively. Net charge-offs for the six months ended June 30, 2004 and 2003 were $1.6 million and $930 thousand, respectively. The 2004 charge-offs were the consequences of prior period decentralized credit underwriting standards, the lack of a year-round loan review program in prior years, and an increase in bankruptcy filings.

The allowance for loan losses reflects management's assessment and estimate of the risks associated with extending credit and its evaluation of the quality of the loan portfolio. We periodically analyze our loan portfolio in an effort to establish an allowance for loan losses that we believe will be adequate in light of anticipated risks and loan losses. In assessing the adequacy of the allowance, we review the size, quality and risk of loans in the portfolio. We also consider such factors as:


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°	our loan loss experience;

°	the amount of past due and nonperforming loans;

°	specific known risks;

°	the status and amount of past due and nonperforming assets;

°	underlying estimated values of collateral securing loans;

°	current and anticipated economic conditions; and

°	other factors which management believes affect the allowance for potential credit losses.

An analysis of the credit quality of the loan portfolio and the adequacy of the allowance for loan losses is prepared by FSGBank’s credit administration department and presented to the director’s loan committee of the board of directors on a regular basis. In addition, our loan review department performs a regular review of the quality of the loan portfolio and adequacy of the allowance.

FSGBank’s allowance for loan losses is also subject to regulatory examinations and determinations as to adequacy, which may take into account such factors as the methodology used to calculate the allowance for loan losses and the size of the allowance for loan losses compared to a group of peer banks identified by the regulators. During their routine examinations of banks, the regulators may require a bank to make additional provisions to its allowance for loan losses when, in the opinion of the regulators, their credit evaluations and allowance for loan loss methodology differ materially from ours.

While it is our policy to charge off in the current period loans for which a loss is considered probable, there are additional risks of future losses which cannot be quantified precisely or attributed to particular loans or classes of loans. Because these risks include the state of the economy, management's judgment as to the adequacy of the allowance is necessarily approximate and imprecise.

As of June 30, 2004, the allowance for loan loss for FSGBank was $5.6 million or 1.12% of its outstanding loans. The peer group for FSGBank, as defined by the Federal Financial Institutions Examination Council's March 31, 2004 Uniform Bank Performance Report, includes all insured commercial banks between $300 million and $1 billion in average assets. This peer group, which includes 956 banks, had a ratio of the allowance for loan losses divided by total loans of 1.34% as of March 31, 2003, or 22 basis points more than FSGBank. Using our methodology, we believe that the allowance for loan loss for FSGBank was adequate as of June 30, 2004. For the remainder of 2004, we believe that charge offs will be less than the amount of charge offs experienced during the first half of the year.

Noninterest Income

Noninterest income totaled $1.7 million for the second quarter of this year, an increase of $266 thousand, or 18.9%, from the same period in 2003. Deposit related income, comprised primarily of account service charges and non-sufficient fund charges, totaled $1,040 thousand for the second quarter of 2004, which was $455 thousand, or 77.8%, more than the corresponding quarter in 2003. Deposit related income increased as we gained deposits in our market areas and assumed deposits through the acquisition of the three National Bank of Commerce branches in 2003, and we believe that this source of income will continue to be boosted by further deposit growth. Mortgage loan fees decreased by $206 thousand, or 34.2%, to $396 thousand for the second quarter of 2004 from the prior year. During the first half of 2004, rates f or fixed rate residential 15- and 30-year loan products increased over those in the preceding year, and as a result, the mortgage refinancing activity was not as strong as that of the previous year. Based on current loan volumes and the increasing long term rate environment, we believe that mortgage loan fees may continue to decrease during 2004.

For the first six months of this year, noninterest income was $3 million, which is an increase of $456 thousand, or 18%, over the same period in 2003. For the first six months of 2004, deposit related income totaled $1.8 million, an increase of $760 thousand, or 72.3%, over the first six months of 2003. Mortgage loan fees totaled $643 thousand for the six months ended June 30, 2004, which is $419 thousand, or 39.5% less than the same period in 2003.


