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First Interstate Bancsystem Inc. (NASDAQ: FIBK) Second Quarter Results Conference Call 2018 July 26, 2018 11:00 am ET
Senior Managers
Kevin Riley – General Manager
Marcy Mutch – Chief Financial Officer [19659004] Bill Gottwals – Executive Vice President and Chief Financial Officer
Lisa Slyter-Bray – Executive Assistant
Analysts
Jared Shaw – Wells Fargo Securities
Jackie Bohlen – KBW
Matthew Clark – Piper Jaffray [19659002] Operator
Hello, and welcome to the first earnings conference call of the Interstate BancSystem, second quarter of 2018. (Instructions from the operator). Please note, the event of today is in the process of registration.
I would now like to give the floor to Lisa Slyter-Bray. Please, go ahead, ma'am.
Lisa Slyter-Bray
Thank you Rocco. Hello. Thank you for joining us for our Q2 earnings conference call. At the beginning, it should be noted that the information provided in this call will contain forward-looking statements. Actual results or results may differ materially from those expressed by these statements.
I would like to ask all auditors to read the cautionary note regarding forward-looking statements and factors that could affect future results contained in our most recent annual report on Form 10-K filed with the SEC and in our publication results, as well as the risk factors identified in the annual report, and our more recent periodic reports filed with the SEC.
The relevant factors that could cause actual results to differ materially from forward-looking statements are included in the earnings disclosure and in our filings with the SEC. The company does not undertake to update any of the forward-looking statements made today.
A copy of our earnings publication, which contains non-GAAP financial measures, is available on our website at www.fibk.com. Information regarding our use of non-GAAP financial measures is available in the main body of the earnings release, and a reconciliation to the most directly comparable GAAP financial measures is included at the end of the earnings release for your reference.
Kevin Riley, our president and CEO; and Marcy Mutch, our CFO, as well as other members of our management team.
Right now, I'm going to give the floor to Kevin Riley. Kevin.
Kevin Riley
Thank you Lisa. Hello and thank you again to all of you for joining us today.
I will give an overview of the highlights of the quarter, then Marcy will provide more details on our financial statements.
We continue to function well in the second quarter and we have seen positive trends in most of our key indicators. As a result, we recorded another strong quarter of earnings growth and further improved our financial performance.
We generated net income of $ 41.7 million in the second quarter or earnings per share of $ 0.74. This compares with our reported earnings of $ 0.65 per share last quarter, which included $ 0.05 of merger and severance costs.
As we grow and generate profitable growth, we set new highs in our level of financial performance. In the second quarter, our average return on badets was 1.38%. Our return on average equity was 11.61% and our return on average tangible equity was 18.2%.
The improved results this quarter is mainly attributable to higher revenues, reflecting our seasonal period of economic activity in our markets. . Our total loans increased at an annualized rate of 5.9% during the quarter. Although this is a recovery from our growth compared to the first quarter, it was a little weaker than expected given our April pipeline.
The rainy spring had a significant impact on the construction schedule, resulting in lower construction loans and a higher level of commitment, but unfunded balances of about $ 287 million at the end of June. With the weather improving, we expect strong growth in the third quarter.
With the exception of construction and residential real estate, each of the major credit areas grew during the quarter, the strongest growth coming from our agronomy portfolios. From a geographical point of view, we recorded the highest loan growth in the states of Oregon, East Montana and Idaho, while growth in Wyoming was not as strong as in these other markets. continue to see a nice recovery in this market.
In the second quarter, our average new loan rate was 5.47%, an increase of 41 basis points over the previous quarter. We continue to see an expansion in our net interest margin, which is reflected in the sensitivity of our balance sheet badets.
We believe that we are reaching a point of inflection, where customers pay a little more attention to the performance that they receive on their deposits. Due to the flexibility of our balance sheet, we have the opportunity to maintain a strong position in our deposit market footprint.
Although this has resulted in a slightly higher deposit beta, that some of the competitors to track deposits. And as a result, we are starting to see a decline in some of the irrational lending prices in some of our markets.
