Jan 30, 2014
Executives
Marcy Mutch – IR Officer Ed Garding – President and CEO Kevin Riley – EVP and CFO Bob Cerkovnik – SVP and Chief Credit Officer
Analysts
Jeff Rulis – D.A. Davidson Matthew Keating – Barclays Brad Milsaps – Sandler O’Neill Tim Coffey – FIG Partners Jackie Chimera – KBW
Operator
Good morning and welcome to the First Interstate Bancsystem Inc. fourth quarter 2013 earnings conference call.
All participants will be in listen-only mode. (Operator instructions) After today’s presentation there will be an opportunity to ask questions.
(Operator instructions) Please note that this event is being recorded. Now, I would like to turn the conference over to Ms.
Marcy Mutch, Investor Relations Officer. Ms.
Mutch, please go ahead.
Marcy Mutch
Thanks, Keith [ph]. Good morning.
Thank you for joining us for our fourth quarter earnings conference call. As we begin, I’d like to direct all listeners to the cautionary note regarding forward-looking statements and factors that could affect future results in our most recently filed Forms 10-Q and 10-K.
Relevant factors that could cause actual results to differ materially from any forward-looking statements are listed in the earnings release and in our SEC filings. The company does not instantly correct or update any of the forward-looking statements made today.
Joining us from management this morning are Ed Garding, our Chief Executive Officer; and Kevin Riley, our Chief Financial Officer, along with other members of our management team. At this time, I’d like to turn the call over to Ed Garding.
Ed?
Ed Garding
Thanks, Marcy, and thanks again to all of you for joining us. Yesterday, we reported the highest annual level of earnings in the history of our company at just over $86 million or $1.96 per share.
Our quarterly earnings were $20.8 million or $0.47 per share. We have many reasons to be pleased with our 2013 performance.
Our return on average assets for the year is 1.16; it’s great to have that ratio above 1% again. Our return-on-equity was just over 11%.
Going forward, we continue to seek ways to deploy our capital in order to maintain higher levels of return, so in addition to reporting another solid quarter, we announced a 14% increase in our dividend to $0.16 per share. We’re beginning to see some loan growth, however, as typical, loan growth slowed in the fourth quarter in addition to our normal seasonal slowing.
We had that below zero weather for a big part of the fourth quarter and that slowed things further. The only good part about that was that in Montana we’re fairly used to the below zero weather but this year we were able to share that with all the rest of you.
Back to loan growth anyway, total loans grew approximately 3% in 2013. Our construction portfolio continued to increase each quarter this year, which is indicative of improvement in our economies and allows us to be optimistic going forward.
Our indirect portfolio grew 9% in 2013. This portfolio performs very well and has a net charge off rate of only 19 basis points, well below the national average.
All credit quality metrics have improved over the year while we communicated early in 2013 that we hoped to reduce non-performing assets by 30% this year, we missed this goal but did have a significant reduction from last year of 21%. Non-performing assets are now at 1.40% of total assets, a 37 basis point reduction over 2012.
At this point I’d like to have Kevin Riley go over the financial statements with you, then I’ll come back and touch on our economy and some other 2013 highlights. So, Kevin, I’ll turn the call over to you.
Kevin Riley
Thanks, Ed, and good morning everyone. I’d like to start off with the balance sheet.
Earnings assets were up for both last quarter and from the fourth quarter of 2012. On a linked quarterly basis, our loan portfolio was up $24 million, which excluded loans held for sale.
A $41 million growth we saw in our real-estate lending area which was offset by a decrease in ag and consumer loans. The decline in ag loans was expected and these lines typically paid down during this time of year as cattle are sold and crops are harvested.
The invested portfolio continues to make of about 31% of our average earning assets. Our emphasis there is to continue to keep our duration short and it currently stands at 3.7 years, as we position ourselves to take advantage of opportunities when rates start to rise.
Our non-earning assets are moving in the right direction which is down from last quarter and from the fourth quarter of 2012. Most of this change can be attributed to the decline in our other real-estate owned which decreased to 16% decrease from the third quarter and a 52% decrease from a year ago.
On the liability side, our average deposits this year have fluctuated a little from quarter to quarter. We started a year with the first two quarters posting declines, but then in the third and fourth quarter, we saw posted increases.
All in all, we saw a 1.7% decline in deposits for the year. The shipped out [ph] time deposits and the savings [ph] and [indiscernible] accounts continue throughout the year as customers were hesitant to tie their money in certificates of deposit in this low-rate environment.
