Hello everyone and welcome to the First Interstate BancSystem, Inc. Fourth Quarter Earnings Call. My name is Nadia, and I will be coordinating the call today. [Operator instructions] I will now hand over to your host, Lisa Slyter-Bray to begin. Lisa, please go ahead.

Thanks, Nadia. Good morning. Thank you for joining us for our fourth 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 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 most recent periodic reports filed with the SEC. Relevant factors that could cause actual results to differ materially from any forward-looking statements are included in the earnings release and in our SEC filings. The company does not undertake to update any of the forward-looking statements made today. A copy of our earnings release, which contains non-GAAP financial measures, is available on our website at fibk.com. Information regarding our use of the non-GAAP financial measures may be found in the body of the earnings release, and a reconciliation to their mostly directly comparable GAAP financial measures is included at the end of the earnings release for your reference. 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'll turn the call over to Kevin Riley. Kevin?

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 in an updated investor presentation that has additional disclosures that we believe would 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 off today by providing an overview of the major highlights of the quarter and then I'll turn the call over to Marcy to provide more details on our financials. Our fourth quarter performance capped off a very strong year for the company as we executed well on the integration of our merger with Great Western, realizing cost synergies we projected for the transaction while continuing to generate solid organic loan growth throughout our footprint. Specific to the fourth quarter, it was a bit noisy with a handful of clean-up items that should set the stage for strong 2023. While these items had a $0.07 impact on earnings per share in the quarter, we continued to execute well and saw continued positive trends in our loan growth, core margin expansion and asset quality. As a result, excluding selected items which we will walk you through, the company generated $0.89 of earnings per share. It is worth noting that this quarter included a $0.07 less contribution from purchase account accretion because of fewer early payoffs. We also added to our already robust allowance for credit losses despite continued improvement in asset quality and only two basis points of net charge offs in a quarter. As you can see on Slide 10 of the investor deck, our ACL coverage ratio has expanded meaningfully over the last two quarters. With this…

Thanks Kevin, and good morning, everyone. Just to make sure we're providing clarity, I'll start by summarizing the notable items that impacted our financial results in the fourth quarter. We had $3.9 million in merger related expense, $4.2 million of additional incentive compensation related to asset quality improvement, which Kevin mentioned, a $1.3 million additional litigation accrual, which has now been settled and a $400,000 reduction to the fair value of loans held for sale. In aggregate, these items had a $0.07 per share impact on our fourth quarter financial results. Additionally, the purchase planning accretion declined by $9.3 million from the prior quarter or $0.07 per share due to lower levels of early payoffs. Now, I'll move into the rest of our financial results, which unless otherwise noted, will be in comparison with the third quarter of 2022. Our fully tax equivalent net interest income decreased by $8.2 million, which was entirely due to a lower impact from purchase account accretion as I just noted. Excluding purchase accounting impacts, net interest income increased by $1.4 million. Our reported net interest margin decreased 10 basis points from the prior quarter to 3.61%. Again, excluding purchase accounting accretion, our adjusted net interest margin increased by two basis points to 3.49% from the prior quarter, driven by a favorable shift in our earning asset mix and an increase yields on loans, investments and cash. This offset the 36 basis point increase we saw in our cost of funds. As you have likely already noted with strong loan growth and deposit outflows, we increased our use of short term borrowings in the quarter, which ended a little over $2.3 billion. As noted on Page 14 of the investor debt, cash flows off the securities portfolio should mostly fund loan growth from here, but…

Thanks, Marcy. Now I'll wrap up with a few comments on our outlook and priorities for 2023. 2023 is shaping up to be a more challenging year with more uncertainty around the macroeconomic environment and the path of future interest rates, which is complicated by the quantitative tightening. While we are mindful of these circumstances, our franchise has never been stronger and our balance sheet is in great shape with strong levels of capital, liquidity and reserves. We believe we are well positioned to effectively manage through a wide range of economic scenarios and continue to play offense. With a loan deposit ratio in the low seventies and strong credit quality, our fundamentals are strong. Our core deposit base will remain a focus this year, which as you all know is core to the strength of our franchise. We also will continue to focus on scalability, automating manual processes, enhancing our product sets and right sizing our departments while maintaining talent. As the company has grown over the past decade, we have not deviated from our conservative approach to loan underwriting and risk management. 2023 will be no different. As Marcy and I have alluded to, the piece of net interest income growth is likely to moderate when compared to the past few quarters. As such, we are focused on what we can control. We will remain highly selective in loan growth we are booking, which should yield mid-single digit growth in 2023 while moderating from the double-digit pace we have delivered in recent quarters. We believe this level of activity is prudent for what we see in our markets today. Going forward, we intend to have greater focus on C&I. To support this effort, we plan to launch an ABL business later this year and we will redouble our…

[Operator instructions] And our first question today comes from Jared Shaw of Wells Fargo. Jared, please go ahead. Your line is open.