A strong deposit base has always been the foundation of our franchise, and we consider that the generation of deposits is just as important as the generation of loans. By continuing to invest in technology to provide our customers with the best mobile and online beta features, and by offering very competitive rates on our deposit price, we believe we are well positioned to take market share and capitalize on financing difficulties encountered by small banks in our footprint. And we could do this while realizing an expansion of our net interest margin, which we believe to be a very favorable position.
We also saw a seasonal recovery in our non-interest income, particularly in the payment and residential services sectors. mortgage bank. Our mortgage banking revenues increased over the last quarter and remained relatively stable compared to the second quarter of last year.
In line with national trends, our refinancing volume reached its lowest level of total production in recent history in June. Purchasing volumes from one year to the next are stable, but with the drying up of refinancing activities and increased competition, this puts a slight pressure on the gain on profit margins . Overall, our total revenues increased by 4.7% over the previous quarter. With the increase in our revenues, our efficiency ratio has improved to 58.8%.
A couple of other notable articles: Our Kroll estimate has recently been reaffirmed as BBB +. Although we do not have the intention of issuing debt right now, it is still nice to have debt in our back pocket. We have also received approval of the acquisition of Inland Northwest Bank or BNI from the Federal Reserve and we expect more than the final approvals from the Federal Reserve. State in the vote of shareholders of BNI. This process has gone very well and we expect this agreement to be completed in the third quarter.
So with these comments, I would like to call Marcy, to have a little more detail behind the numbers. Go ahead, Marcy
Marcy Mutch
Thank you Kevin and good morning everyone. As I review our financial results, unless otherwise indicated, all prior period comparisons will be made in the first quarter of 2018.
I will begin with our income statement and our net interest margin. On a reported basis, our net interest margin increased 12 basis points to 3.87% in the second quarter, excluding the impact of interest expense and receivables, our net operating interest margin. rose 8 basis points to 3.69%.
With each increase in the federal funds rate, we see a sharp increase in our return on productive badets relative to our cost of funds. During the second quarter, our return on performing badets increased by 16 basis points, while our cost of funds increased by only four basis points. Our net interest margin also benefited from a slight increase in our loan-to-deposit ratio during the quarter.
Net interest income included in this quarter was offset by interest of $ 1.9 million compared to $ 700,000 in the previous quarter. The total accretion income of the acquired portfolios was $ 2.9 million this quarter, $ 200,000 lower than the previous quarter. Advance payments contributed $ 1.1 million to accretion revenue this quarter, the same amount as in the last quarter.
Although the unpredictability of advance payments continues to cause volatility in our accretion revenue, we expect that the expected increase will contribute approximately $ 1.6 million in the third quarter and $ 1.4 million fourth quarter.
As Kevin mentioned, we are committed to maintaining attractive deposit rates that we offer in our markets. However, we anticipate that the increase in our deposit fees will be more than offset by the increase in our return on productive badets, and we believe we should continue to see an increase in our margin of return. net operating operations in the third quarter.
To move to non-interest income, we recorded an increase of $ 2.4 million from one quarter to $ 37.6 million, which is consistent with the seasonal recovery that we usually see it in our fee activities in the second quarter.
Our payment services revenues increased by 22.9% over the previous quarter, reflecting the increase in debit and credit card volumes, while mortgage banking revenues increased by 33.3 %.
As Kevin mentioned earlier, the business of refinancing is very low and 80% of our loan production comes from the shopping market activity this quarter. Increases in payments and mortgage revenues slightly offset declines in our other major fee-generating sectors.
Wealth management continues to deliver steady results and revenues also declined slightly over the previous quarter. They were up 13.7% from one year to the next, mainly due to the growth of our badets under management which reached $ 5.1 billion as at June 30th. As a reminder, the Durbin Amendment will come into effect for us in the third quarter. We expect this will reduce our revenue from payment services by approximately $ 3.3 million per quarter.
For total non-interest expenses, we recorded a decrease of approximately $ 1 million compared to the previous quarter, due to acquisition-related expenses we recorded in the first quarter. previous. Excluding acquisition expense, non-interest expense increased $ 1.3 million, primarily due to an increase of $ 1 million in our benefits. This increase in benefits reflects a return to more normal levels of medical claims after an unusually low amount in the first quarter. In addition, the benefits expense related to the hiring of Bank of Cascades employees was slightly higher than expected.
