Good day, and welcome to the First Interstate BancSystem's Second Quarter Earnings Conference Call. All participants will be in listen-only mode. . After today’s presentation, there will be an opportunity to ask questions. . Please note today's event is being recorded. I'd now like to hand the conference over to Lisa Slyter-Bray. Please go ahead, ma'am.

Thanks, Rocco. Good morning. Thank you for joining us for our Second Quarter Earnings Conference Call. As we begin, please note that the information provided during this call will contain forward-looking statements. Actual results or outcomes may differ materially from those expressed by those statements. I'd like to direct all listeners 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 earnings release as well as the risk factors identified in the annual report, and our more recent periodic reports filed with the SEC.

Thanks, Lisa. Good morning, and thanks again to all of you for joining us on our call today. Again, this quarter, along with our earnings release, we have published an updated investor presentation that has some additional disclosures that we believe will be helpful. The presentation can be accessed on our Investor Relations website, and if you have not downloaded a copy yet I encourage you to do so. I'm going to start today by providing an overview of the major highlights for the quarter, and then I'll turn the call over to Marcy so she can provide more details on our financials. During the second quarter, we generated net income of $42.5 million or $0.69 per diluted shares while delivering everything we discussed last quarter. Excluding PPP loans, we generated upper-single digit annualized loan growth, higher levels of net interest income and fee income on a run rate basis, well-controlled expenses and excellent credit metrics. We saw an acceleration of positive trends we experienced early in the year, driven by healthy economic activity throughout our markets. This resulted in yet another quarter of strong deposit inflows, which grew by 12.4% annualized in the quarter. Non-interest bearing deposits alone grew $413 million or 33% on an annualized basis. We continue to utilize these strong deposit inflows to grow earning assets, both in loans and investment securities, which produced an expected increase in our net interest income excluding the impact of PPP fees. Across our footprint we have been able to effectively capitalize on high -- higher loan demand we are now seeing and grew our total loan balances, excluding PPP at an annualized rate of approximately 9%, which is consistent with the outlook we provided last quarter. Notably, we are seeing balanced contributions to growth across almost all of our portfolios and markets as our clients continue to look for attractive opportunities to invest into this robust economic environment in the states we serve. Our Western markets continue to produce our strongest growth rates, but we are now seeing real improvement in our Eastern markets as well. Encouragingly, we saw our commercial portfolio, excluding PPP loans increase at an annualized rate of approximately 3%, which is the first quarter of substantial growth we have experienced in this portfolio since the pandemic started. This growth came despite line utilization remaining relatively unchanged, and still well below historic norms.

Thanks, Kevin, and good morning, everyone. As I walk through our financial results, unless otherwise noted, all of the prior period comparisons will be with the first quarter of 2021, and I'll begin with our income statement.

Thanks, Marcy. Nice job. I'll wrap up with a few comments about our outlook. So far the year has unfolded pretty much as we expected, if not a little bit more favorable particularly in terms of loan growth. As we look at the second half of the year, we expect a continuation of many positive trends. Businesses in our markets are performing well. In particular in light of the strong tour season, they are generating strong cash flow and growing their deposit balances, which gives us the opportunity to continue to grow earning assets and to generate higher net interest income. We are seeing good loan growth opportunities in almost all of our markets, and we feel good if not better about the outlook for loan growth than we did 3 months ago. Real estate-related lending continues to see strong -- the strongest demand but commercial loan demand is starting to pick up as well. Excluding PPP loans, we think our full year loan growth will exceed our original expectations with less growth from our -- in the second half of the year coming from our residential real estate portfolio. In terms of fee income, as our guidance would suggest, we expect to have a good second half of the year. Residential mortgage demand remains strong, and we were getting back to selling more of our production, and we expect to see a lift in our mortgage banking revenue. Meanwhile, payment services and wealth management continues to deliver strong results. Expenses remain well controlled, which should result in a nice improvement in our efficiency ratio in the second half of the year, and credit should continue to be very strong. Collectively, we believe these trends should position us well to see solid earnings growth and noble -- a notable increase in pre-provision net revenue in the back half of the year. And with the foundation of the company being extremely strong from a capital, liquidity and credit perspective, we remain well positioned to execute on any attractive M&A transaction that we believe can further enhance the value of our franchise.