Our capital levels remain strong where our leverage ratio at just over 10% and our total risk-based capital at 16.75%. Our return on average equity for the quarter was 10.31% and 11.05% for the year.
We continue to look for opportunities to deploy our excess capital where organic growth always being our preferred route and as Ed mentioned earlier, we did increase our dividend to our shareholder. We’ve also put in place a stock repurchase plan and as we stated before we’re always looking at M&A opportunities that would complement our franchise and that could be acquired for the right price.
Moving in to the income statement, net interest income was up for the fourth quarter as average loan yields improve 6 basis points quarter over quarter and our cost of funds decline. In a year where we expected our net interest margin to decline a few basis points each quarter, we were encouraged that our net interest margin was down only 3 basis points from the fourth quarter of last year.
At 3.52%, our net interest margin was stable from the third to the fourth quarter. Negative provisions for loan losses have had a positive impact on our net income for the quarter and for the year.
Improvements in asset quality has helped drive the reversal this quarter. Although historically, income from real-estate loan originations would be down in the fourth quarter, we were a little disappointed at the level of decline.
We like to blame this on the polar vortex that seems to be sweeping the country but we don’t think that had a substantial impact. On the bright side, new home production remains strong and as refinancing volume has fallen off we are focused on increasing our market share, our purchase activity of which we saw the volume increase year over year by approximately 20%.
Wealth management revenues increased this quarter concerning the third quarter adjustment for the one-time insurance premiums we had mentioned last quarter. Our service charge and commissions and fees continued to grow and Ed will discuss some of the drivers behind that growth in just a few minutes.
We also recently purchased $60 million in bank-owned life insurance which will have a positive impact on our non-interest income and will help partially offset the decline we anticipate in our real-estate income. There are few key drivers behind the increase in non-interest expense this quarter.
A record level of earnings led to an increase in our incentive compensation accrual. Also in order to help move out some of other real estate, we took an additional $1 million write-down.
Other miscellaneous expenses like marketing and professional fees were higher than anticipated, but when looking back to last year, this appears to be a seasonal trend. Let’s look ahead to 2014.
Encouraged by the fact that our average loan and investment portfolio yields increased this quarter, we are optimistic that the net interest margin will not deteriorate more than a few basis points. With any increase in loan growth, our net interest income should improve nicely next year.
We anticipate net charge offs to be about 25 basis points of total loans, and with continued improvement in asset quality, our provisioning might be somewhat less than that. As far as non-interest income, we know that mortgage origination revenue won’t be what it used to be so our focus is on other levers we can pull to minimize the impact of this loss revenue.
In regards to non-interest expense, we do not believe the fourth quarter was indicative of the run rate going forward, so we anticipate non-interest expense to be in the area of 2.8% to 2.9% of total assets. I’d like to wrap up by saying, what I’ve seen in my first six months is very encouraging.
We have a strong bank, a strong capital, our footprint is healthy, and we have a great team of employees. I think the future is bright out here in the west.
And with that, I’d turn the call back over to Ed.
Ed Garding
Thanks, Kevin. I’d like to just touch on our economies for a minute.
Unemployment continues to decrease, and is 5% or below in each of the states in which we do business. As you all know, that is at or near full employment levels.
A lot of that can be attributed to the jobs that have been created over the Bakken oil field. We’re seeing housing starts back to the pre-recession levels in some of our largest market areas.
And with the 5% growth we saw in construction real estate portfolio in 2013, we’re optimistic the commercial and residential construction growth will continue. Tourism has been strong particularly this winter.
Snowfall in December has helped our ski resort areas particularly in Montana, kicked off the season, and they’re having a good year. Back to the bank, wealth management continues to grow, and assets under management have increased 17% each of the last two years.
We still see potential for growth in this area, both within our current customer base, and through attracting new customers. One of the reasons we’re so optimistic about the growth potential is because we’re seeing quite a bit of wealth created in some of our markets because of the Bakken energy play.
We continue to expand our credit card business. New cards issued, and card volume both went up 8% this year.
We entered into an exclusive agreement with MasterCard which has resulted in a better product for our customers and a higher percentage of interchange fee revenue for the bank. We’ve also introduced a new rewards program that is more market focused that allows our customers to spend their rewards – their rewards points, I should say, within their own communities.
Our goal here is to encourage our customers to use their cards more often which will result in increased interchange revenue for the bank. We talked earlier about loan growth and credit quality improvement, and I’d like to expand more on this point.
With the improvement we’ve seen in our classified loan levels over the last year, our lenders will be spending less time cleaning up the loan portfolio, and more time making new loans. To help make that happen, we’ve committed ourselves to leveraging technology to better understand our customers’ needs.