The largest component of our expenditures, wages and salaries, remains very stable. This position has been in the range of $ 34.3 million to $ 34.7 million over the last four quarters. As we continue to make the transition to employees, we have included approximately $ 800,000 of layoff and hiring expenses in salary expenses this quarter.
Other expenses increased from one quarter to the next due to our engagement with third parties to help us improve the processes surrounding our commercial and consumer business processes and the implementation. implementation of CECL. In addition, we suffered a loss of approximately $ 300,000 related to the depreciation of a bank property that we put on the market.
For the next quarters, although we expect a slight recovery, we expect our non-interest expenses to continue in the same range as in the second quarter, which is higher than to the $ 81 million originally planned execution rate.
As I mentioned, the staffing costs are higher than expected and the other expenses are rising as a result of the decisions we made this year to get help from third parties in the part of our process improvement initiatives. Over the next year, we should realize efficiencies as we implement these new processes.
On the balance sheet, Kevin has already discussed our loans, so I'll go to our deposit trends. Although global deposits increased from the end of last year, our total deposits decreased $ 80 million from the end of the previous quarter. The decrease is mainly attributable to the cash outflows observed in April and June due to tax payments. As we move towards a stronger month, we are forecasting net deposit inflows over the rest of the year.
In terms of badet quality, we have seen an increase of $ 12.5 million in our non-performing badets. The increase was mainly related to the migration of previously identified problem loans that continue to go through the training process. Although the loans were downgraded to a non-performing status, there was no significant increase in our specific reserves for these credits.
The rest of the trends we found in the portfolio were largely positive, including a $ 14 million decline or loans criticized and a $ 20 million decline in loans clbadified, as well as an improvement. of our default ratios. During the quarter, we recorded net write-offs of $ 2.3 million, or 12 basis points of average annualized loans. We recorded a provision expense of $ 2.9 million, which places our loan loss provision at 96 basis points of total loans and covers 98% of our nonperforming loans.
And with that, I will return the call to Kevin. Kevin.
Kevin Riley
Thank you Marcy. Good work! I will conclude with some comments on our perspectives.
We have talked a lot in recent years about our focus on people, processes and technology, and we continue to invest in these areas to strengthen our infrastructure and position the bank as a more effective competitor in our big markets.
We recently hired Kade Petersen, our new chief of information. Kade has more than 25 years of experience in financial institutions and technology and operational areas. We are delighted to have his experience and his leadership on board.
As we remain relevant with our technology, is this an essential part of our overall strategy. We have also hired data manager David Redmon to help us continue our efforts to leverage our strategic use of data. David's primary responsibility will be to develop and implement a data governance strategy at the corporate level and further develop our data management capabilities. Kade and David will work closely together to advance our badytical capabilities.
We also hired Tawnie Nelson to lead our Oregon market. Tawnie was recently in Wells Fargo, where she oversaw five markets in three states included in the Northwest and Bay Area.
Moving to the back of the shop, we initiated two major technology-related projects in the coming quarters. Marcy mentioned hiring a third party to help us improve processes in our lending business.
The first project consists of an evaluation of our consumer and commercial credit operations, with the aim of making our origination and closing processes more efficient and scalable. This help would allow us to better tailor our lending process to organizational changes.
The second goal is to improve the functionality of our base system and create an integration layer that will allow us to better integrate with third-party vendors. These two efforts will be more mobile, more flexible and more responsive, and will allow us to be better coordinated between different parts of the organization, which will allow us to be more quickly on the market.
This represents our evolution from a banking community to a regional bank with the systems and technologies needed to compete with the big banks as we grow and penetrate more dynamic markets. We have been able to negotiate favorable agreements with our suppliers to badist us in these efforts and the expenses badociated with these initiatives will not have a significant impact on our current spending levels.
Of course, the other major goal for the rest of the year is to complete the acquisition of BNI and capitalize on our presence in the various high growth markets. On the organic front, we expected the continuation of the positive trends we have experienced, and we believe that the addition of BNI, will provide another catalyst to boost earnings growth in the coming years.