. Today's first question comes from Jared Shaw at Wells Fargo Securities.

Maybe starting with -- on the loan outlook side. With mortgages here you're going to retain less, sell more, should we be thinking about residential mortgages staying flat as a percentage of the total portfolio from here or more from a dollar balance? And then when you look at the overall mortgage market expectation, I guess just maybe comment on the strength of the purchase market and inventory and things like that in your market.

Well, we -- on a dollar sense, the balances should remain relatively flat for the rest half -- for the rest of the year. With regards to the actual volume of purchase stuff, I mean, inventories are low but as the house comes on the market it is sold and the purchase volume actually is increasing as the refinance volume is going down. So it's pretty robust, Jared.

Okay. And then, Marcy, maybe can you just comment on what the expectation is for sort of the pace of PPP fee at this point going forward?

You bet. And so, we have about $26.5 million in deferred fees at this point with about $1.1 million remaining from the 2020 originations. So that's going to come into income before the end of the year. The balance of it, I would guess between now and the end of the year, 60%. Yes, 50% to 60%. I think that's reasonable to expect that to come in, in addition to the normal amortization.

Okay. Great. Thanks. And then finally, maybe, Kevin, just the -- have you changed any expectations around what the deposit duration could be? I know a lot of people are -- were focusing on the strength of -- the growth and the -- really low cost that everyone has been able to generate on deposits. But what's your expectation for duration as rates start to move? I know you're clearly keeping the asset side really short duration, do you think that we've seen a change in what could be sort of the traditional understanding of deposit duration?

Well -- yes, it's a great question, Jared. I wish I had a crystal ball to tell me exactly what's going to happen with deposits. Right now our expectation, I would say, is that deposits, we're in a deposit-growing season right now. And so we're expecting those deposits to continue to grow. And I think some of the growth and we looked in it, it's interesting. We grew about 3,100 new deposit relationships during the quarter. And then that -- those new deposit ratios brought us about $110 million. So I don't know. I think deposits are -- from this point are going to continue to grow. I'm not sure exactly when that growth will slow down. But right now, we're in our traditional seasonal deposit growth season.

And our next question today comes from Jeff Rulis with D.A. Davidson.

Marcy, on your guide of NII to continue to increase in the second half, I guess that sort of begs the question on the two components of that, margin and earning asset balance, is the confidence more on you think you can keep earning asset balances up or growing and margin flat? I just wanted to kind of understand the components of that.

Yes. And so if you look at what we expect for loan and deposit growth, we would expect the second quarter, the NIM to be near the bottom excluding PPP impacts with only a little bit of run rate impact as a result of the investments we made late in the second quarter. But we do believe we're going to see a nice lift in our net interest income going into the second half of the year. Again because earning asset balances are going to be up and that's going to drive net interest income growth.

All bets are off with regards to net interest margin because if deposits continue to be robust, growth that we're seeing is still going to continue to put pressure on our net interest margin. But net interest income we feel very strong that will increase throughout the rest of the year ex-PPP.

Got it. Okay. So it sounds like more of a confidence on the earning asset balance then margin is going to do what it's going to do but -- okay. Fair enough.

That's correct.

That's correct.

Okay. The -- wanted to talk about the -- just the decline in non-performers if there was anything specific to those credits or if those were pandemic related or what was kind of cleaning up in the portfolio there?

Yes. We'll have our Chief Credit Officer answer that question. Mike?

Yes. So this is Mike Lugli. The decline really was a result of payoffs and a large charge-off of $2.2 million associated with one loan. So that really kind of drove that number down. Charge-offs themselves growth were relatively flat and recoveries were -- continue to be very robust and strong.

And our next question today comes from Jackie Bohlen with KBW.

I wanted to start with the Mountain division because I know the West has been outpacing it and I feel like that's usually our discussion. But wanted -- you sounded more optimistic on the Mountain division and then I saw the article you were referencing about Billings, so I just wanted to see how you were thinking about growth and what it was last quarter?