Just I guess a couple questions. Maybe first on funding, it definitely seems like there's been a shift in the outlook on funding in sort of your comments last quarter on the expectation for beta being smaller or lower. How should we be thinking about funding from here and do you think that we get back to DDA, when do DDA balances recover or should we expect that they continue to outflow and are the FHLB borrowings more temporary until we see that reversal? Or do you think we sit on higher FHLB borrowings for a while?

Well, I think the FHLB will be here for a while, Jared, but hopefully during 2023, we see a shift, as they slowly go out and reduce over time. That's what we expect to see. So yes.

But what about data from here on the remaining deposits before you see that peeking out?

So Jared at this point, we're -- we've said all along that our last cycle beta was 27%. We're still below that right now. We expect it to kind of still stay in that range. It may bump up a little as we increase deposit costs, but nothing material at this point.

Okay. and then on the asset yields, the loan yields were a little weaker than we were looking for. I hear your comments on the funding of loans that were previously committed. Where should we be thinking the loan yields trend from here and maybe starting to see any ability for spreads?

So new loan yields are coming on in the high five. We'll still be hampered by those construction loans that are funding at lower rates, which will be below kind of our core loan yield.

Okay. All right. I guess maybe just shifting to expenses, when you look at the expense base that we should be growing off of, I guess that includes some of the stuff we're calling out as non-recurring this quarter. So is that one, the right way to be looking at it? And then two, when you look at that incentive comp that happened this quarter what are the incentive targets for next year that we should be thinking about, it says triggers for potential incentive payments through '23?

Well, the incentive comp is going pretty much back to the normal incentive comp plan that we've had in our proxy for years. It's not going to change, but this was just a unique item so that the board and management would focus really on asset quality because going into the Great Western acquisition, that was probably the biggest question on everybody's mind. So that was just one additional aspect. There's no real other changes with incentive comp with regards to what we've, our normal practices have been.

And, Jared as far as the 6.47%, if you -- we talked all year about the fourth quarter kind of base run rate to be around $160 million or $161 million. If you take that quarterly rent rate times somewhere between 3% and 4% inflation plus the FDIC insurance adjustment, you get to the same place. So again, we were just trying to simplify that by using the 6.47% expense base, with between 3% and 4% inflation and that includes the FDIC insurance. So you get the same place either way.

Okay. Thanks. And then just finally for me, maybe you have thoughts on capital management here. You brought back stock earlier in the year at higher prices. How do you feel about capital ratios here and potential for buybacks?

Well, Jared, as you know, you've been around us for a long time. We have a number of arrows in our quiver that we use. We look at how to effectively use our capital. That's one of them. And we always are analyzing our capital levels and what we might do going forward. So that's all I can pretty much say on that.

And the next question -- the next question goes to Chris McGratty of KBW. Chris, please go ahead. Your line is open. Q - Chris McGratty Oh, great. Thanks for the question. I guess Kevin or Marcy, the math you gave us on the growth in the margin, maps very similarly to the earnings that you gave when the merger was announced, $3.65 or so, plus or minus. But we've had much higher rates and so it feels like there's been a notable change. Obviously the margin's getting harder for everyone, but I guess what am I missing is that changed so much in the earnings power

Deposit outflows in 2022?

And then, we had, as you recall, we reduce our NSF and od, fees. Q - Chris McGratty And then the FDIC insurance is an additional up expense that we didn't anticipate. So…

Okay. Yeah, it feels like the, I got the NNSF and FDIC. It feels like it's more the NII in the deposits that are absolutely deposit, mainly deposits ground? Q - Chris McGratty Yep. I get it. Kevin, in terms of next step for maybe following on Jared's question, what are the thoughts on doing another deal? Obviously the balance sheet's in great shape. You got a ton of capital. Deals are -- good deals get struck when really no one wants to do them, but what are the thoughts on doing a deal?