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Noninterest Expense

Noninterest expense for the second quarter totaled $6.3 million, which was an increase of $688 thousand, or 12.2% over the second quarter of 2003. First Security's overhead ratio (noninterest expense, excluding amortization of intangible assets, provision for loan losses and income tax expenses, as a percentage of net interest income and noninterest income) decreased from 78.2% in the second quarter of 2003 to 75.1% for the same period in 2004.

Compared to the second quarter of 2003, salaries and benefits for the second quarter of 2004 increased $345 thousand, or 11%, to $3.5 million. The majority of the increase in salaries and benefits is related to staff additions for our branch openings and our acquisition of the three National Bank of Commerce’ branches. As of June 30, 2004, we had 27 full service branches and a total of 269 full time equivalent employees. As of June 30, 2003, we employed 239 full time equivalent employees and operated 19 full service branches and two loan production offices. We believe that salaries and benefits will incr ease for the remainder of 2004 as a result of our continued growth and branching efforts.

All noninterest expense categories, except professional services, are higher in the second quarter 2004 versus the same period in the prior year as a result of our branching activities and acquisition of the three National Bank of Commerce bank branches. Occupancy expenses increased $127 thousand, or 35%, to $492 thousand. Furniture, fixtures and equipment expenses increased $125 thousand, or 30%, to $547 thousand. Data processing costs increased $36 thousand, or 13%, to $309 thousand. Supplies, communications, and postage expenses increased in aggregate by $67 thousand, or 18%, to $434 thousand. Advertising expense increased $55 thousand, or 80%, to $124 thousand. Professional services decreased $31 thousand, or 10%, to $266 thousand.

The $196 thousand of second quarter amortization expense resulted from the amortization of the core deposit intangible assets created by the acquisitions of First State Bank (2002), Premier National Bank (2003) and the three National Bank of Commerce branches (2003). The core deposit intangible and goodwill created by the acquisition of First State Bank were $1 million and $1.4 million, respectively. The core deposit intangible and goodwill created by the acquisition of Premier National Bank were $1.3 million and $3 million, respectively. The core deposit intangible and goodwill created by the acquisition of the three National Bank of Commerce branches were $1.5 million and $754 thousand, respectively. The estimated useful life of each core deposit intangible asset is 10 years.

Noninterest expenses for the six-month period ended June 30, 2004 were $2.3 million, or 22.6%, higher and totaled $12.6 million compared to the same period in 2003. The changes are explained similarly to the quarterly data above and were as follows. Salaries and benefits increased $1.2 million or 20.2%. Occupancy expenses increased $285 thousand or 43%. Furniture, fixtures, and equipment expenses increased $283 thousand or 38%. Data processing costs increased $96 thousand or 19%. Supplies, communications, and postage expenses increased $183 thousand or 27%. Advertising expense increased $98 thousand or 72%. Professional services decreased $22 thousand or 4%.

STATEMENT OF FINANCIAL CONDITION

First Security's total assets at June 30, 2004 were $659.3 million, $611.7 million at June 30, 2003 and $644.8 million at December 31, 2003. Average assets for the second quarter of 2004 were $656.8 million versus $600.2 million for the same period a year earlier, an increase of 9.4%. Of the $14.5 million increase in total assets in the first six months of 2004, approximately $11.2 million was from growth of in-market deposits. First Security continues to actively pursue acquisitions and will continue to seek means to enhance our market share through further branching.


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Loans

Average loans of $499.3 million represented 84% of our average earning assets during the second quarter of 2004. From December 31, 2003 gross loans increased $22 million to $500.2 million at

June 30, 2004. During 2004, the increase is attributable to our organic market growth from the relationships and ties of our bankers to the local communities in which they work. We believe that general loan demand will remain strong during 2004. Funding of future loan growth may be restricted by our ability to raise core deposits, although we will use alternative funding sources if necessary and cost effective. Loan growth may be further restricted by the necessity for us to maintain appropriate capital levels, as well as adequate liquidity.

