First Interstate BancSystem, Inc. (NASDAQ:FIBK) Q3 2023 Earnings Call Transcript

First Interstate BancSystem, Inc. (NASDAQ:FIBK) Q3 2023 Earnings Call Transcript October 26, 2023

Operator: Good morning, ladies and gentlemen, and welcome to the First Interstate BancSystem, Inc. Third Quarter Earnings Call. [Operator Instructions] This call is being recorded on Thursday, October 26, 2023. I would now like to turn the conference over to Andrea Walton. Please go ahead.

Andrea Walton: Thank you. Good morning. Thank you for joining us for our third quarter earnings conference call. As we begin, please note that the information provided during this call will contain forward-looking statements. Actual results or outcomes may differ materially from those expressed by those statements. I’d like to direct all listeners to read the cautionary note regarding forward-looking statements contained in our most recent annual report on Form 10-K filed with the SEC and in our earnings release as well as the risk factors identified in the annual report and our more recent periodic reports filed with the SEC. Relevant factors that could cause actual results to differ materially from any forward-looking statements are included in the earnings release and in our SEC filings.

The company does not undertake to update any of the forward-looking statements made today. A copy of our earnings release, which contains non-GAAP financial measures, is available on our website at fibk.com. Information regarding our use of the non-GAAP financial measures may be found in the body of the earnings release and a reconciliation to their most directly comparable GAAP financial measures is included at the end of the earnings release for your reference. Joining us from management this morning are Kevin Riley, our Chief Executive Officer; and Marcy Mutch, our Chief Financial Officer, along with other members of our management team. At this time, I’ll turn the call over to Kevin Riley. Kevin?

Kevin Riley: Thanks, Andrea. Good morning, and thanks again to all of you for joining us on our call today. Again, this quarter, along with our earnings release, we have published an updated investor presentation that has some additional disclosures, which we believe will be helpful. The presentation can be accessed on our Investor Relations website and if you have not downloaded a copy yet, I would encourage you to do so. I’m going to start today by providing an overview of the major highlights of the quarter, and then I’ll turn the call over to Marcy to provide more details on our financials. In this challenging banking environment, First Interstate draws strength from our franchise value and from the robust flexible balance sheet we have carefully built.

We have seen stabilization on both sides of the balance sheet over the past quarter, and we continue to carry no broker deposits. We have reduced noninterest expense. We have increased spreads on new loans. We have paid down borrowings. In short, we have controlled the things that are in our power to control and position the bank to respond to appropriate opportunities when they arise. In the third quarter, we generated $72.7 million in net income or $0.70 per share. This is an increase of 8.5% from the previous quarter. We achieved modest deposit growth in the period and continue to see improved risk-adjusted spreads on new loan production. The new loan production rate, excluding draws on construction lines, increased roughly 40 basis points from the previous quarter to around 7.5%.

We have achieved stability in our net interest margin and generated improvements in both asset quality and capital ratios. With that, I’ll turn the call over to Marcy to provide some additional details around our third quarter results. Go ahead, Marcy.

Marcy Mutch: Thanks, Kevin, and good morning, everyone. As I walk through our financial results, unless otherwise noted, all of the prior period comparisons will be with the second quarter of 2023. I’ll begin with our income statement. Our net interest income decreased by $4.7 million as the increase in our average yield on earning assets was outpaced by the increase in our total cost of funds. This was partially offset by a $600,000 increase in purchase accounting accretion quarter-over-quarter. Our reported net interest margin was 3.07%, a decrease of 5 basis points from the prior quarter. This is significantly less than the 24 basis point decrease we saw in the second quarter. Our adjusted net interest margin excluding purchase accounting accretion, also decreased by 5 basis points from the prior quarter to 3%.

This is stable to our exit rate last quarter as we expected. From here, the margin is expected to remain relatively stable to modestly lower in the fourth quarter with earning assets also slightly lower than in our third quarter reported results. We expect this, in turn, to lead to a modest decline in net interest income in the fourth quarter. Our total noninterest income decreased $2.1 million quarter-over-quarter as we face pressure in the mortgage and payment service businesses. We expect noninterest income to be similar to third quarter levels in the fourth quarter, generally reflecting our core fee run rate. While we expect continued pressure in the mortgage origination environment, our newly restructured mortgage business allows us to process volume more efficiently and with improved profitability.

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So while demand remains minimal in the near term, as the environment improves, we can now respond to increasing demand more profitably. Moving to total noninterest expense. Reported expenses declined $2.8 million from the prior quarter as salaries and wages declined in the period. This was generally due to the severance expense we noted in the prior quarter, lower expenses from the mortgage business and a lower incentive accrual. We anticipate a similar level of expenses in the fourth quarter. Moving to the balance sheet. Loans held for investment decreased by $50 million from the end of the prior quarter. Our outstanding commercial construction lines totaled just under $900 million at the end of the third quarter at a weighted average rate of approximately 5.5%.

This represents about a $200 million decline from the prior quarter. The securities portfolio declined by $288 million in the quarter due to normal amortization with a modest impact from higher unrealized losses. On the liability side, 3 developments underscore the stability of our balance sheet, a reduction in short-term borrowings of $522 million, an increase of $100 million in total deposits and a moderation of our mix shift out of noninterest-bearing deposits. Let me reiterate that we have no broker deposits on the balance sheet. Moving to asset quality. Nonperforming assets decreased by $11 million and criticized loans decreased by $8.7 million from the prior quarter. This is in keeping with our principle of addressing credit matters as they arise as you’ve seen us do in the past.