I get the next question as well, Tom. Maybe cause I do deals. The thing is, Chris, I'll be honest with you. Right now, I think when you -- when you look at banks, people are worried about the AOCI where that's going to go. People are worried about credit, where that might go. So, what we're focused mainly on right now is preparing this institution to be scalable. We're making all the operations and everything and get prepared if one comes about. But we're not going to rush in anything. We're, more focused on driving positive operating leverage within the institution. But if something comes up that's, that we believe, as you always know, we have a, a priority list of banks that we believe will increase the franchise value of this company. And we're kind of sticking to that list, and if something comes along, we'll look at it. But, as you probably know, there's a lot of banks out there for sale, but we're not interested in all the ones that are out there for sale. So we're just, we're going to stick to our knitting and, and make sure this bank is, is, is performing at the ultimate level of performance. And then if something comes up that's, that we believe will increase the franchise value, we'll go to it. But nothing is right currently on the horizon.

And the next question goes to Adam Butler of Piper Sandler.

This is Adam on for Matthew Clark. Just to go back to Jared's question on the deposit balances. Overall, they came down this linked quarter do you expect a similar decrease in the first quarter or maybe slower? Curious about your comments on that.

Well, seasonally, if you go back, I mean, as you know, the pandemic through all sorts of seasonal trends out of whack. So if you go back earlier a week before the pandemic seasonally, we see a little bit of decline in the first quarter. And then we start seeing deposits start picking up in the second quarter and faster in the third. That's kind of the seasonal direction. So that's kind of what we're expecting this year because I think what we have seen as the excess deposits go out in 2022, that's slowing down. And then go back to our data in a sense where a lot of our deposits, we increased our deposit pricing a while back with the index money market account and CD rates. So a lot of our customers have been already migrated over to some of these products and are satisfied. So we're just expecting maybe a little bit of seasonal decline in the first quarter, but I feel like things will start moving in the right direction once we start going further into the year.

And then moving over to credit. I know you mentioned that the uptick in criticized here isn't a concern, but I was wondering if you could provide some additional commentary on kind of where that came from? Was it several credits geography or sectors?

Okay. We're going to have our Chief Credit Officer, Michael Lugli kind of address that question, Michael?

Yes. So overall, the portfolio, there was no overall decline in the portfolio. In fact, it did fairly well. It was really driven by 3 relatively large credits that totaled a little over $98 million, which drove down our criticized performance that increased that by a corresponding $38 million. So you can't net those three credits out. But if you look at the overall portfolio, the trend was actually positive in criticized.

And the next question goes to Andrew Terrell of Stephens.

Hey, Kevin, and Marcy. This is Zack on for Andrew. Just some housekeeping questions here. Do you have the monthly December NIM available?

Yes. Monthly NIM was in the low-3.40s ex-purchase accounting.

And then do you happen to also have the spot on the interest-bearing deposits at 12/31?

Yes, it was in the high-70s.

And the next question goes to Todd Milliken of RBC Wealth Management.

I appreciate it. Today's results were clearly a sizable operational miss on earnings reflected in the stock price today. Prior calls that I've listened to you guys have been very optimistic about the operations. It seems to me that there's a notable change in that viewpoint. Can you address why investors should have the same kind of confidence in you based on this quarter's results as they should have maybe previously?

Well, that's pretty -- I would say that the operating performance is strong. It might not be -- if you go back and look at the earnings projections as people under thought what we were going to perform earlier in 2022 than they might believe they overestimated what we're going to end up. The performance of the company really hasn't changed much. The only thing that I would say that's different is that we had some deposit outflows in the fourth quarter that we didn't anticipate, but the fundamentals of the operation of this company have not changed at all, and quite frankly, get stronger and stronger month by month.

Well, I get that, but this is clearly an operational miss by a significant amount. And I guess I'm a little bit taken back by why that's surprising?

It's not an operational mix by much by us. So that's just your perspective.

And the next question goes to Bruce Zessar of Advisory Research.

I know that Glacier reports at the same time as you. But in looking at cost of funds, your cost of funds widened compared to theirs. I mean you guys were at 28 basis points in the third quarter. They were 15. So there was a 13 bps gap. You're 64 in the fourth quarter, they're 35. So now it's a 29 bps gap. And I'm just wondering if you've had a chance to look at how they performed on that side, and you could explain maybe what the differences are and why yours gapped out more than theirs?

Well, have you seen their deposit performance this quarter?

I haven't.

So the thing is this, the gap out because we're trying to take care of our customers and retain deposits by paying up and putting people into money market accounts and CDs. And we started that back in the third quarter and taking care of our customers. The fact of the matter is, if you look at our performance, our margin has expanded. Their margin barely expanded over the second and third quarter. This quarter, it went down. I think the only net up in the core and the margin a little over six basis points for me. It's a whole different ballgame. We're making a lot more money on the rate increases, and we can afford and still have margin expansion by paying our depositors and trying to retain that business. So it's just a different model.