Asset Quality

The allowance for loan losses was $5.6 million or 1.12% of outstanding loans at June 30, 2004 and $5.8 million or 1.22% of outstanding loans at December 31, 2003. The allowance for loan losses was 202.5% of nonperforming loans (defined as loans 90 days or more past due and nonaccrual loans) at

June 30, 2004 and 245.1% of nonperforming loans at December 31, 2003. For the first six months of 2004, net charge-offs arising from loans secured by real estate totaled $21 thousand, commercial loans totaled $1,037 thousand, and consumer loans totaled $525 thousand (see Provision for Loan Losses). We believe that our reserve for inherent loan losses is adequate based on our assessment of the information available. Our assessment involves uncertainty and judgment; therefore, the adequacy of the allowance for loan losses cannot be determined with precision and may be subject to change in future periods. In addition, bank regulatory authorities, as part of their periodic examinations of FSGBank, may require additional charges to the provision for loan losses in future periods if the results of their reviews warrant. The allocation of the allowance for loan losses by loan category at the dates indicated is presented below.

Allocation for Allowance for Loan Losses
As of June 30, 2004 and 2003
(in thousands)
	2004					2003
			Percentage of loans in each					Percentage of loans in each
Loan Categories	Amount		category to total loans			Amount		category to total loans
Commercial	$	1,796		24.0	%	$	2,701		24.5	%
Real estate-construction		269		11.2	%		325		8.2	%
Real estate-mortgage		2,860		50.1	%		2,382		50.8	%
Consumer		652		14.7	%		790		16.5	%
Unallocated		17		-			217		-
Total	$	5,594		100.0	%	$	6,415		100.0	%

Nonperforming Assets

Nonaccrual loans were $1.8 million at June 30, 2004, $183 thousand at December 31, 2003 and $690 thousand at June 30, 2003. The nonaccrual loans in June 2004 included $442 thousand of commercial loans, $360 thousand of consumer loans, and $1 million of real-estate secured loans. The ratio of nonaccrual loans to total loans was 0.36% at June 30, 2004 and 0.038% at December 31, 2003. At June 30, 2004 we owned other real estate in the amount of $1.6 million.

Loans past due 90 days and still accruing were $962 thousand at June 30, 2004, compared to $2.2 million at December 31, 2003. Of these past due loans at June 30, 2004, $644 thousand were secured by real estate, $137 thousand were commercial loans and $181 thousand were consumer loans.


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At June 30, 2004 nonperforming loans (nonaccrual loans and loans past due 90 days or more) were 0.55% of total outstanding loans, which is 15 basis points less than our peer group and 21 basis points less than it was at March 31, 2004. Our Chief Loan Review Officer and Chief Credit Administration Officer are in their first full year of implementing new procedures for enhanced monitoring of problem loans, as well as early detection, prevention and corrective action plans.

Investment Securities and Other Earning Assets

Securities totaled $86.1 million at June 30, 2004, $86.5 million at December 31, 2003 and $72.0 million at June 30, 2003. From second quarter end 2003 to second quarter end 2004, the growth in the securities portfolio occurred as a result of our efforts to improve our liquidity. At June 30, 2004 the securities portfolio had unrealized net losses of approximately $1.2 million due to increasing interest rates in the bond market and the resulting decline in bond prices. All investment securities purchased to date have been classified as available-for-sale, and we currently have the ability and intent to hold them to maturity. As a result, we do not anticipate realizing any unrealized losses. However, should conditions change, we may sell unpledged securities. Pledged secu rities as of June 30, 2004 totaled $24.8 million.

The following table provides the amortized cost of our investment securities by their stated maturities (this maturity schedule excludes security prepayment and call features), as well as the approximate tax equivalent yields for each maturity range.