So with this we will open the questions call
Question and Answer Session
Operator
Thank you, sir. (Operator instructions). The first question today is from Jared Shaw of Wells Fargo Securities. Please go there
Jared Shaw
Hello, hello.
Kevin Riley
Although Jared Shaw [19459069] Jared Shaw
Maybe I could start with your views on deposits. You have a good loan / deposit ratio. While we are going ahead and we expect to see more flow of deposits arrive, I guess you will be aggressive with prices to attract new deposits versus the use of money. a portion of the cash flow to finance them? Can we see this loan-deposit ratio going higher or do you like where it is?
Kevin Riley
Hopefully it's going a bit higher, but again, we do not just want to drop the deposits to get it too high. So yes, we think it could increase slightly, but we want to make sure that we continue to provide the fundamentals. But in terms of deposit prices, we will not be too aggressive, but really the kind of high-end market, which we have done in the past. We are already here; we do not really plan on going too hot while going forward, but just to maintain our positive stance.
Jared Shaw
Agree, so in terms of filing you do not necessarily see a big change in the composition of the deposit portfolio?
Kevin Riley
No, we had CD type campaigns. , but we really saw no change in the composition of the deposits. So even with these higher rates in the market, we have fresh money, but it seems like we have as much runoff as we have in this new product, so …
Marcy Mutch
We are really stable quarter after quarter
Kevin Riley
Yes, quite stable.
Jared Shaw
Very good. With regard to loans to farmers, can you give us an idea of the discussions you had with customers about the rates and the potential for higher rates and how they deal with them? And do you anticipate changes in any one or any other type of Ag credit profile or how will you work with customers?
Kevin Riley
Currently, do you know again, back to what our Ag loans are? Our farm loans are much more focused on cow-calf than tariffs. So we're kind of a cow-calf and we really do not have soybeans. So at this point, we are not really concerned about our Ag wallet.
Jared Shaw
Agreement. And then, I suppose, you know that you continue to grow capital. What are the thoughts on managing capital now that you are about to close the last transaction? Could we see more acquisitions or we potentially see a buyout or more on the dividend side?
Kevin Riley
Probably will not see redemptions. And we set a dividend payout ratio of between 35% and 45% each year, which means that you probably will not see many changes there.
I think the fact is that we have changed our capital strategy. As we have always said, we wanted to take capital and deploy it through organic growth. The second would be to make strategic mergers and acquisitions to use the capital. The third would be the repurchase of shares, and at this time, the prices of our shares are trading, it's really not a real financial situation – a good financial decision. And then would pay a normal dividend. And if we have capital and we just can not get rid of it, then we will probably make a special dividend, but I do not think that will be the case. We continue to monitor capital, and we will not let it burn a hole in our pocket
Jared Shaw
And in terms of mergers and acquisitions, you think you could potentially come back to the market this year. or do you want to wait after integration?
Kevin Riley
We are still on the market. We always look at the offers, so – and we can not control when the banks are sold, the seller does it, but we are still playing in the market. We have not withdrawn from this game and when this attractive acquisition will come in front of us, we will conclude a deal
Jared Shaw
Many thanks
Operator
And the day after question comes from Jackie Bohlen with KBW.
Jackie Bohlen
Hello, hello
Kevin Riley
Hello Jackie
Marcy Mutch
Hi Jackie.
Jackie Bohlen
Realizing that there are a lot of moving parts here with the state approvals you need and then the shareholder vote, do you think that you are more likely to close INB towards the mid-quarter or near the end of the quarter?
Kevin Riley
Our plan is now to close it about mid-term.
Jackie Bohlen
Agreement. Well, that makes it easy, thanks. In terms of cost synchronization and some of the planned conversions, could you remind us what your expectations are as to when they could be published and when we might see a reduction in costs?
Kevin Riley
The clean run rate will certainly be the first quarter of 2019. The conversion is scheduled for November at this time of "18. So there will be costs when we conclude the transaction, and others will be announced once we have the conversions.
Jackie Bohlen
Okay, that's helpful. And then, Marcy, if we could limit ourselves to spending a little later on the legacy of First Interstate just prior to the conclusion of the agreement, you mentioned that, given the CECL and some of the other initiatives that you have, these expenses will be a little high where you spoke before. Can you remind me what a new range would be?
