First Interstate BancSystem, Inc. — Q3 2020 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2020. First Interstate is a Montana-based bank holding company operating 150 banking offices across six states, alongside internet and mobile banking services. Amounts are in millions of dollars unless noted.
Financial performance and condition
- Revenue: Net interest income plus non-interest income was $167.7 in Q3, up 2.4% from $163.7 a year earlier; for the first nine months it was $491.4, up 3.6% from $474.3.
- Profit: Q3 net income was $48.3, down from $49.1; diluted EPS was $0.76, unchanged. Nine-month net income was $114.3 versus $128.6, and diluted EPS was $1.78 versus $2.03.
- Margins and interest: Net interest income was $123.0 in Q3, down 2.0%, and $368.6 for nine months, up 0.5%. Fully taxable-equivalent net interest margin fell to 3.29% from 3.93% in Q3 and to 3.55% from 4.01% for nine months. Lower asset yields, including the effect of Federal Reserve rate cuts, PPP loan balances and higher cash holdings, weighed on margin; lower deposit costs partly offset the pressure.
- Credit costs: Provision for credit losses was $5.2 in Q3 versus $2.6; nine-month provision was $53.7 versus $10.1. The loan allowance was $145.5, or 1.43% of loans, at September 30, compared with $73.0, or 0.82%, at year-end 2019. The increase reflects CECL adoption and economic uncertainty; the allowance excludes reserves on SBA-guaranteed PPP loans.
- Non-interest items: Q3 non-interest income rose 17.0% to $44.7, led by mortgage banking and client derivative fees. Nine-month non-interest expense declined 2.7% to $290.1, mainly because acquisition-related costs fell by $19.6; Q3 expense increased 2.9% to $99.5. Mortgage servicing impairment was $1.4 in Q3 and $9.8 for nine months.
- Balance sheet and liquidity: Assets were $17,069.5, up 16.6% from year-end 2019. Loans held for investment, net of deferred fees and costs, were $10,152.2, up 13.7%; deposits were $13,882.4, up 19.0%. Cash and cash equivalents totaled $1,860.6, versus $1,076.8 at year-end. Management said it knew of no events reasonably likely to materially impair liquidity, capital resources or operations.
- Cash flow: For nine months, operating activities provided $162.8, investing activities used $1,636.1, and financing activities provided $2,257.1, resulting in a $783.8 increase in cash and cash equivalents.
- Debt and capital: Long-term debt was $112.4 versus $13.9 at year-end; the company issued $100.0 of subordinated notes in May, due in 2030. It also had $87.0 of subordinated debentures held by subsidiary trusts. At September 30, consolidated total risk-based capital was 14.45% and common equity tier 1 was 11.80%; the company reported capital above applicable requirements.
- Asset quality: Non-performing loans were $54.4, or 0.54% of loans, versus $48.6 and 0.54% at year-end. Non-performing assets were $60.1 versus $57.1 at year-end and $74.9 a year earlier.
Material changes and notable developments
- The company adopted CECL on January 1, 2020, recording a $24.1 after-tax reduction to retained earnings. Prior-year periods were not restated, so credit-loss comparisons are affected by the accounting change.
- First Interstate approved approximately 11,700 PPP applications totaling $1.2 billion. PPP lending contributed $10.6 of Q3 and $19.2 of nine-month interest income. Loan growth and higher deposits were substantially associated with PPP activity and related client cash balances.
- Stockholders’ equity declined to $1,977.6 from $2,013.9 at year-end, reflecting repurchases, dividends and CECL adoption, partly offset by earnings and other comprehensive income. The company repurchased 2.5 million shares for $77.5 during the first nine months; 3.0 million shares remained authorized at September 30.
- Available-for-sale securities had $61.9 of net unrealized gains recorded in accumulated other comprehensive income, compared with $11.0 at year-end.
Outlook, risks and contingencies
- The filing provides no specific earnings or revenue guidance. Management said COVID-19’s effects remain uncertain and will depend on the pandemic, economic conditions, government responses and borrower performance.
- As of October 30, approximately 325 loans totaling $47.5 remained on deferral; about 26.4% of the outstanding balance had made a payment during the deferral period. The company also had forbearance on approximately 28 residential mortgage loans totaling $6.6.
- Key risks include potential deterioration in borrowers’ ability to repay, higher credit losses and allowance needs, low interest rates and margin pressure, deposit or liquidity changes, pandemic-related operating disruption, and uncertainty around government support. The company stated it had no pandemic business-interruption insurance.
- Management reported no material change in legal proceedings and did not expect other claims and litigation to materially affect financial condition, results or liquidity. Commitments included $10.6 under construction contracts and $1.1 of residential mortgage loans with recourse provisions still in effect.
- On October 26, 2020, the board declared a $0.38-per-share quarterly dividend, payable November 16 to shareholders of record November 6.
Investor verification priorities
- Assess the quality and sustainability of loan and deposit growth apart from PPP-related balances, including expected PPP forgiveness and runoff.
- Review CECL assumptions, economic forecasts and allowance adequacy, particularly given pandemic uncertainty and the year-over-year change in provision expense.
- Track margin trends as low asset yields, elevated cash balances and PPP lending interact with deposit-cost reductions.
- Monitor deferred and forborne loans, criticized credits, non-performing assets and charge-offs for signs of broader borrower stress.
- Evaluate liquidity, capital and shareholder distributions in light of repurchases, dividends, the new subordinated debt and potential future credit losses.