Good day and welcome to the First Interstate Bancsystem third quarter 2016 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, this event is being recorded. I would now like to turn the conference over to Kenzie Lawson. Please go ahead.

Thanks Kate. Good morning. Thank you for joining us for our third quarter earnings conference call. As we begin, I would 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 Form 10-K. Relevant factors that would 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 intend to correct or update any of the forward-looking statements made today. 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 will turn the call over to Kevin Riley. Kevin?

Thanks Kenzie and good morning and thanks to all of you for joining us on our call today. We very pleased with our strong performance this quarter. We reported earnings per share of $0.56 for the third quarter which included $1.2 million of expenses related to our acquisition of Flathead Bank. When you back out the acquisition expenses for this quarter and the legal settlement expense of last year's third quarter, we generated core earnings per share of $0.58 and $0.52, respectively. This represents a 11.5% increase over the third quarter of last year. the performance this quarter was a result of a number of things we have talked about on our past calls. Our organic loan growth and fee income initiatives drove year-over-year increase in our total revenues. Our focus on controlling expenses resulted in an improvement in our core efficiency ratio, which was 58.1% this quarter. Combined with stable asset quality and modest credit costs, we were able to drive a strong improvement in our core earnings per share as well as higher returns on assets and equity. Following a seasonally strong second quarter of loan production, our organic growth was lower in the third quarter at less than 1% quarter-over-quarter. Year-over-year, loan growth was almost 7%, with 5.2% being attributed to organic growth. We continue to believe will say in the mid single-digit range for organic growth for the full year. With generally healthy economic conditions throughout most of our footprint, we are seeing strength in our consumer lending areas. We had a very strong quarter in residential lending business, which reflects a positive trend we are seeing in our housing markets. These strong housing trends have driven growth in our residential construction portfolio, which increased $17 million or approximately 15% during the quarter on an organic…

Thank you Kevin. 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 2016. I will begin with our income statement and I want to start by noting a few unusual items that impacted our results this quarter. The largest item was the recovery of $1.8 million of previously charged-off interest. Most of this was related to the payoff of one large nonaccrual loan where we had a recovery of both principal and interest. This recovery was offset by a little noise in our noninterest expense, which included a $384,000 loss primarily related to the write-off of an investment we have made in a technology company and a $310,000 deduction from the donation of a building to a local nonprofit agency in one of our small rural town. On a net basis, these items had a positive impact of approximately $0.02 per share on our earnings this quarter. Now looking at specific line items. Net interest income increased $3 million on a linked quarter basis. $1.8 million was attributable to the recovery of charged off interest and the remainder was due to the growth in our loan portfolio and one additional accrual day. This was partially offset by a $300,000 decline in interest accretion on acquired loans. As you may recall, our noninterest income was positively impacted last quarter by a $3.8 million litigation recovery. Excluding this recovery, our noninterest income increased $373,000 from the prior quarter. The increase was driven by higher mortgage banking revenue as we continue to benefit from a strong mortgage pipeline as well as an increase in payment services revenues which we typically see during the second half of the year. Our total noninterest expense increased by $1 million…

Thanks Marcy. Nice job. I am going to wrap up with a few comments about the general economic conditions and our outlook. We are having a record-setting year of tourism at our national parks as the low gas prices seem to have been having a positive impact on visitations. Both Yellowstone and Glacier national parks are on pace to set attendance records, with Glacier up more than 20% over last year. The unemployment trends continue to be very positive in Montana and South Dakota, with South Dakota still having the lowest unemployment rate in the country at 2.9% for August. In Wyoming, where the weaknesses in oil and gas industry has had more of an impact, we have seen some more encouraging trends recently. The unemployment rate in Wyoming declined to 5.5% in August from 5.7% in July. In the last month, we have seen some recovery in prices in many parts of the agricultural market, although prices on livestock continued to be under pressure but as we have indicated before, our ag customers are very well seasoned and have very solid balance sheets that can withstand periodic weaknesses in commodity prices. So far this year, our organic loan growth has pretty much been right on the pace as we expected and we still expect to reach mid single-digits of loan growth for the full year. With this pace of growth and continued momentum in our fee generating businesses and the continued focus on expense control and a full quarter of earnings from the Flathead Bank acquisition, we should see a positive trend continuing in the fourth quarter. Since the Flathead Bank acquisition is behind us and our scalability initiatives are well underway, we will continue to look for other M&A opportunities that can provide strong strategic and economic benefits. Through the solid execution of our organic growth initiatives and continued accretive merger and acquisition transactions, we are optimistic about the opportunity to continue to create additional shareholder value going forward. So with that, we will open the call up for questions.

[Operator Instructions]. The first question comes from Jared Shaw of Wells Fargo Securities. Please go ahead.

Hi. Good morning.

Good morning Jared.