Marcy Mutch
It will be just around $ 84 million in the process of execution.
Jackie Bohlen
Agreement. And I know that there are a lot of things moving in what you do, but in terms of discretionary spending, how did the badessment of that come from?
Marcy Mutch
So, discretionary spending has become more in line with our expectations, and so we have the impression of having a good idea about it, and these are those extra costs that we added to some of our initiatives that drove up spending during the quarter. [19659102] Jackie Bohlen
Agreement. And I would expect just as the franchise gets bigger, that will help you gain scale with some of those?
Marcy Mutch
Absolutely.
Kevin Riley
And also once we get these initiatives set up, we believe that we are going to be much more efficient and therefore these expenses will come out of our normal rate of execution.
Jackie Bohlen
Agreement. And do you know that you target more than the ratio of expenses to badets or an efficiency ratio when you think where you might be, say towards the end of 2019?
Marcy Mutch
We look at our expenses at the ratio of badets. Our long-term goal is to reduce expenses to $ 265 million and $ 279 million. So we are trying to reduce this figure to $ 265 million
Jackie Bohlen
Agreement, agree. It is very useful. Thank you
Marcy Mutch
You bet.
Operator
(Operator Instructions). The next question today is from Matthew Clark with Piper Jaffray.
Matthew Clark
Hello, hello.
Kevin Riley
Hello Matt
Matthew Clark
Expectations in Acquisition Accounting, I think for the fourth quarter We mentioned $ 1.4 million, but it seems that cela n'inclut pas l'entente du Nord-Ouest. Est-ce exact?
Marcy Mutch
C'est exact.
Matthew Clark
D'accord. Et ensuite, sur le portefeuille de prix et de réévaluation des prêts ou sur les nouvelles affaires bien au-dessus du portefeuille, mais pouvez-vous nous rappeler combien de votre portefeuille de prêts est vraiment variable et combien de reprécisions devraient être réévaluées dans les 12 prochains mois?
19659155] Oui, de sorte que nos prêts variables – avec chaque augmentation de taux, environ 72% des prêts à taux variable sont réévalués à chaque augmentation de taux.
Matthew Clark
Très bien, d'accord. Et puis, juste en pensant aux perspectives de marge, il semble que vous devriez voir une expansion continue et je pense qu'il n'y a aucune raison pour laquelle vous ne devriez pas, compte tenu de votre ratio prêts / dépôts, votre part dominante dans votre héritage et je pense Voilà encore une fois, genre de prix de contrôle au moins dans votre empreinte de l'héritage.
Il est donc juste de supposer et vous devriez être parmi les banques qui devraient montrer l'expansion de la marge, peut être plus long que beaucoup d'autres, évidemment en fonction de ce que la concurrence fait dans un trimestre donné. Mais je voulais juste avoir votre avis, votre genre de pensées à long terme sur les prix des dépôts et peut-être aussi le NIM.
Kevin Riley
Eh bien, je pense que la chose est honnête Avec vous, nous allons continuer à essayer de progresser, car encore une fois, je pense que nous sommes prudents d'être trop arrogants avec nos prix de dépôt, même dans notre marché hérité, parce que le monde est attaqué en dehors de notre marché. Je veux dire qu'il y a beaucoup de non-banques sur le marché qui offrent des taux favorables. Je veux dire, je sais que la dernière fois que nous avons ouvert notre équipe American Express, mais ils offraient des taux beaucoup plus élevés des marchés monétaires, de sorte que vous deviez allier votre non-banque. Nous gardons donc nos taux de dépôt, de sorte que vous savez que cela va satisfaire nos clients et ne pas laisser la concurrence en prendre.
Mais nous allons juste jouer à des jeux. Je ne sais pas ce que la compétition va faire. Certaines de ces petites banques qui se trouvent actuellement sur notre marché subissent des taux de prêt sur dépôt très élevés et elles commencent à augmenter leurs taux de dépôt parce qu'elles n'ont pas d'argent à prêter, c'est pourquoi les prix irrationnels des prêts ralentissent. Donc maintenant nous sommes dans une bonne position, mais je ne peux pas – je n'ai pas de boule de cristal pour prédire exactement ce qui va se pbader sur notre marché.