(in thousands)	Less than			One to			Five to			More than
	One Year			Five Years			Ten Years			Ten Years
Municipal	$	2,027		$	2,256		$	9,861		$	11,909
Federal Agencies		6,140			52,547			2,595			-
Total	$	8,167		$	54,803		$	12,456		$	11,909
Tax Equivalent Yield		3.4	%		3.9	%		4.9	%		5.7	%

Our management considers the overall quality of the securities portfolio to be high. All securities held are traded in liquid markets, except for one bond. This $250 thousand investment is a Qualified Zone Academy Bond (within the meaning of Section 1379E of the Internal Revenue Code of 1986, as amended) issued by The Health, Educational and Housing Facility Board of the County of Knox under the authority from the State of Tennessee. As of June 30, 2004 we owned securities from issuers in which the aggregate amortized cost from such issuers exceeded 10% of our stockholders’ equity. As of the second quarter ended 2004, the amortized cost and market value of the securities from each such issuer are as follows:

(in thousands)	Amortized Cost		Market Value
Fannie Mae	$	25,520	$	25,170
Federal Home Loan Mortgage Corp (FHLMC)	$	21,189	$	20,933
Federal Home Loan Bank (FHLB)	$	12,383	$	12,396

The following table presents the amortized cost of the investments for the dates presented in the consolidated balance sheets.

(in thousands)	June 30, 2004		December 31, 2003		June 30, 2003
Federal agencies	$	61,282	$	63,964	$	51,226
Municipal		26,053		21,883		19,520
Total	$	87,335	$	85,847	$	70,746

At June 30, 2004 we held no federal funds sold, but at December 31, 2003 federal funds sold totaled $7 million. The decrease in federal funds is a direct result of our loan demand exceeding our deposit growth.


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Deposits and Other Borrowings

Total deposits increased 9.3% from June 30, 2003 to June 30, 2004, and 2.1% from December 31, 2003 to June 30, 2004. For the first six months of 2004, our branching activities yielded organic deposit growth of approximately $11.2 million. We anticipate that our deposits will continue to increase as a result of branch openings in 2003 and 2004.

The following table details the maturities and rates of the term borrowings from the Federal Home Loan Bank.

Date	Type	Principal	Term	Rate	Maturity
1/8/2002	Fixed Rate Advance	500,000	36 months	4.48%	1/7/05
1/8/2002	Fixed Rate Advance	500,000	48 months	5.04%	1/6/06
1/10/2002	Fixed Rate Advance	500,000	36 months	4.45%	1/10/05
1/10/2002	Fixed Rate Advance	500,000	48 months	5.00%	1/10/06
1/15/2002	Fixed Rate Advance	500,000	36 months	4.22%	1/14/05
1/15/2002	Fixed Rate Advance	500,000	48 months	4.77%	1/13/06
1/17/2002	Fixed Rate Advance	500,000	36 months	4.37%	1/14/05
1/17/2002	Fixed Rate Advance	500,000	48 months	4.90%	1/17/06
		$ 4,000,000

Composite rate	4.65%
Composite 36 month rate	4.38%
Composite 48 month rate	4.92%

Liquidity

Liquidity refers to First Security’s ability to adjust its future cash flows to meet the needs of our daily operations. First Security relies primarily on management fees from FSGBank to fund our daily operations liquidity needs. Additionally, in connection with our 2002 private placement stock offering, we retained a portion of the proceeds of the offering as working capital and a portion of the proceeds for future investment into our subsidiary. First Security Group’s cash balance on deposit with FSGBank, which totaled approximately $6.7 million as of June 30, 2004, is available for funding activities for which FSGBank would not receive direct benefit, such as acquisition due diligence, shareholder relations, and holding company reporting and operations. Th ese funds should adequately meet our cash flow needs. If we determine that our cash flow needs will be satisfactorily met, we may deploy a portion of the funds into FSGBank or use them in an acquisition in order to support continued growth.

The liquidity of FSGBank refers to the ability or financial flexibility to adjust its future cash flows to meet the needs of depositors and borrowers and to fund operations on a timely and cost effective basis. The primary sources of funds for FSGBank are cash generated by repayments of outstanding loans, interest payments on loans and new deposits. Additional liquidity is available from the maturity and earnings on securities and liquid assets, as well as the ability to liquidate securities available for sale.

