FIBK

Business Context and Reporting Period

Company: First Interstate BancSystem, Inc.
Filing Type: Form 10-Q (Unaudited)
Period Ended: March 31, 2009
Business Overview: The Company operates as a community banking segment offering commercial and consumer banking services in Montana, Wyoming, and South Dakota. In December 2008, the Company sold its technology services subsidiary, i_Tech, and now operates as a single segment. The Company is a non-accelerated filer.

Key Financial Metrics

Capital Ratios (Consolidated): Tier 1 Risk-Based Capital: 9.98% (vs. 8.57% at Dec 31, 2008); Total Risk-Based Capital: 11.90% (vs. 10.49% at Dec 31, 2008). The increase is partly due to a regulatory change effective Jan 2009 allowing goodwill deduction adjustments.

Material Changes vs. Prior Period

• Profitability: Net income available to common shareholders decreased 8.5% to $15.8 million compared to $17.3 million in Q1 2008. Diluted EPS declined to $1.98 from $2.14.
• Asset Quality Deterioration: Non-performing loans increased 14.0% to $103.7 million (2.19% of total loans) from $90.9 million at year-end 2008. This was driven by deterioration in real estate development loans. Other Real Estate Owned (OREO) surged 209.5% to $18.6 million.
• Provision for Loan Losses: The provision increased significantly to $9.6 million (from $2.4 million in Q1 2008) to reflect the impact of the recession and rising non-performing assets.
• Non-Interest Income: Decreased 1.6% to $25.9 million. This was due to the loss of technology services revenue following the sale of i_Tech, partially offset by a 202.8% increase in income from the origination and sale of loans ($10.2 million) driven by lower interest rates stimulating refinancing.
• Non-Interest Expense: Decreased 5.6% to $50.2 million. Savings in salaries and equipment were offset by a $1.6 million increase in FDIC insurance premiums and higher outsourced technology costs.
• Liquidity: Total deposits grew 5.3% to $5.45 billion, with a shift from non-interest bearing to higher-cost savings and time deposits. Repurchase agreements decreased 26.0%.

Guidance, Outlook, Risks, and Unusual Items

• Capital Management: In response to the recession, the Company reduced its common stock dividend to $0.45 per share (down $0.20) and limited stock repurchases. The Company was approved for the TARP Capital Purchase Program but elected not to participate.
• Covenant Violation: As of March 31, 2009, the Company was in violation of a financial performance covenant related to non-performing assets under a syndicated credit agreement ($41 million outstanding). Management expects to obtain a waiver; failure to do so could result in acceleration of debt.
• Outlook: Management expects the level of problem loans to continue to increase in 2009 due to weak economic conditions in Montana, Wyoming, and South Dakota. The Company anticipates further increases in FDIC assessments.
• Unusual Items: Q1 2008 included one-time gains of $1.6 million on Visa stock redemption and $1.1 million from escrow releases, which are not present in Q1 2009. Q1 2009 included a $2.8 million reversal of impairment on mortgage servicing rights.

Investor Verification Checklist

• Covenant Status: Verify the status of the waiver for the syndicated credit agreement covenant violation regarding non-performing assets.
• Asset Quality Trends: Monitor the trajectory of non-performing loans and OREO, specifically in the real estate development sector, which drove the increase in provisions.
• FDIC Assessments: Review the impact of the new FDIC assessment rules and potential emergency special assessments on future non-interest expenses.
• Capital Strategy: Assess the Company's decision to decline TARP participation and its alternative plans for capital preservation and growth.
• Loan Portfolio Mix: Analyze the shift in deposit mix toward higher-cost funds and its impact on the net interest margin (which compressed 17 basis points).