We continue to have limited exposure in metro office commercial real estate and the remaining portfolio is performing well. As a note, we have de minimis exposure to syndicated national credits and by de minimis, I mean 2 credits for a total of $6 million, and we do not participate in that market. While our allowance for credit losses was up 1 basis point to 1.24% of total loans held for investment, our total provision expense was essentially 0. Net charge-offs in the quarter were minimal at just $1.1 million or 2 basis points of average loans. Our coverage rate of nonaccrual loans increased to 268% in this period. Finally, all regulatory capital ratios strengthened in the third quarter as we continue to manage our risk-weighted asset exposure, and we were pleased to announce our $0.47 dividend per share.

Tangible book value declined slightly as the AOCI position expanded and offset retained earnings. Going forward, our strong capital position gives us the flexibility to take advantage of market opportunities and to remain dedicated to serving the needs of our customers and attracting new households to the bank. Now with that, I’ll turn it back over to Kevin. Kevin?

Kevin Riley: Thanks, Marcy. Now I’ll wrap up with a few comments on our outlook. We expect our fourth quarter results to continue to display the stability we have achieved. As we complete our 2024 budgeting process, we understand the operating environment that we’re heading into. With revenue growth being a challenge, we know the importance of expense control. We are taking a hard look at this, and we’ll be able to provide more detail in this regards on our next call. Given the strength of our franchise and flexible balance sheet, we are well positioned to continue to protect shareholder value during these challenging times. Going forward, we will remain devoted to serving our existing customers with complementary products and services, such as the new suite of credit cards we just launched in August.

We will continue to capitalize on the strength of our markets to grow our client base. In all our efforts, we will continue to enhance the strength of our high quality, resilient franchise. So with that, we’ll open up the call for questions.

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Q&A Session

Operator: [Operator Instructions] And your first question comes from Matthew Clark from Piper Sandler.

Matthew Clark: First one for me is around your deposit beta outlook. I think in the release or in the deck, you guys talk about your expectations to be in the low to mid 30s in 4Q. How do you think about you’re through the cycle in interest rate deposit data, assuming the Fed is done, I mean, do you settle out in the mid-30s, do you feel like there’s some lag effect there?

Kevin Riley: Yes. That’s kind of what we’re seeing, yes.

Marcy Mutch: Yes. I think low to mid-30s by the end of the year. And depending on the mix shift, it could go slightly higher into next year.

Kevin Riley: Yes, to the mid-30s as the time moves.

Matthew Clark: And then just the NII outlook. As we look into 1Q, you have a big slug of securities coming due and just your thoughts around how the margin might benefit there? Look, it seems like we would have an uptick in the NIM there and maybe NII could trough or even maybe stabilize? Is that a fair way thinking about it?

Kevin Riley: I think, Matt, it’s a fair way of thinking about it. I think that you’ll see a little bit slight come down in the fourth quarter and then probably a stabilization in the first. So we see it growing in the back half of 2024.

Matthew Clark: And then just the — your net charge-offs, it’s great to see them come down a lot. Can you speak to the recoveries you had there? Just trying to get a sense for normalized expectations going forward.

Kevin Riley: We’ll have Michael, our Chief Credit Officer, to answer that question, Matt.

Michael Lugli: Good morning, Matt. the recovery was centered on legacy Great Western Bank hospitality deal. The total recovery was $3.2 million. So that helped offset. And if you remember in the prior quarter, our charge-offs were elevated, but that was primarily due to one credit. So I think hopefully, that answers your question.

Operator: Your next question comes from Chris McGratty from KBW.

Chris McGratty: Kevin, you alluded to a close eye on the costs. What exactly are you looking at? I assume it’s broad, but branches businesses, repositioning of the balance sheet. What — how should we be thinking about this?

Kevin Riley: Well, it’s not really reposition and balance sheet as much. We’re just looking at exactly what you said. We’re looking at branches. We’re looking at business units. We’re looking at…

Marcy Mutch: All expenses.

Kevin Riley: All expenses are on the table. I will tell you we’re going to go into a very in-depth look at every one of these expenses to see if they are a must have or can we do something with it.

Chris McGratty: And would the goal for that be manage expenses, the growth rate off of this year to a lower level or just outright declines from…

Kevin Riley: Absolutely. That’s exactly what our goal is.

Chris McGratty: So limit the growth versus absolute decline. Is that right?

Kevin Riley: Right.

Chris McGratty: Okay. And then maybe on the balance sheet, Marcy. The securities cash flows kind of pick up early next year. At what point are we thinking — are you thinking about — because you do have a loan-to-deposit ratio flexibility. When do you think about reinvesting bonds, cash flows in the bond book?

Marcy Mutch: You know what we’re looking at potentially doing small incremental reinvestments at this point. We’re just kind of evaluating our options and where we can get potentially yields over our cost of funds.

Operator: Your next question comes from Andrew Terrell from Stephens.

Andrew Terrell: First one to start on credit quality. I mean everything look good this quarter. The one thing I did want to ask about was the substandard loan bucket was up about $28 million or so this quarter. Any color on what drove the build in substandard?