At June 30, 2004, our liquidity ratio (defined as cash, due from banks, federal funds sold, and investment securities less securities pledged to secure liabilities divided by short-term funding liabilities less liabilities secured by pledged securities) was 17% (excluding anticipated loan repayments). As of December 31, 2003 and June 30, 2003, the liquidity ratios were 24.3% and 24.6% respectively. The decrease in our liquidity position is a direct result of our loan demand out pacing our deposit growth. FSGBank could increase its borrowing capacity at the FHLB, subject to more stringent collateral requirements, by pledging loans other than 1-4 family residential mortgage loans.

Cumulatively, FSGBank also had unsecured federal funds lines in the aggregate amount of $42.8 million at June 30, 2004, under which it could borrow funds to meet short-term liquidity needs. Another source of funding that we have used and may continue to use is loan participations sold to other commercial banks (in which we retain the service rights). As of June 30, 2004 we had $9.8 million in loan participations sold. An additional source of short-term funding would be to pledge investment securities against a line of credit at a commercial bank. As of June 30, 2004 we had no borrowings against our investment securities, except for repurchase agreements entered into in the ordinary course of business. To date, First Security has not initiated the use of brokered deposi ts or Internet deposits as a source of funding; however, we assumed $4.2 million in brokered deposits with our acquisition of Premier National Bank in 2003, with $1.8 million remaining on deposit at June 30, 2004. We are currently contemplating a disciplined approach using brokered deposits as a supplemental source of funding. Our certificates of deposit greater than $100 thousand were gathered in our local communities. We believe that our liquidity sources are adequate to meet our operating needs.


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First Security also has contractual cash obligations and commitments, which included certificates of deposit, other borrowings, operating leases, and loan commitments. As of June 30, 2004 certificates of deposit totaled $256 million. Other borrowings included $4 million in FHLB advances (see Management’s Discussion and Analysis of Financial Condition and Results of Operation - Deposits and Other Borrowings). Unfunded loan commitments and stand by letters of credit totaled $142.8 million and $5.6 million, respectively, at June 30, 2004. The following table illustrates our outstanding contractual obligations, which included property and equipment leases, as of June 30, 2004.

	Total		Less than One Year		One to Three Years		Three to Five Years		More than Five Years
	(Dollar amounts in thousands)
Certificates of deposit	$	256,467	$	178,673	$	63,445	$	14,349	$	-
Securities sold under agreements to repurchase		17,243		17,243
FHLB borrowings		4,000		2,000		2,000
Operating lease obligations		5,515		724		1,127		988		2,676
Purchase obligations - securities		1,410		1,410
Purchase obligations - facilities		484		484
Purchase obligations - license		250		250
Note payable		154		10		21		25		98
Total	$	285,523	$	200,794	$	66,593	$	15,362	$	2,774

Net cash provided from or used by operations results primarily from net income or loss, adjusted for the following noncash accounting items: provision for loan losses, depreciation and amortization, and deferred income taxes or benefits. These items amounted to cash provided of $3.2 million for the six months ended June 30, 2004. Cash provided by operations was available to increase earning assets.

Capital Resources

We continue to maintain capital ratios in excess of regulatory minimum requirements. The current capital standards to be well capitalized call for a minimum total capital of 10% of risk-adjusted assets, including 6% Tier I capital, and a minimum leverage ratio of Tier I capital to total tangible assets of at least 5%. First Security and FSGBank maintain capital levels exceeding the minimum levels required for "well capitalized" banks and bank holding companies under applicable regulatory guidelines.