Just on your comments on the improving unemployment rates in Southern Wyoming, is that due to energy coming back at all? Or is that just sort of a repurpose of people finding other jobs outside of the energy space? Can you give us an update with what you are seeing out there in terms of the actual level of drilling and pumping and things like that?

I think it's more repurposed but there is a start there. Some drilling is starting to start all over again in those markets, through albeit kind of slow and slight but they are starting to have some more drilling happening in our energy areas.

And are you writing any new loans in the energy space? Or are you just dealing with you have right now?

We are not writing any new loans in the energy space.

Okay. Shifting a little bit to the expenses. With the move with the more down in salaries and wages from incentive comp, what's a good rate to use going forward? How much was due to lower incentive comp? And now that we have the new operations from Flathead in there, what's a good base to use --?

I guess somewhere in the range of around $61 million a quarter is probably a good rate.

Say that again, sorry?

About $61 million. $60.5 million to $61 million a quarter, I think is a good rate.

Okay.

Are we talking about total expenses, noninterest expense.

No. I am talking about looking more at the salaries and wages --

Okay.

So Jared, this quarter our incentive comp was right on what we expected in last quarter. It's a little higher. So incentive comp this quarter was about $1 million less than it was last quarter. As far as expenses, we have three payrolls set up for Flathead employees in the run rate this quarter and that's a $200,000 that we have in this quarter. So you take out over $600,000 or $700,000 a quarter that Flathead would add.

Okay. That's perfect.

Part of the reason that they remained a little bit down too, is last quarter we also had some separation pay in that number. And so basically the separation pay from last quarter was offset by the Flathead acquisition this quarter.

Okay. Great. And then finally just on the on the M&A front, I guess could you say, we have seen an increase in the number of conversations or people willing to start having conversations? Or has that been relatively stable?

I would say, it's relatively stable but there's a number of conversations are always been had.

Great. Thank you. That's it for me.

The next question comes from Jeff Rulis of D.A. Davidson. Please go ahead.

Thanks. Good morning.

Hi Jeff.

Marcy, on the margin, could you segment out if you got reported 3.58% and 3.42% core, what's the makeup of the addition from the interest accretion and interest recovery in the quarter in basis points?

So the interest accretion makes up -- the reduction in the interest accretion is about three basis points.

What was it the previous quarter? I guess I am just trying to get -- go ahead.

Jeff, let me get back to you with all the pieces in that. The impact from the total accretion and that recoveries of charged-off loans had a four basis point impact. And so if you back out the regular scheduled accretion, that would have been another three basis points lower. So does that help?

Yes. Just sequentially, looks like in total you had 16 basis points of benefit from both accretion interest and the recovery of interest. So I am just trying to figure out what is accretion and what is the interest recovery? Did you have interest recoveries in Q2?

Say that one more time?

Did you have interest recoveries in Q2?

Yes.

Yes.

Just a little over $100,000.

Yes.

Okay. So a little over $100,000 versus what I think you said

$1.8 million.

Got you. Thanks. And I guess Kevin on the loan growth you commented on how you expect to finish the year, but any early gauge on 2017? Is that shaping as again mid single-digit for the full year?

I would say that's it's mid single-digits. Again, loan growth is kind of uneven. Montana is probably the highest growth state, then comes in South Dakota and then comes in Wyoming. So you average it all out, I would say we are probably still looking mid single-digits for next year.

Okay. Then as we are projecting things, I guess one other question on the mortgage total revenue. As you budget into 2017, how do you expect that number to shakeout relative to what we have seen annualized for 2016 on just the mortgage component alone?

I would say, the housing market is pretty strong. So I would say it's going to be at or maybe a little bit lower but right around the same are we did this year.

Okay. Fair enough. Thank you.

The next question is from Matthew Clark of Piper Jaffray. Please go ahead.

Hi. I think I can help on the lat question. I think prepay has contributed nine basis point this quarter versus one basis point last and seven basis points of accretion this quarter versus nine last quarter using day count. I guess my question is really on, I am curios what the weighted average rate was on new production this quarter?

It was about 4.68%.

Okay. And your core margin down four basis point looks like it is because the core loan yield ex-prepaid and accretion was down about five basis points to 4.58% so the new production going still 10 basis point about that core loan yield. Just curious what your thoughts are on the core margin outlook here?

So we think over days it may down a couple of basis points but we don't anticipate any more than that.

And again, that pressure point with new business going on above the portfolio is what?

Say that again, Matt. What's your question exactly?

I am sorry. I am just curios what the pressure point is there with you thinking it may come down a couple of basis points, given that you are putting on new business above the portfolio yield on the core margin?

Well, you are always going to have the mix of -- we always get concerned deposits could continue to increase and our loan-to-deposit ratio could come down a little bit and that would have pressure on the margin. So we are just being conservative. I don't think it's really the pressure of assets. It's just a mix on the balance sheet that could have a little bit of an impact.