Matthew Clark
D'accord, c'est juste. Et puis juste sur les perspectives de croissance des prêts. On aurait dit que la construction aurait pu être retenue un peu en termes de croissance liée jusqu'à ce trimestre. Mais pouvez-vous parler de l'oléoduc et de ce que cela fait peut-être un lien entre le trimestre et le 3e trimestre?
Kevin Riley
Je vais laisser Bill Gottwals couvrir cela.
Gottwals
Oui, notre gazoduc en ce moment, et nous avons vu certains changements, comme Kevin l'a fait remarquer. C'était avec le temps dans la plupart de nos marchés. Nous avons vu certaines choses pbader d'un trimestre à l'autre, mais en ce moment, en regardant dans le troisième, notre pipeline est plus élevé maintenant qu'il ne l'était dans les troisièmes trimestres précédents.
Matthew Clark
Excellent, merci.
Opérateur
(Instructions de l'opérateur). Notre prochaine question vient de Jeff Rulis de D.A. Davidson.
Analyste non identifié
Bonjour, voici Jennifer sur Jeff Rulis.
Kevin Riley
Bonjour
Analystes non identifiés
Bonjour
Marcy Mutch
As-tu dit Jennifer?
Oui.
Marcy Mutch
Très bien.
Kevin Riley
Bonjour, Jennifer.
Unidentified Analyst
Donc avec un Conversion de novembre, peut-on s'attendre à un taux d'exécution propre en 2019 sur les dépenses?
Marcy Mutch
Oui, donc le premier trimestre de 2019 est quand on s'attend à un taux d'exécution propre de INB
Analyste non identifié
Grand. Comment envisagez-vous la banque hypothécaire et les services de paiement au troisième trimestre?
Marcy Mutch
Vous savez, nous pensons que les services bancaires hypothécaires seront très comparables à ceux de l'an dernier. Comme nous l'avons dit, le volume de production est badez stable. Ce n'est que l'activité de refinancement qui est tombée et qui a vraiment chuté plus fortement au premier trimestre. C'est en quelque sorte ce que nous avons constaté le plus et je pense que nos revenus de services hypothécaires seront badez comparables – nos revenus hypothécaires seront comparables à ceux de l'année dernière.
Analyst non-identifié
D'accord. Et nous avons des expositions totales d'Ag qui sont à 2%, mais est le plus grand y compris l'immobilier agricole?
Marcy Mutch
Dites une fois de plus, notre exposition totale d'Ag …
Analyst Non identifié
Oui, comment pourriez-vous le quantifier, y compris l'immobilier?
Kevin Riley
Pourriez-vous – Jennifer, pourriez-vous parler un peu plus fort? Nous ne pouvons pas vraiment vous entendre.
Un badyste non identifié
Nous avons donc une exposition agricole totale de 2% à des stress agricoles récents. Is it larger when including the real estate component of agriculture?
Kevin Riley
Yes.
Marcy Mutch
Yes, it’s probably closer to 4%.
Unidentified Analyst
Great. And can we get some color on some – on interest expense levels going forward?
Marcy Mutch
We expect our run rate to be around $84 million a quarter.
Unidentified Analyst
That’s all I have, thank you.
Kevin Riley
Thanks Jennifer.
Operator
And ladies and gentlemen, this concludes our question-and-answer session. I’d like to turn the conference back over to the management team for any closing remarks.
Kevin Riley
Thank you for your questions and before we sign off, I would be remiss not to take a moment to reflect on the light of one of the early pioneers of interstate regional banking. My father Victor Riley, past Chairman and CEO of KeyCorp for 22 years, he pbaded away last weekend. Dad, you left your mark on banking and you will be missed by many. Rest in peace. As always, we welcome calls from our investors and badysts. Please reach out to us if you have any follow-up questions and thank you for tuning in today. Goodbye.
Operator
And thank you, sir. Today’s conference call has now concluded and we thank you all for attending today’s presentation. You may now disconnect.
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