In the past, we’ve operated like a typical small community bank and haven’t used the data our customers have provided us in a meaningful way. In the last few months, we’ve hired staff that understand data mining and are helping us better understand and serve our current customers.
The information that will now be available to our customer-facing employees will allow us to introduce more products based on the relationship we have with that customer and our understanding of their financial goals. Moving on to mortgage activity, with the low interest rates we’ve experienced the last few years, we’ve kept busy and had record levels of volume simply as a result of folks walking in the door and wanting to refinance.
With rising rates and a falloff in the re-fi business, that isn’t the case anymore, we’re in a more normalized mortgage market and expect about 70% or more of our business to come from purchase activity. With that, we’ll see a slow down over the winter months with activity picking up in May through September.
We’ve recently hired an experienced home loans manager to work with our team to create a more robust selling culture. We understand that with most of our business coming from purchase activity, we need to be in the market place meeting with the builders and realtors to continue to grow this business and gain more market share.
In 2014 with the continued reduction and criticized and past due loans, we’re optimistic that we’ll see our non-performing loans down to a more normalized level and further declines in other real estate. While loan growth won’t come easy, we will be working hard to increase our outstanding balances and improve the quality of our portfolio at the same time over the next year.
With that, I’ll open up to questions.
Operator
(Operator Instructions) And the first question comes from Jeff Rulis of D.A. Davidson
Jeff Rulis – D.A. Davidson
Thanks, good morning. Ed, just to kind of follow up on your discussion on the loan growth, it sounds like it’s a bit more optimistic.
I guess, to characterize that, would it be safe to say that you think that ‘14 growth could outstrip the 3% this last year?
Ed Garding
Yes. And by the way, good morning, Jeff.
That’s a real short answer but we’ve been talking about that very subject. And yes, we think we can have growth that will exceed the 2013 growth.
Jeff Rulis – D.A. Davidson
And if that were to – if growth was more modest that you expect, I guess, would this year be a little more of year that you’ll look on the acquisition front, to augment some of that if the growth strategy isn’t really coming together as it – I mean that may not be the reason that you’re looking for acquisitions, but maybe you can give us an update on kind of what you’re seeing out on the acquisition front and your appetite?
Ed Garding
I think we’ll see more opportunities to take a look this year than we saw last year. And kind of similar to what I said about our lenders, now that we’ve got most of the problems behind us, we and senior management will have more time to look at the acquisition trail also.
So that’s certainly isn’t a strategy for loan growth, but it’s something that we’re all thinking about.
Jeff Rulis – D.A. Davidson
Okay. And then one last one on the – I know that you mentioned the focus is going to be on the purchase side on mortgages, but just trying to get a feel for the mortgage loan sale gains going forward.
Is this a bottom, or is that – expect that to kind of continue to trickle lower?
Ed Garding
I’m not sure I understand the question. Are you talking about the...
Jeff Rulis – D.A. Davidson
The gain – sale, line item – what’s the expectation on gain on sale for the mortgage side? I know that you said you want to grow the purchase side, but what’s the gain on sale look in the coming year?
Ed Garding
I can tell you, for the first quarter, it’s going to be less than it has been in the four quarters of 2013.
Jeff Rulis – D.A. Davidson
And the outlook for the year?
Ed Garding
And then yes, and then typically it picks up. The middle two quarters are the most active.
But we’re kind of – we’re following along the lines of the Mortgage Bankers Association in regards to volume dropping off this year. However, we don’t think our volume will drop as much as they are predicting nationally partly because of the economy is pretty strong here.
Again, the influence from the Bakken interestingly is even though we’re 350 miles away in Billings, the influence here in Billings, our biggest market, it’s just been huge. And so partly because of that and partly because we just think we can gain some market share.
Jeff Rulis – D.A. Davidson
Sure, okay. Thanks, Ed.
Operator
Thank you. And the next question comes from Matthew Keating with Barclays.
Matthew Keating – Barclays
Yes. Thank you.
Good morning. Ed, I was hoping you could help me – I know you talked about how job growth and the footprint has remained strong and with encouraging signs of residential and commercial construction.
So maybe if you – if you take those kind of trends, normally you would expect a fairly vibrant loan demand environment. So maybe could you explain some of the factors that have been keeping loan demand somewhat more depressed that you might expect given the levels of economic activity in your footprint?
Ed Garding
Good morning, Matthew. I got to think about this for a minute.
My first thought is that there’s two sides to that loan growth equation. There’s new loans and there’s payments.