Okay. You have been seeing a favorable mix shift in assets with securities and the loans, it looks like, over the last few quarters. So that should help mitigate it, I would think.

Matt, the first part of the year we have less deposit growth. So we had that shift and then in the later part of the year we have our shifts reversed. So it takes some of the benefit away.

Got it. Okay. And then any share repurchase this quarter?

No.

Okay. That's it for me right now. Thanks.

The next question comes from Matthew Forgotson of Sandler O'Neill. Please go ahead.

Hi. Good morning.

Good morning Matt.

Just on the expense guidance. The $60 million to $61 million, is that base and then we layer in the incremental from Flathead? Or is that stabilized for Flathead?

That's stabilized with Flathead. Flathead didn't add too much of an expense base. We were able to pretty much absorb that with the efficiencies that we were achieving in the institution. So you are not going to see much of an increase from Flathead of any.

Got you. And then just in terms of your balance sheet position for rising rates? I know you have got some pretty nice lift in the first quarter of the year from the December rate hike but what's your current sensitivity, say, to another 25 basis points hike if that in fact comes to fruition?

It should benefit us like the last one.

Okay. And then just in terms of the $10 million uptick in special mention loans. I guess you attributed that to two specific credits in Wyoming. Can you just tell us a little bit more about those credits?

Steve?

Yes. This is Steve Yose, the Chief Credit Officer. One of the credits was directly energy-related as far as risk rating change. And then the other was related to, it was a C&I credit that is impacted just from the general economy there slowing down a little bit. The net decrease, if we wouldn't have had those increases in Wyoming would actually be lower. I think we had a $14 million increases in the oil and gas sectors. So our net decrease could have been less than $10 million. So it is really in the oil and gas sector with what we are seeing the impact on criticized. However our specific allocations have remained steady in the oil and gas portfolio.

Okay. And you said the first credit, that's direct. So that's collateralized by oil and gas? Or is it a borrower who services that industry?

One is direct oil and gas and the other one services. It's not an [indiscernible] services, it's one that's just in the economy and impacted by a slowdown in the economy.

Got you. Okay. And then just lastly, if you can please remind us, what's your current balance of unfunded oil and gas credits as it is today?

The unfunded is approximately $24 million.

Thank you very much.

The next question comes from Tim Coffey of FIG Partners. Please go ahead.

Thank you. Good morning everybody.

Good morning Tim.

Kevin, Marcy, you talked about bringing cash down to normalized level. What is that level? Because it seems that cash has always been a sizable portion, a relatively subtle portion of earnings assets.

We try to target to about $0.5 billion.

Okay.

It is a little higher that, but we try to target $0.5 billion.

Do you feel any pressure to stay above that level given that there are discussions about M&A ongoing right now?

No.

No.

All right. Well, thanks. The rest of my questions have been answered.

Okay.

Thanks Tim.

[Operator Instructions]. The next question comes from Jackie Boland of KBW. Please go ahead.

Hi. Good morning guys.

Good morning Jackie.

Good morning Jackie.

Looking at the mix of refi versus purchase in this quarter versus last quarter, the uptick in refi volume, was that due to higher refis or lower purchases?

Higher refis.

Is there anything unique going on or any sort of marketing efforts behind that? Or it just kind of the natural ebbs and flows that you are seeing in your market?

Natural ebbs and flows.

Okay. And as I look at that number, I guess when you think about volume, obviously 4q tends to be a little bit seasonally weaker. How has generation been so far in the quarter?

For the mortgage portfolio?

Yes.

Generally, we do see a slowdown in September, but we haven't seen that yet. So through the month of October, we continue to see a pretty strong stable pipeline.

Yes. The weather is holding up pretty well out here. So the loans just stays warm, people are out buying.

Okay. And then Kevin, this one might be a question for you. In light of a lot of the investment that you have been making in IT and obviously cost saves from the acquisition going to this as well, how do you manage to hold the expense line in light of some of the growth you may have had in some areas?

How do we mange the expense line?

I guess what I am asking is, are there other areas where you have been able to trend that we might not be seeing or perhaps haven't been discussed?

Yes. Well, what we did do is and I will be honest with you, we continue to rationalize our staffing levels in our branches. We continue to rationalize and we talked about some of the process improvements, rationalize the staffing levels in some of our operation in back room areas. So we are going through department-by-department and actually restructuring departments around what it takes to be scalable. So we are seeing some efficiencies as we go through that process.

And really, Jackie, even with the national attrition that we have, we just reevaluate at each point that someone retires or chooses to leave, do we need that position and do we need to refill that position.

Okay. So a lot of the staffing is happening through attrition.

Yes.

Okay. Thank you. That's good color. Thanks guys.

There are no additional questions at this time. This concludes our question-and-answer session. I would like to turn the conference back over to Kevin Riley for closing remarks.

As always, we welcome calls from our investors and analysts. Please reach out to us if you have any follow-up questions and thanks for tuning in today. Goodbye.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.