But then why isn't it dropping to the bottom line? They were a lot closer on earnings. All right.

To whose earnings. That's -- these are analysts' expectations.

I'm aware of that, but people are going off of the guidance that you provide on a quarterly basis, and there was clearly a difference in expectations versus what happened. And that's what's driving my question. You just said you made a lot of money, and I'm just asking if that's the case, why didn't it fall to the bottom line? Why wouldn't it have been better to sell some securities, let that part of the portfolio run off, let the loan-to-deposit ratio go up instead of taking on expensive borrowings?

Well, if you -- I'm not going to get how you run a balance sheet because let somebody else talk about that. That's not an effective approach. So we will take the next question please.

Yes, our next question go to Jeff Rulis of D.A. Davidson.

This is Andrew on for Jeff today. Just a couple of quick questions on loan growth. You guys mentioned -- you guys noted earlier, higher production in new markets, and you're seeing opportunities to grow new loans. I was just wondering what -- where you guys are seeing the most growth and the most opportunities by state or by region?

The interesting thing, quite frankly, is pretty even across our whole footprint. There wasn't really any one market that outperformed another. So it's pretty level across our whole footprint.

And then another one kind of following up on that. Are you guys winning new relationships in those new markets? Or are they just good markets in general?

Well, I think we're winning relationships because we're growing the assets. So we have net customer account increases. So we are winning customers and it's, again, pretty much even across our footprint.

[Operator Instructions] And we have a follow-up question from Chris McGratty of KBW.

The comment in the deck about being neutral to rates with the balance sheet today, it would feel like that's perhaps on the conservative side of the Fed cuts. So the Fed cuts, the pressure on the funding would seemingly ease. I guess, number one, you kind of agree with that? And then two, can you just remind me, Marcy, the beta -- the full beta assumption that's in the '23 guide?

We haven't provided the full beta assumption in the '23 guide, Chris, but your first assumption would be accurate.

Yes, Chris, what we're trying to do is as we said in the past, many calls is that we were rotating our balance sheet to be less asset sensitive and to prepare for the downturn. And I think we struck some good derivatives or interest rate swap that Marcy mentioned earlier, to hedge that portfolio at a variable rate loans on the way down in a higher rate environment. As you can see, the yield curve has dropped off dramatically. So we're trying to protect the balance sheet on the way down.

And we have another follow-up from Andrew Terrell of Stephen.

Just a quick question. Thinking about the mid-single-digit loan growth guidance. I guess, can you help me out with some color on just what's the incremental margin on a dollar of loan growth is for you today. Just understanding that the funding cost could be a little bit higher. But just what is the incremental spread that you're already seeing the big growth would look like relative to the 360 or so margin in the fourth quarter?

Andrew, it's kind of a mixed bag. So new loan growth, again, is going on in the high-fives. What's going to dampen the overall yield is the construction book that's funding closer to kind of our core loan yield today, which is high-fours. So it's kind of be that mix of funding that kind of impacts of inflow.

Do you have the dollar amount of that construction book that is funding in that kind of territory. I'm just trying to quantify that impact.

We don't. That's not something.

Number disclosing.

And then the last one for me, just more housekeeping just the tax rate, what's driving the step-up in tax rate?

It has to do with some accounting around LIHTC. So it's coming up a little bit.

And our next question goes to Tim Coffey of Janney Montgomery Scott LLC.

I apologize if I missed it, but Marcy, but what is the cash flow coming out from securities portfolio?

$70 million to $80 million a month.

And Kevin, as we look out across this year, what is your expectation for absolute growth in the balance sheet in terms of total assets?

Well, it all depends really on deposit growth. So what we estimated and what I think Marcy alluded to is that earning assets should be flat for the year. And what we're kind of modeling is that the investment portfolio will run down and loans will go up. So earning assets on the balance sheet will kind of remain flat, but we'll get better yields on our earning assets in total.

And our next question to you, Adam Butler of Piper Sandler.

Just going into the interest-bearing deposit data. Do you guys have any guidance for 2023 where that is headed?

It's John. I think as Marcy said in her prepared remarks, at this point, the beta assumptions versus the prior cycle, we wouldn't be changing those assumptions. But we haven't specifically disclosed in the NII guidance that you gave, what those interest-bearing deposit cost assumptions would be.

We have no further questions. I'll now hand back to Kevin Riley for any closing 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. Thank you for tuning in today, and goodbye.

Thank you. This now concludes today's call. Thank you so much for joining. You may now disconnect your lines.