Well, first of all, good positive growth is better than what we've seen for a period of time. So the West has been really holding us up, so it's really nice to see real positive growth. And it's kind of -- it's really through -- Montana is doing really well. And the interesting thing is Bozeman used to be a hot market but it's now spreading throughout Missoula and Helena and Billings and all the different cities. So that growth is not only which we continue to see and always saw growth in, say, the Bozeman area, it's now spreading throughout like Montana. And even in Wyoming we're seeing some growth for the first time. South Dakota has been always kind of strong but it's even stronger now. So that's kind of what we're talking about. But we used to see a draw in some markets we're actually contracting, so the growth was harder to offset but it's -- we don't see any real contraction of any of the markets who were all kind of growing.

Yes. I think last year, Jackie, we talked a lot about how we were exiting credits in the Mountain portfolio that we didn't feel were good credits to carry on our balance sheet. And so we just don't have that headwind this year. We feel like we have a pretty clean book. We don't have the headwind of exiting some of those credits that we've exited the last -- actually couple of years in the Mountain division.

Okay. So when I think about the interplay of the West and the Mountain and just the growth optimism, you obviously had a great quarter for growth, might see stronger growth than you even anticipated later in the year it sounds like, is that more a reflection of favorable trends in the Mountain division or is it favorable all across the board meaning the West is growing faster than you would have expected as well?

I would say favorable across the board.

Yes.

And then in terms of the C&I growth outside PPP, that was great to see. Is that new customer related or is there something else at play there? You mentioned line utilization was fairly flat.

New customer related.

Okay. And then just one last one and I'll step back. When I think about -- and I know that this is more an existential question. When I think about deposits, and I understand what's going on with strong customers who are bringing deposits into the bank, I guess what in your mind do you think it will take for line utilization to come up from where it's at given the trends that you're seeing with maybe customers are using some of their deposits that they're coming in as quickly as they're using them?

Yes. Sometimes you want line utilization and sometimes you don't because some line utilization, they don't -- can't pay it back. But I don't know. I think they're flushed with cash right now, so we're not really anticipating line utilization to pick up too fast. We'd like to see it pick up but I think that the latest customers are flushed with cash. But some of the line utilization, though is in construction lending, so we're going to see some of that increase as we move throughout the rest of the year.

Yes. And, Jackie, I don't have the exact numbers in front of me but we did look at kind of what our clients' average balances trends were from 2019 into the current environment, and they've gone up substantially. So I agree with what Kevin said. It's just that folks have a lot of cash on hand right now and -- so they're not feeling a need to borrow.

And our next question comes from Matthew Clark with Piper Sandler.

Maybe first one just on -- I know it's not that significant, but the $1 million of unusual expenses this quarter what do they relate to and where did that show up in the P&L?

Yes. So about half of that amount, Matt, was in salaries and wages and then the balance was split evenly between benefits and other expenses.

Okay. Okay. And then just on the improvement in criticized loans, I know you -- Kevin, you've been working hard at getting those numbers down since you arrived and they've come down more meaningfully this quarter. I guess what changed this quarter, I guess how much of that was upgrades versus moving credits out of the bank and so forth?

I'm going to have our Chief Credit Officer to again answer that question. Go ahead, Michael.

Yes. So you saw in the reduction quarter-over-quarter about $13.8 million was reduction in balances either line utilization coming down or just regular amortization. Also in our Ag book where you saw a fair amount come down, that was just from the strong year that they had in 2020. It was an exceptional year for those folks. There was about -- of the $37 million, about $6 million was upgrades, and then the balance of around $18 million was payoffs.

Okay. Got it. And then just on the reserve continues to migrate lower. I guess, can you give us your updated thoughts on where that ratio could bottom? Is day 1 still where you think it will eventually shake out or do you feel like based on the current mix and better macro factors, you could fall below that?

At this point, just getting back to the day 1 at around 1.2 or maybe a few basis points lower than that, I think that -- I think it will get to that point over the next year or so and then we'll kind of see where it goes from there. A lot could change in the year as we know.

Yes. Okay. And then any material shift in your M&A conversations in the last -- since we last spoke in the last few weeks?