And so, we’re continuing to make new loans but that stream of payments is coming in very strong. And that’s a good news story from the stand point of our customers are doing well in repaying us rapidly.
Of course the bad news is it’s hard to maintain growth when that’s happening. So that’s one piece of it.
And the other piece though is that we are seeing quite a few requests that simply don’t meet our standards. And we’re not interested in going back to the issue of spending a great deal of time cleaning up problems.
So, the ones that don’t meet our standards just have to borrow elsewhere.
Matthew Keating – Barclays
Understood, that’s helpful. My next question would be for Kevin.
Kevin, you mentioned the bully purchase that you made, what kind of like the income benefit should we expect from that I guess $60 million purchase you did in the quarter as we look out?
Kevin Riley
Approximately $2.5 million.
Matthew Keating – Barclays
Annualized? Okay.
Okay. That’s helpful.
And then I think you guys mentioned that MTA [ph] should return to more normalized level is your expectation. Are you willing like last year to put a target on the decline or what kind of magnitude of decline or normalized level that you have in mind with that comment?
Ed Garding
I’m going to ask Bob Cerkovnik, our Chief Credit Officer to address that. Go ahead Bob.
Bob Cerkovnik
Matt, I guess the thing that we would want to be a high performing bank; we want to be at 1%, less than 1% of total assets of our non-performing assets.
Matthew Keating – Barclays
Toward by the end of ‘14 is kind of expectations or that would be a target that you’d like to achieve but who knows how things transpire.
Bob Cerkovnik
That’s very much the target we want to achieve.
Matthew Keating – Barclays
Understood. And my follow up question, I’m just curious, I know back in July you gave us a metric.
You may not have it readily available. But I think you said that you had about 15,000 mobile banking customers.
Any update on kind of where that metric trended as we kind of close the year of ‘13?
Ed Garding
19,000, so it continues to grow. And to put that into perspective, our original goal was to have 14,000 signed up by October.
And so, now three or four months after that we’re up to 19,000. So it’s been more robust than we had hoped.
Matthew Keating – Barclays
Very good. Thanks for the color.
Ed Garding
You’re welcome Matt.
Operator
Thank you. Your next question comes from Brad Milsaps for Sandler O’Neill.
Brad Milsaps – Sandler O’Neill
Hey, good morning.
Ed Garding
Good morning Brad.
Brad Milsaps – Sandler O’Neill
Kevin, just a question on – I know you talked the last couple quarters about trying to make the balance sheet more asset sensitive. I know it’s the average liquidity was up again, this quarter on some deposit growth form the last couple quarters.
Just curious what your plans are there? Do you expect some of that to reverse out or do you anticipant maybe going into this portfolio [ph] a little bit more?
Just trying to get a sense of what you’re plans for the additional liquidity would be.
Kevin Riley
Good morning, Brad. To be honest with you we’re trying to keep – to be more – we are a little bit as you know liability sensitive, so we’re trying to stay more asset sensitive.
So at this point we don’t plan on parking that out in the investment portfolio to make that matter worst at all. So I think the liquidity will stay there for a while because we don’t have any plan – yes, have any plans currently right now to put that in the investment portfolio.
Brad Milsaps – Sandler O’Neill
Okay, great. And then just to follow up on the asset quality.
I think I heard you say maybe about 25 basis points of charge offs is what you got to looking for – to ‘14. And you mentioned a lower level of positioning, is it safe to say, we wouldn’t see the negative provisions that we see in the last couple quarters in 2014?
Kevin Riley
We’re not anticipating that but again, it’s all driven by you know, Brad, the accounting aspects. And, Bob does a great job in knocking down asset quality levels to the way he just spoke a few minutes ago.
I’m not going to rule that out.
Brad Milsaps – Sandler O’Neill
Okay. Okay, great, very helpful.
Thank you.
Operator
Thank you. And the next question comes from Tim Coffey with FIG Partners.
Tim Coffey – FIG Partners
Hey, good morning everybody.
Ed Garding
Good morning, Tim.
Tim Coffey – FIG Partners
I just want to clear, the net target of expectation is it – did you say 45 BITs [ph]?
Ed Garding
25.
Kevin Riley
25, yes.
Tim Coffey – FIG Partners
25, okay, okay, that’s what I thought. Alright, given kind of what we’re seeing in terms of any expectations for long growth in the asset growth [ph], how do you plan on targeting or improving efficiencies in the next year or two?
Ed Garding
We have a long-term initiative for operating efficiency or we’re calling it process improvement. And I can tell you that that it’s not about cost cutting as much as people like to see a cost cutting measure.