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June 30, 2004	Well Capitalized			Adequately Capitalized			First Security			FSGBank

Tier I capital to risk adjusted assets		6.0	%		4.0	%		12.7	%		11.2	%
Total capital to risk adjusted assets		10.0	%		8.0	%		13.8	%		12.2	%
Leverage ratio		5.0	%		4.0	%		10.6	%		9.3	%

December 31, 2003	Well Capitalized			Adequately Capitalized			First Security			FSGBank*

Tier I capital to risk adjusted assets		6.0	%		4.0	%		13.1	%		11.5	%
Total capital to risk adjusted assets		10.0	%		8.0	%		14.3	%		12.6	%
Leverage ratio		5.0	%		4.0	%		11.0	%		9.6	%

June 30, 2003	Well Capitalized			Adequately Capitalized			First Security			FSGBank Dalton			FSGBank Chattanooga			FSGBank Maynardville

Tier I capital to risk adjusted assets		6.0	%		4.0	%		14.8	%		11.5	%		10.5	%		26.2	%
Total capital to risk adjusted assets		10.0	%		8.0	%		16.2	%		12.7	%		11.8	%		27.4	%
Leverage ratio		5.0	%		4.0	%		11.8	%		8.7	%		8.8	%		20.1	%

* On September 24, 2003, our three FSGBank charters (Dalton, Chattanooga, and Maynardville) were merged into one bank charter.

We have never paid any cash dividends on our common stock, and we do not anticipate paying any cash dividends in the foreseeable future. We currently intend to retain future earnings, if any, to support the development and growth of our business. Payment of future dividends, if any, will be at the discretion of our board of directors and will depend upon our earnings, our financial condition, the capital adequacy of First Security and our subsidiary, opportunities for growth and expansion, the need for funds of our subsidiary, and other relevant factors, including applicable restrictions and governmental policies and regulations.

EFFECTS OF INFLATION

Inflation generally increases the cost of funds and operating overhead, and, to the extent loans and other assets bear variable rates, the yields on such assets. Unlike most industrial companies, virtually all of our assets and liabilities are monetary in nature. As a result, interest rates generally have a more significant impact on our performance than the effects of general levels of inflation. Although interest rates do not necessarily move in the same direction, or to the same extent, as the prices of goods and services, increases in inflation generally have resulted in increased interest rates. In 2000, the Federal Reserve increased interest rates three times for a total of 100 basis points in an attempt to control inflation. However, in 2001 the Federal Reserve reduced interest rates on 11 occasions for a total of 475 basis points in an effort to stimulate economic growth. On November 6, 2002, the Federal Reserve decreased interest rates by 50 basis points and on June 27, 2003, the Federal Reserve decreased interest rates 25 basis points in order to further stimulate economic growth. The Federal Reserve raised interest rates by 25 basis points on June 30, 2004. As a result, we increased our prime lending rate from 4.00% to 4.25%. Federal Reserve Chairman Alan Greenspan indicated that interest rates may increase again this year in order to curb inflation.

Inflation increases the cost of goods and services purchased, cost of salaries and benefits, occupancy expense and similar items. Inflation and related increases in interest rates generally decrease the market value of investments and loans held and may adversely affect the liquidity and earnings of our commercial banking and mortgage banking business, and our shareholders' equity. With respect to our mortgage banking business, mortgage originations and refinancings tend to slow as interest rates increase, and increased interest rates would likely reduce our earnings from such activities and our income from the sale of residential mortgage loans in the secondary market.


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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

Certain of the statements made under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere throughout this Form 10-Q are forward-looking statements for purposes of the Securities Act of 1933 and the Securities Exchange Act of 1934. Forward-looking statements relate to future events or our future financial performance and may involve known or unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of First Security to be materially different from future results, performance, or achievements expressed or implied by such forward-looking statements. Forward-looking statements include statements using the words such as "may," "will," "anticipate," "should," "wo uld," "believe," "contemplate," "expect," "estimate," "continue," "intend," "seeks," or other similar words and expressions of the future.