I knew I would not get off the phone answering some question around M&A, but we continue to be very selective on what we're going to do. So I mean, there's a lot of banks out there looking for partners but we're going to be picky. And if and when we do announce a transaction, you can rest assured, it will be a good transaction for our shareholders, a good franchise builder and go forward. So we're being patient, which is not normally my forte but I think at this time in the consolidation thing we have to do the right deal in order for us to be a consolidator way out into the future.

And our next question comes from Andrew Terrell with Stephens.

So I hear you on the residential mortgage expectations, but just trying to maybe ring fence that with some of the deposit commentary, I guess if deposit growth continues coming at just such a strong pace and above expectations, would that potentially increase the appetite into retaining more resi mortgage in the back half of the year or does it make more sense just to put cash to work in securities just so you can better manage the overall kind of duration?

Yes, absolutely the second comment. I think putting it into the investment portfolio where we can manage duration like you just stated, that would be our focus in the second half of the year.

Okay. Got it. And then maybe just the in-migration trends across your markets have clearly been awesome as you've noted and picked up over the past year or so, I know that drives kind of home purchases and everything near term, but have you seen those migration trends begin to impact new business formation and commercial loan demand yet or is that something that you think carries kind of a longer tail?

Well, I think we're seeing some right now but I think it's a longer tail. I think it's going to continue to pick up as people believe these are markets that they should invest in because of the economic growth. So that's going to continue to build as the years go by.

Okay. Maybe one last one for me, Kevin, since we last spoke multiples kind of across the group have come in a decent amount, can you just remind us how much you currently have outstanding under a buyback authorization, and then any update on the appetite for repurchases?

I don't know what to...

It's about 400,000 shares remaining under -- well, actually $1.9 million. It’s $1.9 million under the current authorized buyback, $1.9 million.

And, Andrew, as we always have stated we're really diligent on the earn back of tangible book value dilution, so we're very cautious of when we buy back our stocks so that we don't dilute tangible book and have a long earn back timeline. So we continue to monitor that. When there's a good time to do it we will, and if it's not, we won't. So we -- that's just the principles that we have here.

Yes. And I think we feel really good about our organic growth opportunities and potential M&A opportunities. And so we probably choose to use our capital to do that first.

. Today's next question comes from Tim Coffey at Janney.

Kevin and Marcy, I appreciate your comments on margin and I think you're spot on there. So the -- I guess the next derivative of that question is the growth that we saw in net interest income this quarter, core I think it was around 2.4%. Is that repeatable?

Yes.

Is it low?

It could -- just pencil in that area and I think you'll be good.

Right. That's all I understand. I think it was a raw condition to talk about margin when we should be really talking about spread income at this point. And then if you look at your deposits -- deposit accounts that received PPP funds, has there been a material change in those balances in the last year?

Yes. We've seen our deposit balances increase over the last year. And I don't have the numbers in front of me, but we have seen a pretty substantial increase in deposit balance, the carrying balance in accounts.

Okay. So the PPP money is still sitting there.

Yes. So, Tim, what I think what happened is that they threw a lot of money into some of our markets. And some of these businesses, they were still operating. They were still making money. They were still paying their employees, but they received excess funds. So I think a lot of it just was excess for them. It wasn't like they really needed the money to survive and they had to utilize those funds to pay their employees, I think a lot of these. We didn't shut down as hard as some of the other markets across the country. So a lot of these employers benefited from it and I think they're just holding on to that excess liquidity.

Well, which is also why we're not seeing line utilization go up. So.

Okay. Well, then it's really good to see that you put the money to work in the investment portfolio and committed to that. And then just one last thing for me. I think Billings is a great town and totally deserving of that recognition. So I'll step back there.

Thanks, Tim.

It was a bad picture to Wall Street though. They had Wells Fargo's picture there instead of us. This is our headquarters.

Thank you, and ladies and gentlemen, this concludes the question-and-answer session. I'd like to turn it back over to the management team for any final remarks.

I want to thank everybody for their questions, and 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. Good bye.

Thank you, sir. This concludes today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines, and have a wonderful day.