We think we’d rather concentrate on process improvement so to speak. The idea being we’d like to do more business with more customers with the same number of FTEs.
And we think process improvement is the way to do that. So some of that includes lean six sigma training which we’ve been doing for over a year, and we’ve actually created a Process Improvement Department, we’ve got four people staffing that department right now, and that’s fairly new but that is all they’re going to do across the company for the foreseeable future.
Tim Coffey – FIG Partners
Okay. Okay.
Yes, I know you’ve talked about that in previous quarters. And then what were the non-interest expense line item, other expenses that may book [ph] this quarter?
Ed Garding
Kevin, would you answer that one?
Kevin Riley
Yes. We had some – that time of year, some of the travel in [ph] our team and it’s a little higher than we anticipated.
Some marketing expenses a little higher than anticipated with some initiatives being. So there were just some kind of seasonal expenses that a little higher than we anticipated in that other expense category.
Again, nothing that we anticipate that will continue at that rate going forward on a quarterly basis.
Tim Coffey – FIG Partners
Okay. Okay.
And in terms of efficiency ratio going forward, is it fair to expect that the efficiency ratio stays at 65% or lower?
Kevin Riley
Hopefully lower than that Tim.
Tim Coffey – FIG Partners
Okay. All right, well, those are all my questions.
Thank you.
Ed Garding
Thank you, Tim.
Operator
Thank you. (Operator instructions) And the next question comes from Jackie Chimera with KBW.
Jackie Chimera – KBW
Hi, good morning everyone.
Ed Garding
Good morning, Jackie.
Jackie Chimera – KBW
Just thinking about mortgage gain on sale [ph] and then the portfolio of those loans rather than sale of them. I know right now you’re looking at the 15 years as to what you’re putting in the portfolio book.
Is there a point where you might be more interested in portfolio – in putting more longer term loans into the portfolio?
Ed Garding
The short answer is no. And we’re actually putting fewer of the fifteens [ph] in the portfolio than we were a year ago.
Obviously the interest rate risk weighs heavily. And so, we don’t want to load up anymore with long-term fix rate.
Jackie Chimera – KBW
Is that a function of just not wanting that long-term fix rate in the portfolio or is it more just where we are in the rate cycle, so once rate increased you can book to increase those mortgages more?
Ed Garding
It’s more a function of the first that we just don’t want long-term fix rate in the portfolio. It’s not so much about where rates are today.
Jackie Chimera – KBW
Okay. Do you have an ideal mix of where you’d like to see the single family loans from an exposure stand point?
Ed Garding
Yes, I do. And Marcy, keeps telling that I’m not supposed to reveal that, is that true Marcy?
Jackie Chimera – KBW
Well, I don’t want to get in trouble with Marcy, so onto my next one. All right, you – just talking back on some of the data mining people that you’ve hired, do you see yourself developing new products as you learn more about your customers?
Ed Garding
Yes.
Jackie Chimera – KBW
Anything that – just to get more color on that.
Ed Garding
Not to the extent that we’re – I’m sorry, I want to expand on that a little bit. New products, yes, but mostly they’ll be tied to what I would call traditional banking products.
Meaning, we are not looking to get into new product lines. We’re more looking into knowing what we do well and figure out how to do it even better, keep tweaking until it’s better, better, better for our customers.
Jackie Chimera – KBW
Okay. Do you see that more of an NII benefit or more of a Phi benefit [ph] as we go along?
Ed Garding
I’d say both.
Jackie Chimera – KBW
Okay, fair enough. And then just one quick last one, the 25 basis points that you’re looking towards burn that [ph] charge off next year, did those include expected recoveries in there as well?
Kevin Riley
Yes.
Ed Garding
Yes.
Jackie Chimera – KBW
And how does the recovery will look now, is it still pretty substantial, we could see continuation of that going forward to the next year or two?
Ed Garding
Yes, pretty substantial would be a good way to put it.
Jackie Chimera – KBW
Okay. That was all I had.
Thank you very much.
Ed Garding
Thank you, Jackie.
Operator
Thank you. And as there are no more questions at the present time, I would like to turn the call back over to management for any closing remarks.
Ed Garding
Thank you. I’ll just wrap up by saying, again, we’re pleased with our year.
And we’ve entered 2014 with renewed focus and energy going forward. I’d like to thank all the people across our company who helped us accomplish everything we did this year.
I’d also like to thank you shareholders and let you know that we’re continuing to work hard to deliver a high return to you. Thanks and good bye.
Operator
Thank you. The conference has now concluded.
Thank you for attending today’s presentation. You may now disconnect.
Have a nice day.