These forward-looking statements involve risks and uncertainties, and may not be realized due to a variety of factors, including, without limitation: the effects of future economic conditions, governmental monetary and fiscal policies, as well as legislative and regulatory changes; the risks of changes in interest rates on the level and composition of deposits, loan demand, and the values of loan collateral, securities, and interest sensitive assets and liabilities; interest rate risks; the costs of evaluating possible acquisitions and the risks inherent in integrating acquisitions; the effects of competition from other commercial banks, thrifts, mortgage banking firms, consumer finance companies, credit unions, securities brokerage firms, insurance companies, money ma rket and other mutual funds and other financial institutions operating in First Security's market area and elsewhere, including institutions operating regionally, nationally and internationally, together with such competitors offering banking products and services by mail, telephone, computer and the Internet; and the failure of assumptions underlying the establishment of reserves for possible loan losses. All written or oral forward-looking statements attributable to First Security are expressly qualified in their entirety by this Special Note.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risk, with respect to First Security, is the risk of loss arising from adverse changes in interest rates and prices. The risk of loss can result in either lower fair market values or reduced net interest income. We manage several types of risk, such as credit, liquidity and interest rate. We consider interest rate risk to be a significant risk that could potentially have a large material effect on our financial condition. Further, we process hypothetical scenarios whereby we shock our balance sheet up and down for possible interest rate changes, we analyze the potential change (positive or negative) to net interest income, as well as the effect of changes in fair market values of assets and liabilities. First Security does not maintain a trading portfolio or dea l in international instruments, and therefore First Security is not exposed to risk inherent to trading activities and foreign currency.

First Security's interest rate risk management is the responsibility of the Asset/Liability Committee ("ALCO"). ALCO has established policies and limits to monitor, measure and coordinate First Security's sources, uses, and pricing of funds.

Interest rate risk represents the sensitivity of earnings to changes in interest rates. As interest rates change, the interest income and expense associated with First Security's interest sensitive assets and liabilities also change, thereby impacting net interest income, the primary component of our earnings. ALCO utilizes the results of both a static and dynamic gap report to quantify the estimated exposure of net interest income to a sustained change in interest rates.

The gap analysis projected net interest income based on both a rise and fall in interest rates of 200 basis points (i.e. 2.00%) over a twelve-month period. The model is based on actual repricing dates of interest sensitive assets and interest sensitive liabilities. The model incorporates assumptions regarding the impact of changing interest rates on the prepayment rates of certain assets.

First Security measures this exposure based on an immediate change in interest rates of up or down 200 basis points. Given this scenario, First Security had, at the end of the period, an exposure to falling rates and a benefit from rising rates. More specifically, for the period ended June 30, 2004 the model forecasts a decline in net interest income of $1,528 thousand or 11.74%, as a result of a 200 basis point decline in rates. The model also predicts a $1,204 thousand increase in net interest income, or 9.25% as a result of a 200 basis point increase in rates. The forecasted results of the model are within the limits specified by ALCO. The following chart reflects First Security's sensitivity to changes in interest rates as of June 30, 2004. The numbers are based on a static balance sheet, and the chart assumes that pay downs and maturities of both assets and liabilities are reinvested in like instruments at current interest rates, rates down 200 basis points, and rates up 200 basis points.


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Interest Rate Risk

Income Sensitivity Summary

As of June 30, 2004

(in thousands)

	DOWN 200 BP			CURRENT			UP 200 BP

Net interest income	$	11,487		$	13,015		$	14,219
Dollar change net interest income		(1,528	)		-			1,204
Percent change net interest income		-11.74	%		0.00	%		9.25	%

The preceding sensitivity analysis is a modeling analysis, which changes periodically and consists of hypothetical estimates based upon numerous assumptions including interest rate levels, shape of the yield curve, prepayments on loans and securities, rates on loans and deposits, reinvestment of paydowns and maturities of loans, investments and deposits, among others. In addition, there are no assumptions for growth or a change in asset mix. While assumptions are developed based on the current economic and market conditions, management cannot make any assurances as to the predictive nature of these assumptions including how customer preferences or competitor influences might change.

As market conditions vary from those assumed in the sensitivity analysis, actual results will differ. Also, the sensitivity analysis does not reflect actions that ALCO might take in responding to or anticipating changes in interest rates.

First Security purchased software from IPS-Sendero that we believe will enhance our ability to measure and manage interest rate risk and more efficiently aggregate financial data. The software components purchased were Data Management System, Sendero Vision Asset/Liability, General Ledger, EIS.net, and Budget and Planning System. We are currently implementing these systems.

The Sendero Vision Asset/Liability system is a comprehensive interest rate risk measurement tool that is widely used in the banking industry. Generally, it provides the user with the ability to more accurately model both static and dynamic gap, economic value of equity, duration, and income simulations using a wide range of scenarios. The system also has the capability to model derivative instruments such as interest rate swap contracts. We will continue to use existing measurement tools until this system is fully implemented. We recently engaged an outside consultant to validate our Sendero Vision Asset/Liability system.

ITEM 4. CONTROLS AND PROCEDURES

As of the end of the period covered by this report, First Security carried out an evaluation, under the supervision and with the participation of the Company’s management, including First Security’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 Exchange Act Rule 13a-15. Based upon that evaluation, First Security’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 subsidiary) that is required to be included in First Security’s periodic filings wi th the Securities and Exchange Commission. There have been no changes in First Security’s internal controls over financial reporting during the quarter ended June 30, 2004 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.


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PART II. OTHER INFORMATION

ITEM 4. Submission of Matters to a Vote of Security Holders

We held our Annual Meeting of shareholders on May 27, 2004, where the following ten directors were elected: Rodger B. Holley, J.C. Harold Anders, Clayton Causby, Carol H. Jackson, Ralph Kendall, William B. Kilbride, D. Ray Marler, Lloyd L. Montgomery, III, Hugh J. Moser, III and H. Patrick Wood. There were no broker non-votes. The votes were as follows:


	FOR	WITHHELD
Rodger B. Holley	6,166,947	462,852
J.C. Harold Anders	6,582,399	47,400
Clayton Causby	6,569,279	60,520
Carol H. Jackson	6,562,479	67,320
Ralph L. Kendall	6,170,443	459,356
William B. Kilbride	6,553,799	76,000
D. Ray Marler	6,152,363	477,436
Lloyd L. Montgomery, III	6,252,423	377,376
Hugh J. Moser, III	6,562,599	67,200
H. Patrick Wood	6,554,315	75,484

The second matter put to a vote at the Annual Meeting was approval of the First Amendment to the First Security Group, Inc. 2002 Long-Term Incentive Plan, which would increase the number of shares reserved under the Plan from 240,000 to 640,000 shares and provide for the granting of stock appreciation rights. The number of votes cast for this proposal was 5,135,953, the number of votes against was 1,089,899 and the number of abstentions was 155,830. There were 248,117 broker non-votes.

The third matter put to a vote at the Annual Meeting was ratification of the appointment of Joseph Decosimo and Company, LLP, as independent auditors for First Security for the fiscal year ending December 31, 2004. The number of votes cast for this proposal was 6,535,219, the number of votes against was 37,940 and the number of abstentions was 56,640. There were no broker non-votes.

ITEM 6. Exhibits and Reports on Form 8-K

(a)

Exhibits:

	EXHIBIT NUMBER		DESCRIPTION


	31.1		Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934

	31.2		Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934

	32.1		Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934

	32.2		Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934


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(b)	Reports on Form 8-K:

The following reports on Form 8-K were filed during the quarter covered by this Form 10-Q:

Current Report on Form 8-K, dated May 13, 2004 and filed on May 14, 2004, Item 5.


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SIGNATURES

Pursuant to the requirements of the Securities and Exchange Act of 1934, the Registrant has duly caused this Report to be signed by the undersigned, thereunto duly authorized.


	FIRST SECURITY GROUP, INC.
	(Registrant)

August 3, 2004		/s/ Rodger B. Holley

		Rodger B. Holley Chairman, Chief Executive Officer & President



August 3, 2004		/s/ William L. Lusk, Jr.

		William L. Lusk, Jr. Secretary, Chief Financial Officer & Executive Vice President


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